SMBs trade at lower multiples than larger ones because they are FRAGILE. Common issues include:
— Tim Ludwig (@tsludwig) February 1, 2020
– customer / vendor concentration
– “key man” risk / little redundancy in roles
– harder to access capital markets
– less $ to invest in R&D, key hires, systems
– poor / bad data
These are all frequent diligence areas during an acquisition. Other ways to mitigate inherent risks are:
— Tim Ludwig (@tsludwig) February 1, 2020
– recurring / repeating revenues
– limited / no debt
– ability to source superior exec talent through equity, other incentives
– better governance / investors(network, skills)
Information asymmetry is so hard to crack too. So many critical red flags come out late in the process when speaking directly to employees without owners/sr mgmt present.
— Hamid (@HamidRizvi) February 1, 2020
Same for small investment properties:
— Brad Johnson (@bradleyjohnson2) February 2, 2020
– surprise capital expenses harder to withstand
– can’t support competent staff
– travel / admin costs too high as a percentage of revenue
– fewer exit options
– fewer non-recourse debt options
– even if all goes right you make little
$$$
Agree. SMBs are designed around the needs of the owner. Little management depth. Usually not suited for fast scaling. Not prepared for sudden shocks. Culture is a mirror of the owner personality. All this should be reflected on the price.
— CarlosMeza (@carlosjosemeza1) February 2, 2020
And yet they require investment in these areas to grow or reach the next stage. So again this needs to be accounted for. Often turnover increases but profits stay the same as they seek the next growth phase
— Tom Billings (@TBillings7) February 2, 2020
Or, more common in my experience, profits fall for a while, which is a major reason why many owners choose not to reinvest back into the business. They frequently adapt their lifestyle to company cash flow and can’t/won’t stomach any reduction.
— Tim Ludwig (@tsludwig) February 2, 2020
🎯 Small businesses don’t stay small on purpose.
— Brent Beshore (@BrentBeshore) February 1, 2020
Fragility explains 9/10th of price. Going to zero is not uncommon.
It’s also the biggest opportunity. Big rewards for mitigating risk, adding structure, and releasing the lids inhibiting growth. https://t.co/Xm2bF2P06m