What Buyer's Want to Know

M&A prospecters are as active now as ever in compliance and professional services markets. If you don’t ask yourself these questions, a buyer will:

1.1 Can you list your sales and operating profit for 3-5 years back, current year to budget, and at least 1 year ahead of the current budget? Can you cross check sales by service line back and forwards? Do you know the relative profitability of each major service type?

1.2 Can you state your overall profit at gross profit, operating profit, normalised operating profit (ie adjusted for owner benefits, R&D etc), profit before interest tax depreciation and amortisation (ebitda), and post tax profit? For each of the above 5-7 years?

1.3 Can you explain in the accounts any years where sales didn’t grow or even dropped? Can you restate previous years on a comparable basis if business lines have been discontinued? Some 20:20 hindsight is allowable and best done by you – if you launched a service/product that you later pulled and it hurt the numbers - show both as it was and as it could have been.

1.4 Can you state your revenue recognition policy clearly, as well as quantify its impact on the relationship between profits and cash? In any business with long term client contracts (1year +) anything other than deferring client revenue evenly over the period of the contract is only going to cause problems.

1.5 Are you happy that your finance staff are qualified enough, supported by auditors and working on software which is up to the job? Discipline is key. Management accounting should be on rails with monthly headlines for all senior management and quarterly reviews of major issues. It’s finance’ job to provide cross checks and balances – list where they have to, and why.

1.6 Have you got your operational benchmarks at your fingertips? Can you say what your sales per employee ratio is? How about average salaries and payroll as a percentage of sales? What renewal rates do you stand on for contracts, ie stated as a % of clients (volume) and as a % of client value overall? Typical obsessions about WIP and gross margins are usually not enough – WIP should be minimised/invoiced quicker - and everyone has their own definitions of gross margins that make comparisons impossible.

1.7 Benchmarks – by the time you have over 30 staff and/or over £2m in sales you should be able to achieve15-20% profitability consistently. If not – you are either over engineering somewhere – or possibly just investing heavily in growth and client acquisition. If the latter – when doe s the burn period end and how quickly will payback come.

1.8 Only contracted clients are worth money – no matter what the bragging rights are for big glory deals – one off contracts are not a business. If you can point to contracts for every client and analyses of how the contracts mature, renew and change/cross sell – then and only then do the higher valuation multiples kick in. Collections of contracts can have some value, but usually the same as WIP – x40%-60% at best or arguably around x3 on profits.

1.9 In essence can you write on the back of an envelope now (a) the value of contracted business you had last year, (b) the business you had that you lost or discontinued, (c) the business you up-sold, and (d) the new business you acquired over the year?

1.10 Finally – how crucial are you to the business? Tight financially run teams can still be undermined by the top dog stepping down (you don’t even have to leave – just taking your foot off the gas can do it). If you are serious about building your team and the company’s value – one of the best things you can do is prove that your line management have experience and ability. If they’ve been able to hoover up a few small businesses themselves or have a track record in major tenders and product development – it significantly reduces risk to the buyer (and keeps them a little bit more honest).

Good buyers don’t shop when they’re hungry – so they’ll take the time to weigh up their chosen partners. There are a couple of good VCs active in the market currently, not to mention most of the usual trade players staying alert. The credit crunch is not going to hurt compliance driven markets – it will have weeded out the hungry feeders that made up the boom last year – but there are many more left. The point is these guys know their onions and both sides should be better prepared.