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So Should You Buy Your Business Or Build It From Scratch?

Author : blackhawk partners

Submitted : 2010-09-24 19:32:33    Word Count : 1020    Popularity:   97

Tags:   Financial Advisory in Saudi Arabia, Venture Capital, Private Equity in Saudi Arabia, Physical commodities trading, Real estate investor, Investment Banking, Gold Bullion Trading, Oil Trading, Consolidation, Rollups, Emerging markets, LBO in Saudi, Merger

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The Basic Benefits and Costs
On the surface, expansion through acquisition makes a lot of sense if you’re looking to enter a new product line or a new market. Setting up shop in a new location and building from scratch is costly and time consuming. Finding acceptance for a new product can be a slog. Take a look at it this way. The time that you want to buy a business is if you really want to get into a market fast. That your go-to-market timing is of paramount importance. What you get is an instant infrastructure, customer base, cash flow, inventory, physical plant, distribution network and supply chain – all the vital ingredients for a functioning business. But remember that you’re inheriting a process. Someone else’s process. And that process may not be what you want. By buying instead of building, you’re sacrificing the ability to tailor the business to all of your specifications. Building can allow you to move at your own pace, pull back if circumstances change quickly on you and guard your business culture. However, the pace of execution could cause you to miss a market opportunity.

Know Your Own Business First
Whether you’re embarking on a buy or a build strategy, you want to make sure that your existing business is on solid ground. In particular, you want to have real outstanding and stable management team already assembled and one with enough depth that it can focus its attention on an acquisition or a build-out without harming the business you already have. You also have to determine if you even have the account management team to support the growth. The success of your current business is based on your ability to offer your existing clients top-notch service. Any growth strategy could put that at risk, and render any possible benefits moot. Then there’s the matter of your financial infrastructure. How strong are your financial controls? How well do you measure your cash? If you’re getting ready to grow, there’s going to be a lot of stress on your working capital and your ability to measure your financial health. Those three things – the strength of your team, infrastructure to support new customers, and solid financial controls and metrics – are essential to any building strategy, as well as an acquisition strategy. But if you’re seriously looking at pursuing acquisitions, there is another critical element and that is experience at deal-making. In an ideal world, your whole top management team would have some expertise in closing and integrating an acquisition, but that’s seldom the case. Hopefully someone in your top ranks has solid experience in the area. But failing that, you’re going to have to bring in a corporate development person or top notch advisors, which can be a considerable cost depending on how long the integration takes. Such advisors carry their own risks if their goals aren’t aligned with yours. One way to match up objectives is to offer a success fee, where the advisor is paid for results achieved over the first few years and not just for closing a deal though if acquisitions aren’t already a core capability of yours, expect the advisory fees to mount.

Developing a Business Growth Strategy
There are many ways to guide a business through a period of expansion, including geographic growth, growth through acquisition, and franchising. Turning a small business into a big one is never easy. The statistics are grim. Research suggests that only one-tenth of 1 percent of companies will ever reach $250 million in annual revenue. An even more microscopic group, just 0.036 percent, will reach $1 billion in annual sales. In other words, most businesses start small and stay there.

Know Your Industry and Market
Now that you’ve sized up your staff's strengths and weaknesses, it’s time to assess your industry and market. If you’re growing organically, you need to figure out how much growth your market can actually support.
Usually in industries that are very fast growing, you don’t see acquisitions for a while. The reason is that the companies have a much better return on their capital by just plowing it back into their growth versus buying other businesses. Conversely, if your market is mature, you need to figure out how much return you can reasonably expect from your investment. The simple truth is that it’s hard to create private equity-like returns in industries growing 5 to 10 percent. By expanding in your existing market, you might risk cannibalizing your existing business, so you need to closely examine where you fit in with the marketplace.

By applying these guiding principles, you can focus your acquisition strategy in today's challenging markets. Remember that depressed acquisition multiples create opportunities for stronger companies to consolidate share and eliminate competitors. Although less plentiful than before, capital for financing acquisitions is still available for well-run companies. Weigh All the Different Costs When expanding, the costs keep coming. And a common problem when expanding a business is the underestimation of costs. Keep a close tab of all the building costs, equipment costs, tax costs, inventory costs, changes to accounts receivables, and the addition of support staff as things you need to carefully weigh when building your operations. As for acquisitions, most will require some outside help, such as lawyers, attorneys, and other investment bankers and advisors. That translates to a bounty of fees. And the more complex the transaction is, the larger those fees will grow. Then there are other obvious integration costs such as those for IT and accounting systems. The success of the acquisition will rest on your ability to realize all the cost savings and revenue opportunities that looked so appealing on paper. Though your acquisition might provide you with vast economies of scale—extra office space and savings on rent, procurement and insurance, and more—you may also end up with new employees that were promised extra vacation, bonuses, and promotions by the previous management.

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Ziad K. Abdelnour is a dealmaker, trader and financier with over 20 year experience in merchant banking, private equity, alternative investments and physical commodities trading.Ziad Abdelnour

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