Construction & the M&A Market (under $25 million revenues)

This is the 1^st in a series of short articles and updates about the construction and housing markets that we will be writing. We have two goals: 1/ provide a summary of industry happenings and 2/ describe the impact these changes have had/are having on business owners who are selling or “exiting” their businesses. We would love to hear your thoughts, comments or questions. We want this to be both light and informative, and we appreciate your feedback. Thanks.

Let’s get started. Our top-10 comments and observations are as follows:

1. The housing market is (still) “stuck.” New starts for 2011 are 44% below the 2000 levels;
2. 1^st Qtr 2011 sales are flat, and housing inventory, expressed in number of months on hand, has increased;
3. Regional/small builders face fierce competition from national builders;
4. Homeowners have less cash to spend on home improvements and expect contractors to “do the same work for less money;”
5. Contractors saw signs of recovery during the 1^st Qtr of 2011, but are concerned with some leading indicators showing the momentum could fade by the 4^th Qtr;
6. Some optimism that new regulations for “green” applications could drive a large part of the recovery;
7. Acquisition Advisors Outlook reported that business owners selling their businesses during 2008-2010 got caught in a “sluggish” market (some of the owners we talked to described it differently…). Deal activity in 2009 was less than 2008's results with some uptick in activity noted during the 4^th Qtr of 2009;
8. For the 6 months ranging from 11/10 – 4/11, stats published by MergerNetwork indicated that, based on the number of active buyers and sellers looking for deals, we could be returning to a more stable buy/sell market;
9. A survey of construction owners reported that 40% believed there would be an increase in buy/sell activity in 2010 and 2011; and
10. Buyers with capital (i.e., “financial buyers”) are aggressively hunting for acquisition opportunities.

Harvest Time: The construction industry is still “quirky,” and “quirky” translates into market uncertainty. It’s just like any other market: When there is market stability, good things happen. There are some very encouraging signs…let’s see where they go. Stay tuned …

Growing Your Business in Difficult Times - Sales and Marketing

The two most effective growth strategies we are seeing at this time are increasing sales and marketing budgets and acquiring weaker competitors. Often the two go hand-in-hand since the owner of the smaller company often becomes a salesperson for the acquirer. This month I will touch on sales and marketing. Next month, acquisitions.

Increasing Sales and Marketing - getting an early jump on sales and marketing in order to gain market share is a proven way to grow your business as the economy restarts. At the bottom of a recession businesses and consumers stop buying anything except essentials. Even essentials are often cut back.

For instance an industrial equipment servicing firm we work with has seen repair orders slow down. They are finding that often the client will have two or three machines that need repairs in addition to the one they have been called to fix. As demand picks up all of these machines will have to be serviced and then eventually replaced.

Getting in front of these prospects early (but not too early) will lead to more sales and sales growth. Remember in all your sales efforts that the initial need is usually created because of pain. Without pain your biggest competitor, “doing nothing” is hard to overcome. Once there is pain you must focus on how your product or service provides the most value to overcome the pain and then contribute to the future of the organization. That is not the same as lowest price. If it was lowest price everyone would have Walmart watches on their wrists for $4.99 or less.

If you are in sales (or are an owner doing sales) and have never taken a sales course, do so quickly. There is a defined process to find pain, qualify, create value, and generate profitable sales.

One other thought. Recently I attended a seminar on fast growing consulting firms. The data all supported that narrow / deep niche players expanded quicker and had higher profits than generalists. While it is logical that being a generalist and not letting anything out of the net seems like the fastest way to grow data does not support that.

As an owner/manager the most important thing you can do in the sales arena is provide training and manage the process. Managing the process means understanding and tracking your pipeline. For instance if you sell consulting and a typical sales cycle is 3 months, what activities should be happening at 1 month and 2 months to indicate that a pipeline is being built.

How can you apply statistics to track your salespeople’s progress? Perhaps you generally have a meeting to perform a needs analysis a week after the introductory phone call. How many of those meetings occurred last week? By tracking statistics and then managing your marketing and sales staff you can manage your sales progress and know what to expect. More importantly you can reduce spending or change course if the current programs are not producing.

Increasing your sales and marketing efforts is a very important way to grow.

How To Buy A Distressed Contracting Business

Because of the current downturn tremendous opportunities exist to purchase distressed contracting and construction supply businesses. But this strategy is high risk, high reward. How can you reduce risk and succeed? Three Key Principals are detailed below along with a case study to pull it all together.

1. Cash - It’s Only A Deal If You Can Make Great Money

In setting up a negotiation and purchase price strategy you should look at three values, the going concern value of the target business as-is, the potential value of the target to other suitors, and the value with synergies to you. Pursue transactions with a high synergistic value to you and a low current market price. In assessing other suitors, look around carefully, because of the current difficulty with financing, you may not have any competition. If that is the case, negotiate accordingly.

Yet, it does not really matter how cheaply you are obtaining the business and its assets if you cannot redeploy them in order to make a significant return on your investment. Make sure you have fully evaluated the financial impact and the cash flow requirements arising from your acquisition. Often the biggest risk in these transactions is the amount of time you will need to carry the business with negative cash flow. The immediate risk is running out of cash and ending up as a distressed seller yourself. The long term risk is that you lose so much from operations that your total cost of ownership including loses is too high to recover when the economy, revenues, and profits return.

2. Knowledge - Know the Industry

You must be able to dissect the company being sold and understand why the company is underperforming and how you will rectify the situation. Are there synergies from combining operations? Will the customers transfer? Is it a poorly managed business with a great location? Is it a case of too much leverage? How and why will you do better?

Be honest with yourself. For instance, if real value will come through getting the target business out of an expensive long term lease because you already have facilities in the local market, make sure you really can terminate the lease.

3. Vision - Negotiate A Complete Deal

Negotiating the best price is important but you must understand how this business integrates into your existing business. How will the larger entity work? Will the cultures mesh? How does two plus two equal five?

You must also be sure that all liens can be released and tailing liabilities will not surprise you. (Don’t ask the guys who purchased a major hardware supplier about buying back returned goods, lots of returned goods.) Is the intellectual property transferable to you? Work fast but be thorough.

Case Study

A typical distressed business transaction revolves around an asset rich business which is underperforming often because of the economic cycle more than mismanagement.

For instance a construction equipment rental business is having difficulty maintaining bank lines. The Company has $5 million of equipment when purchased new which would have a “normal” market value of $2.5 million used. You are presented with the opportunity to buy the business and equipment for $1 million because this branch has never performed to expectations. Of course the business is losing about $250,000 a year at the time of the proposal.

In this case the buyer is an out of town competitor that would like to get into the business. Cash is tight for the buyer but they have some remaining credit lines with larger banks. The buyer assumes existing loans for most of the purchase price and hopes the economy turns in order to bring down the losses of current cash flow. The buyer has estimated three years to cash flow break-even and then significant profits for five to seven years. This scenario while not guaranteed makes sense for this buyer and the buyer proceeds.

It takes cash, knowledge, vision, a plan, and execution. When properly implemented, buying a distressed business can provide significant returns and is an excellent way to grow your contracting or supply business.

First Published in the March Issue of the Building Congress Bulletin, Vol. 10 No. 3 http://bcebaltimore.org/ for direct link to article (page 5) http://bcebaltimore.org/Portals/0/March%202010-Revised%20Bulletin.pdf

About the Author: Gregory Caruso, CPA, Attorney, Certified Valuation Analyst, is a Principal at Harvest Associates in Baltimore, Maryland. Greg is an expert in privately held business valuation, succession planning, and mergers and acquisitions with over 20 years of experience. He is author of the book 11 Secrets to Selling Your Business. www.Harvestbusiness.com 410-507-5441

What's Really Going On Poll

Welcome to our 1st Semi-Annual Harvest Associates ‘What’s Really Going On” survey.

There is a lot in the news recently about all the incentives and programs designed to benefit small business owners. So, like Ed Koch, the famous mayor of New York who always wanted to know “how am I doing”… we thought we would take an informal poll to see what was really going on.

Our goal is real simple…get serious, honest, unbiased input from those who are in the “hot seat”. We wanted the comments to be meaningful so we contacted people in different businesses and different markets. By the way, we aren’t concerned about political correctness and putting lipstick on anything. We just want to know “how are you doing?”

The question we asked was: What is the biggest challenge you and / or your clients have been dealing with this past year? What have you done to solve it?

We were going to do a list of the Top-10 items but really the responses really came down to four items.

Problem 1: Cash flow is very tight.

Problem 2: Making New Sales is Difficult

Problem 3: Planning and Strategy is very tricky right now.

The solutions we are hearing can be summarized as, manage cash, prospect and sell like big dogs, cautiously keep your eyes out for opportunity.

Details and representative comments follow.

Problem and Solution 1: Cash flow is very tight. There is no easy answer. The solution has been to carefully manage cash flow by focusing on payables, receivables, and reducing all non-essential expenses and costs.

Representative Comments:

Larry Ely, Professional Graphics Printing Co, Sales Manager
“…the biggest challenge will be controlling labor costs, managing cash flow and growing the business back to previous sales volume in a down market. The solutions are managing overtime costs, hawking our accounts receivable and working on creative marketing”

Michael Fisher, SITE Resources, Principal
“…our accounts receivable is a problem we haven’t solved but we’re doing a better job with timely billing and follow up…competition is causing us to lower fees and in some cases we just decide not to chase certain clients for work. We WILL NOT play the low-ball game and then go back to clients for extra billing. In some cases we have had to limit the scope of work we can do for a given fee. Lack of funding has always been a problem but much more so today. Clients just don’t have the available funds to pay for their “wish list”. More often, we are providing supplemental services in the middle of a job just to get the job done even though we don’t get paid for them”


Shiela Cox, Performance Horizons
“...The biggest challenge I’ve seen is maintaining profits in the face of declining revenues due to reduced demand for products/services coupled with downward price pressure.”

The best solution I’ve seen is:
**careful analysis of profitability by product, service, channel, and customer
**limiting or eliminating low profitable activities
**expanding or creating high profitable activities



Problem 2: Making new sales is difficult. Solutions include increasing marketing (although not always to success), providing extra services, and looking carefully at product mix and value of offerings.

Representative Comments:

Kay Rosburg, Dever Designs, VP
“…the biggest challenge has been the loss of clients and projects that were put on hold and replacing the work. No question, revenue stability is our challenge. Our solution…have not come up with one yet! Have spent WAAAY more on marketing in 2009 but didn’t get the results I hoped for. The reduced revenue has forced us to delay the capital expenditures and our salaries have been substantially reduced…across the board”

Dean D’Camera, D’Camera Group, Principal
“…we have spent the year transforming our approach and our process. ..we are bringing greater measurable value to our clients designed to manage total cost of risk for the mid-to-large size commercial insurance clients. A recent insurance study (RIMS) indicated that the total cost of risk insurance premiums represent 59% of the total cost. Our focus now is to work with clients to address 100% of the risk. We actually have trademarked our process."

Paula Worthing, PLDA Interiors, LEED, AP, Principal
“…the biggest challenge is too maintain our income…the economy is having a huge effect on our client’s ability to get the funds and lease procurements which of course filter down to us. We are trying to meet the challenge with a forward focus and creative marketing. We also are doing things to strength our in-house capabilities. Still, we need some luck!!

Carol Coughlin, President, Bottom Line Growth Strategies
“…Projecting revenue has been especially difficult for companies that have consulting projects. It’s hard to tell whether the ups and downs are cyclical or a pattern related to the overall economy. The past year was definitely unlike prior periods. For 2010, revenue projection will continue to be a big challenge. Some companies have hired business development people but are finding they don’t work for intangible service income like IT projects.”


Problem 3: Planning and Strategy is very tricky right now. While volumes have been written about this the response we heard in our words is, deal with it, do your best, and look for opportunities.

Representative Comments:

Jeff Whipple CPA, Mattos Pro Finishes, VP Finance
“…In two words the hardest thing we are dealing with is Risk Assessment - is it a time to be cautious or a time to be a risk taker to position yourself for the future? How do you sit down and really strategize the business especially when it comes down to longer term investments such as marketing programs or expansion?

We think that you have to be as consistent as you can be. If you were aggressive you still have to be somewhat aggressive; you can't do an about face and become ultra cautious since that would confuse both the market place and the employees.”


Michael Mercurio, Esq, Chair, Business and Real Estate, Offit Kurman
“…For my business (and for my clients), the biggest challenge is convincing clients that the world is not ending. This market place, though challenging, is replete with opportunities for business that are willing to take calculated risks….... grab market share, eliminate competitors, add effective product offerings, increase client loyalty as well as bootstrap into other opportunities. The best solution is for owners to listen to fellow entrepreneurial business owners who can provide real life wisdom as to what works….”

In summary - we are hearing loud and clear right now that it is important to manage cash, prospect and sell like big dogs, and to keep your eyes out for opportunity.

Watch for our mid-year poll in June. We are projecting a better market and perhaps even concerns about hiring again (we are optimists you know!). If you would like to participate, don’t wait for us to call…please contact us. We are small business junkies and would love to talk with you.

Thanks to those who responded to our 1st poll. Thanks a million.

http://www.harvestbusiness.com/

Saving Taxes When Selling Your Business

When transferring your business to your children taxes often become a big costly issue. And who wants to pay high taxes?

One possible solution (there are quite a few if you plan in advance) you can use is to gift some of the business over to your children.

If you gift less than 50% of the business your children will not have control of the business. When your stock is not "control" stock it is less valuable than control stock. This fact is reflected in something called a minority ownership discount or lack of control discount.

For this reason the non-control stock will have less value than the control stock. For instance Company A is worth $1,000 and there are 100 shares outstanding. If you give 10 shares the pro-rata value would be $100. Yet the "discounted" value of those shares is likely to be $70 or $60 instead of $100. This fact in proper business situations can greatly reduce your gift and estate taxes.

This fact has been used in succession and estate planning for quite some time. Unfortunately it is one of the areas that the Obama administration has set out to change. But, the good news is that it appears that discounting will continue next year. After that - who knows - but these provisions will clearly be subject to change.

What this means is if you need to gift assets to your children and grandchildren as part of your succession or estate plan the best time to do it may be now.

We can help you either put together a complete team to assess your situation or take care of the valuation to support your decision. Contact me if you have questions or would like to start. For more info visit Harvest Associates website.