Viewing your distribution company through the same lens as a potential buyer will help your business attract more buyers and receive higher valuations in a big way. Before putting your distribution company on the market, you need to distinguish what makes your business unique. Along with addressing standard due diligence items like corporate documents and audited financial statements, you will be required to identify the characteristics that make your business valuable.
Buyers seek strong and growing companies with good cash flow. Buyers want to know that they can develop and advance a company to the next level. As a seller, you should focus on the items that will galvanize potential buyers and increase your company’s value.
Beyond your company’s financial success, there are a variety of factors that will make your business more attractive to potential buyers. First, you must have strong vendor relationships. Distribution companies face a very competitive environment, with saturated supply chains creating competition for business. Key vendors are one of the most important qualities that will separate you from the pack.
As you begin to weigh exit strategies, conduct a careful analysis of your most significant vendors. If you see any gaps, fill them to broaden your catalog and create value. A comprehensive vendor line can result in premium valuation multiples and a well-deserved payout for the years spent nurturing these vital relationships.
Demonstrate your role as a critical partner to the supplier and how you add value to the vendor relationship. Strong relationships with vendors are developed by effectively marketing and selling the company‘s products to the customer while working within the parameters mandated by the manufacturer. Position yourself as a valuable partner to the vendor, and your company will be rewarded before and after a sale.
Besides vendors, buyers will also focus on customer relationships. Reliable customers with stable growth outlooks are an essential piece of the M&A puzzle. The desire to acquire a specific customer base or gain access to an industry motivates many successful deals. Before selling, demonstrate the value that your customers represent to potential buyers and how these relationships can grow going forward.
Companies should understand who the ultimate customer is and customer churn rates. Long-term relationships with consistently growing buying patterns will be much more valuable than customers who purchase once or sporadically. Some distributors may also sell to other distributors who do not have access to a vendor or product line. While you may not want to say no to potential revenue, these sales are less valuable to potential buyers since the relationships are transactional. In the years leading up to a sale, work to minimize revenue from other distributors and other transactional buyers while broadening your base of long-term customers.
Further, it will be essential to demonstrate how your company can retain and grow the customer base. In the event your business has high customer concentrations, you will need to show the depth of the relationships and communicate how and perhaps why certain concentrations are necessary. If possible, try to minimize customer concentration before selling.
While relationships are important, having data and metrics for each customer will help you manage and know your customers better. Some examples of important metrics include:
- Order volume/frequency
- Average order size
- Delivery efficiency/accuracy
By gathering these metrics from your warehouse/inventory management system and familiarizing yourself with the data, you will be prepared to serve your customers better and be in good shape when the time comes to sell.
To avoid commoditization, which ultimately results in margin compression, many distributors actively seek to create value by offering value-added services to distinguish themselves from the competition. Acquirers are willing to pay a premium for value-added services because they reduce the risk that customers will leave and increase margins. Sellers should work to clearly define their value proposition and understand what sets them apart from their competition.
Value added services are a great way to compete with larger distributors as many times they are unable to offer a customized approach. There are several key areas where distributors can not only add differentiating services but also increase revenues through related services, including:
- Product kitting
- Vendor Managed Inventory (VMI)
- Same day or next day delivery
- Quality Inspection
- Training and education
- Light fabrication
Warehouse/Inventory Management Systems
As goods move through supply chains at a faster pace than ever before, comprehensive inventory management systems are a vital consideration for buyers. Systems that efficiently manage throughput and assess problems will increase profits and improve value. These systems are primarily responsible for analyzing and optimizing key metrics, including:
- Inventory turnover
- Average days to sell
- Obsolete inventory carrying costs
- Write-off costs
- Order fulfillment rates
- Number of back orders
- Total demand by product
Potential buyers will carefully examine these metrics during due diligence. Strong historical performance in these areas, coupled with a proven commitment to investing in technology that provides a systematic way to maintain or improve performance, indicates an attractive opportunity.
When considering whether to invest in a warehouse management system, keep in mind that investing today will pay off tomorrow as technology continues to change how the supply chain is managed. Understanding inventory and order fulfillment is critical for any distributor. Without these details, companies can invest in too much or too little inventory. Both lead to poor results for the company. By understanding the operations of your company, business owners will limit unnecessary investments, improve processes and increase profitability. Below is a partial list of items that a potential buyer will want to understand.
- Stocking of received goods
- Order selection
- Cycle counts/inventory audits
- Any movement of inventory
The data collected by these systems are essential for your business today and certainly will be an asset during a sale process.
Sales - Channels and Peoples
Industries are constantly evolving due to ever-changing technology, and the distribution industry is no exception. Distribution channels are shrinking as consumers tap into the benefits of Amazon and online distributors. Capitalize on this trend and capture as much online revenue as you can. However, don’t lose sight of traditional distribution channels. Make sure that these established accounts are well serviced and continue to grow. Focus on how you are distinguishing your company from the competition. What value-added capabilities are you offering that will help win a customer’s business? The answer to this question will be critical to any buyer.
Invest in your employees and retain key salespeople. Investing in a strong sales force will increase customer conversions and keep customer acquisition costs in check. Make sure these individuals are subject to an employment agreement. Getting these agreements in place before a sale ensures the employees will continue to create value for the organization post-sale. During the transaction process, it is important to demonstrate that there is no concentration with one salesperson. The diversity of your sales effort will impact value.
Ability to Grow
Prior to engaging in the sale process, assess your business, and examine the ability of the company to grow and expand within its current structure. Ensure not only that the existing facilities have available capacity to grow but also that any vendor contracts or agreements in place do not have restricted sales territories, if possible. Issues such as this should be identified early on rather than during due diligence phase when it is likely to be discovered by a potential buyer. Most importantly, you need to be able to communicate your plan for growth. Key questions to ask yourself include:
- What new end-markets should my company address?
- What can we do to expand our online presence and increase revenue?
- Are there additional salespeople we should hire?
- Are there new territories we should enter?
- Will a capital investment in new systems or warehouse space help increase revenue?
Take time to capitalize on growth opportunities before going to market. This is your opportunity to craft and articulate ways to unlock value from the already established assets and relationships of your company.
Clear Understanding of Margins
Paramount to any distribution industry transaction garnering high multiples is having a track record of strong margins. The ability to eliminate non-essential costs out of the business while streamlining offerings for customers is an attractive financial feature in the distribution industry.
Increasing volume with critical vendors and achieving breakpoints will improve margins. Most significant is providing value-added services that allow the company to charge a premium and generate additional profit.
Business owners and management teams must understand gross and EBITDA margins and continually review the impact business decisions have on these key measures. Be prepared to speak about fluctuations, as potential buyers scrutinize these metrics during a transaction. Margins that continually outperform industry averages will always win the attention of serious buyers. These measures of profitability are especially relevant for business owners considering a sale a few years out. Take the time to implement margin increasing initiatives that improve your company’s financial performance.
Timing is Key
Obtaining the maximum value for your business is just as much about timing as it is about addressing the issues outlined above. The company you have built is dependent on the overall health of the economy as well as the demand for the goods you distribute. Valuations for distribution companies are suppressed when the end market is on a downward trend. However, exploring diversification and implementing value-added services can insulate against cyclicality. To ensure you obtain the maximum value from your business, spend time addressing the items listed above. A little bit of homework and preparation can bring about positive value changes for your distribution company.
Prepare for Success
Selling your business is a life-changing decision that must be made with care. It’s never too early to start preparing for your succession. Some of our most successful transitions started with conversations five years before the actual sale. We’re happy to discuss your business and provide value-adding strategies that you can implement now that will increase your value later. Contact us today to get more information about how we can help.
To supplement this article, please refer to our Guide to Selling Your Business.
PCE has a team of credentialed investment bankers and valuation experts available to help you. Whatever you wish to accomplish, our team can define, analyze and present solutions that allow you to take the next step.