How to identify a good business?
November 01, 2024
by a searcher from Cornell University - SC Johnson College of Business in New York, NY, USA
New to search scene
What do you guys look for in a good target?
November 01, 2024
by a searcher from Cornell University - SC Johnson College of Business in New York, NY, USA
New to search scene
What do you guys look for in a good target?
from Bentley College in Miami, FL, USA
-- Strong and Predictable Cash Flow: Stable, recurring revenue is a hallmark of a good target. Look for businesses with consistent cash flows over the past three to five years. This predictability makes planning and financing easier and reduces your risk.
-- Niche Market Position with Barriers to Entry: A good business often operates in a niche market where it has a competitive advantage. This might be a strong brand, proprietary product, or loyal customer base that’s hard for competitors to replicate. High barriers to entry mean it's less likely competitors will erode the business's profitability.
-- Diverse and Loyal Customer Base: Customer concentration is a risk. A business where no single customer makes up more than 10-15% of revenue is ideal. Customer loyalty or repeat purchases are also great indicators of a sustainable business.
-- Growth Potential: Look for businesses with opportunities to grow without requiring significant new capital. This could include expanding into new markets, offering new products/services, upgrading technology, or improving marketing. Even better if the growth potential can be leveraged with the current operational setup.
-- Solid Management and Processes: Acquiring a business with strong management and established processes can significantly ease your transition as an owner. It also signals operational stability and reduces reliance on the seller for day-to-day activities.
-- Financial Health and Clean Records: A good business has clean financial records with no surprises. This makes due diligence more straightforward and can increase your confidence in the stability of its earnings. Quality of earnings reports, if available, are a helpful tool here.
-- Alignment with Your Goals and Skills: Choose a business that aligns with your skills, values, and interests. You'll be more effective if you’re passionate about the business or if it matches your expertise.
Lastly, remember that every acquisition has risks and no target is perfect. It’s about finding the right fit based on your specific risk tolerance, financial resources, and goals.
in Vancouver, BC, Canada
- A net income margin of >20% (this is really rare in my experience)
- A gross margin of >40%
- The rate of growth for Retained Earnings (ideally >8%)
- The rate of growth for cash
- CAPEX to net income ratio (ideally <25%)
- SG&A to Gross Profit ratio (ideally <30%)
These financial metrics (and others) are a way to quantify competitive advantage, moat, and barrier to entry.
In my time with PE, they found NRR (Net Revenue Retention) to be the most important metric. This is basically how much revenue is retained from existing customers YoY. An NRR of 1 means the company will maintain flat revenue without acquiring any NEW customers. If you layer on new logo acquisition, then you have a recipe for rapid growth.