How do you project EBIDTA growth for your acquisition?
August 29, 2023
by a searcher from Columbia University - Columbia Business School in New York, NY, USA
Hi searchers & co.,
I'm trying to improve how I project changes in my acquisition targets. As it stands, I haven't felt confident that I can spot real EBIDTA growth opportunities. This limits me to focusing mainly on a company's historical performance and its EBIDTA multiple. On the other hand, I've yet to reach post-LOI due diligence; my hunch is that better understanding this process will increase my confidence in submitting LOIs and shopping deals around with investors.
A few prompting questions:
1. How have you come up with ideas or bets for improving company operations? How dependent are these proposals on your personal experience?
2. When do you begin to solidify these ideas and their specific impact on the business? Do they matter pre-LOI? How sure are you of your proposals before close (e.g., while securing equity investment)? And how much are these plans expected to change post-LOI?
from Instituto Tecnológico y de Estudios Superiores de Monterrey (ITESM) in Monterrey, Nuevo Leon, Mexico
Increase top line
- What is the current churn level? Why are customers churning? Anything you can do?
- How much growth comes from new customers? What is being done to attract them? Can you do something better? (advertise, implement referral programs, etc.)
- When was the last time prices were raised? What happened? How much where they raised by? Why have prices not been adjusted since?
Reduce costs
- Depending on the business you may be able to adjust product specifications with limited impact in customer perception (e.g., cheaper primary or secondary packaging, cheaper transportation suppliers even if they have longer lead times, etc.)
- Lower personnel costs (would be wary if it is a smaller tight-knit company and growth seems to be better suited to reach the target returns of a search fund)
- Identify and cut unprofitable customers ("fire" the client or reduce resource allocation)
- Can you automate back office functions or production?
Reduce working capital
- Extend days payable (Is the company highly relevant for any supplier? Are they paying cash for everything? Do similar products/services have different days payable?)
- Reduce days receivable (Do all clients have the same terms? If not, do they get the same price? Can you identify outliers with long cash conversion cycles and address them?)
- Reduce inventory (Is there outdated inventory? Are there inventory writeoffs? How much is due to unpredictable demand vs lack of planning?)
I'd say the questions you need to answer are similar to those you'd try to answer when you're doing DD but in this case you don't want the business to be "too" good, if that makes sense.
from The University of Michigan in Miami, FL, USA
Build out several cases.
For base case, you typically don’t assume any particular improvements other than revenue growth at an overall industry rate and some basic Opex leverage. May keep EBITDA margin the same throughout the period and add “growth” Opex, like marketing expense (revenue growth is rarely free).
In a downside case, you project how revenue and EBITDA need to behave for you to break even. Hopefully, that’s well above the current operating levels and you have a lot of safety margin.
Upside case is where you pull additional growth levers. This would depend on the type of specific business you’re evaluating. I would ask for advice from people who operated similar business. Case studies might also help.
One thing to watch out is to not be too aggressive on both revenue growth and expense cutting. Revenue growth requires investment - whether it is headcount, tech tools, warehouse expansion, etc. Calculate various ratios (e.g., Capex/Revenue) and ensure there is some consistency throughout the projection period.
Good luck!