Question about revenue quality

May 14, 2025

by a searcher from Northwestern University in Chicago, IL, USA

Hi, I'm an operator-turned-searcher, and I am pretty naive about the revenue side of things. I'm looking into an industry that makes parts for Tier 1 or Tier 2 auto suppliers. The way they get their projects is that they bid on them, and then they win a contract to make the parts as long as they are useful. The parts are only useful for a few years, and then they get replaced by new, similar parts that need to get re-bid on. I have mechanical engineering experience designing and costing these types of parts, so I'm confident I can learn bidding best practices quickly. But I've been told contractual revenue is good, but bidding is bad, and I'm trying to think of how to value the revenue quality of this business. Investors and finance people of Searchfunder, what do y'all think about this industry? Is the revenue quality to low for me to lean into it?

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Reply by an investor
from McGill University in San Diego, CA, USA

You're asking one of the most important and nuanced questions a searcher can ask: how to evaluate revenue quality in a bid-based, project-driven business. When investors or advisors say, “contractual revenue is good, but bidding is bad,” what they probably mean is: Contractual revenue implies stability, visibility, and high revenue quality (recurring, hard to lose) & Bid-based revenue implies uncertainty, customer churn risk, and lower revenue durability (you could lose the next contract). But not all bid-based businesses are bad. The key is understanding: How repeatable, predictable, and sticky is the bidding process? Questions I would be asking... 1. How many bids are they submitting per year, what's the win rate, and are they winning based on price or quality? 2. Is there a clear incumbency bias (e.g. “you lose it only if you screw it up”)? 3. Do customers award multi-year parts programs with known volume forecasts and cost protections? 4. What % of revenue is at risk in the next 12–24 months? If 80% of revenue will roll off in 18 months, that’s a red flag. But if 60% of revenue is locked in for another 3+ years with rebid timing staggered, that’s much healthier. 5. What % of revenue comes from the top 5 clients and are they locked in for the next couple of years? A business making 40% of its parts for a single GM platform that sunsets in 18 months is riskier than one with 15 OEM programs spread across 7 customers. Unless you find that: There’s a strong backlog, incumbency is durable, Bid-to-win rates are high and contracts are both long-lived and staggered, you’ll likely need to discount revenue or apply a lower EBITDA multiple to make the numbers work

Reply by a searcher
from IMD in Hamburg, Germany

Over here in Germany / Europe, supplying to tier 1 or tier 2 auto suppliers is a big red flag. Searchers and PE firms do not touch those companies with a 10 foot pole. As soon as bullish plans are not met, your orders are the first that get cut… without compensation. Monopsonistic structures, absolutely abhorrent payment behaviour by clients, wild demand fluctuations and little to no alternatives to diversify your top line with your existing machine park and people. And if you try to sue them for breach of contract, nobody in the industry will ever give you any new contract. Case in point: Prevent vs. VW Group. Would be surprised if this is different in the US.

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