Why Private Equity Firms Love Wholesale Distributors
Published on by Daniel Schlachter in Consulting, Wholesale / Distribution
The decision to sell a business can be a difficult one, and rarely do business owners know when exactly the right time to sell is. As private equity buyouts have surged in recent years, especially in the wholesale distribution industry, it has become increasingly important to always have your business well-positioned for a sale if the right buyer comes along.
Why Wholesale Distribution?
Private equity firms love to purchase wholesale distribution businesses for a few reasons. Distributors typically have a relatively high cash flow, which allows private equity buyers to immediately begin repaying debt financing obligations for the purchase. Additionally, the asset composition of wholesale distributors is typically comprised of primarily receivables and inventory—two lower risk and more attractive assets than high cost, highly specialized fixed assets for example. Distributors are also well-equipped to adapt, rather than become obsolete, with new technological advancements in the industry.
Platform vs. Add-on Businesses
In the search for potential targets, private equity firms tend to seek out “platform businesses” over “add-on businesses” because they provide the buyer with a solidified anchor business, and smaller add-on businesses can be acquired in the future. Several factors differentiate a platform business from an add-on business.
- Initial investment for private equity buyer
- Relatively large size
- Seasoned executive team willing to stay after the purchase
- Ability, resources, and vision to grow
- Acquired and integrated later down the line
- Specific niche, location, or product
- Current resources will need upgrading with growth of the business
Consolidation is Attractive
Private equity firms frequently seek out consolidated firms in their search. As a seller, showing that your business has a proven track record of buying and integrating other businesses, locations, and operations can make your business significantly more valuable. Additionally, larger companies sell for proportionally more money than smaller companies. For example, current owners can potentially buy several smaller companies, consolidate the operations, and turn around and sell the business for a higher multiple than what they paid. Not only does consolidation provide additional value when selling the business, but consolidation can also provide an opportunity to round out a business’ current operations. Acquiring a company in a new geographic region, with a different product line, or with a strong leadership team can lead to a more well rounded and diversified business.
Solutions to add Value
Ideally, buyers like to see leaders in a targeted market or segment of the industry. Dominating a very specific niche where there is no room to grow or selling across too many general industries without focus can both be red flags to a buyer. Sellers should also be able to show they have stable customers with enough diversity. If two or three customers comprise nearly all a company’s sales, adding some new clients can lower the risk exposure to potentially losing one of those clients. Some metrics such as declining sales per customer or declining customer acquisition may show that the sales composition should be re-evaluated.
The actual product being transported can also be a source of opportunity for distributors. For example, a well-known private label product can provide higher margins than a generic product. Even better are certain products that lend themselves to value-added services such as customization, calibration, testing, and installation. These extra services allow companies to demonstrate their value over larger internet-only competitors.
For more information on how to prepare your business, please contact us via our website, or call a member of our wholesale distribution team at 513.241.8313.