Growth and funding growth don’t come cheap. Every business that had any success had to deal with a dilemma of expanding before or after capacity became an issue. Capacity can be people or space and equipment or all the above. The question is what to do when you have been operating at or near capacity for a couple of years.
Option 1 – Invest in equipment (CapEx) and space, but how much? Doubling or tripling capacity comes at a high overhead burden and profitability might be sacrificed for an unknown period of time.
Option 2 – Expand incrementally and run the risk of running out of the capacity in 2-3 years and having to go through the expansion process yet again.
Option 3 – Outsource the needed capacity to a 3rd party and run the risk of a higher cost and lack of control of quality and speed of production. Luckily, there are plenty of co-manufacturer opportunities nowadays and it is relatively easy to find one.
As investors, we look for future growth opportunities. In a case of a consumer goods manufacturer, we’d always be seeking to understand current capacity utilization and future expansion.
More often than not, we’d have a family-owned business operating near its capacity that the owners would like to exit. Our challenge becomes valuing the business based on its historical performance and a potential growth runway left in the following 5-10 years. If the plant is operating at capacity, we will need to expand. This comes at a high cost that in some circumstances devalues the company at the moment of purchase. Also, the more challenging the expansion process, the least likely we’d be able to participate in the acquisition, or the more we’d be discounting the acquisition value of the company.
To maximize the value of a family-owned business, the management is recommended to think about how the next ownership would be able to grow the business. Leaving a healthy unused share of capacity would make the proposition so much more attractive, especially if coupled with the recurring growth path.
Ultimately, we’d be valuing the business based on 3 analytics – (A) historical performance, (B) current state, i.e., capacity, new products in the pipeline, long-term contracts, etc. and (C) path to a future growth. All three play into our valuation of the business and ultimately an offer.
Sadly, there are plenty of family-owned companies that were built as lifestyle businesses with little room for expansion. These jewel companies are best for a strategic (corporate) buyer rather than private equity (PE). The difference is PE would be willing to take over the facility and expand, whereas a strategic would just want your brand and SKUs to be produced at their own facilities.
Now, will they come if you build a larger facility? Make sure you have good cash reserves when seeking to expand as it may take a couple or a few years to reach planned capacity utilization.
Prepare for selling your business 2-3 years ahead to maximize the valuation of your business. Leave some room for growth to the next owner who will have a better chance of taking your company to the next level. This would also benefit the family in being able to participate in the future growth of the business under new ownership. Everyone wins!
-A.G.
댓글