Dan Lemmer sent me Berkshire Hathaway’s (Warren Buffett’s company) acquisition criteria from their annual report. While buyers of small to mid-sized businesses don’t have the clout of Berkshire Hathaway they should still pay attention to Berkshire’s criteria, especially the following two.
- Demonstrated consistent earning power (future projections are of no interest to us, nor are “turnaround” situations).
John’s comment: If the seller thinks the business will make a lot more money in the next two years they should hold it for those years and sell it at the then higher and justifiable price. Don’t expect the buyer to pay now for what might happen. Also, the banks can’t accept a valuation for an SBA acquisition loan if that valuation is based on projections. The banks and the SBA feel that a business should be valued on its historical performance.
- An offering price (we don’t want to waste our time or that of the seller by talking, even preliminarily, about a transaction when price is unknown).
John’s comment: This is a little tougher with small deals but usually when a seller won’t say anything about a price range it’s because they want the buyer to pay more than they’re expecting or more than they know it’s really worth. Businesses, in all size ranges, sell within a generally accepted range (this is backed-up by a lot of historical data). I tell buyers to discuss the range appropriate for the size business they are considering. Get the seller in the same ballpark, preferably on the same playing field, or get away (because it will just lead to frustration).
“Too many investors focus on earnings before interest, taxes, depreciation and amortization. That makes sense only if you think capital expenditures are funded by the tooth fairy.” Warren Buffett