Why you should know why big companies buy small ones

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We have all seen the trend in the recent years.  Big companies acquiring smaller ones, mostly start-ups — young but established or very promising ventures.

We have, observed, in the sidelines, and with mixed feelings, the Jollibee group’s takeover of well-loved Mang Inasal, Greenwich, Red Ribbon, Chowking and Deli France — all formerly independent brands.

In the 1970s, the Gokongwei group brought a flour mill and three sugar mills and refineries to form URC Sugar in the 1980s.

Selecta was a small business owned by the Arce family.  It was doing well in its small niche in the ice cream market when it was acquired by the RFM group led by the Concepcions.  Selecta is now the brand to beat in ice cream.

In 1976, SM acquired a small bank, Banco de Oro, and parlayed it into what is now the biggest bank in the country in terms of assets.

The benefits to the small entrepreneur may be obvious.  Selling out means instant millions — money the entrepreneur can spend in launching another start-up, hopefully with the same degree of success earlier achieved.  A cycle of build-and-sell may ensue.  Moreover, depending on the deal, the start-up may still retain a part of the ownership and thus a continuing share of the profit, as is the case of Mang Inasal.

The question that begs to be answered:  Why do big companies buy promising start-ups when they have all the resources to put up competitive versions of such firms?

Serenidad Lavador, Small Enterprises Research and Development Foundation (SERDEF) trustee and technical adviser, thinks “it’s all in the math.”  …………………

 

Sam Hogg, who had started a venture which he later sold out to a bigger enterprise, provides some answers:

  1.  Start-ups are put up and managed by innovative entrepreneurs which a large company do not have.  Big companies hire people when the workload demands it, not when they go on a creative or innovative mode.
  2. Large companies can’t compete with start-ups on a cost and execution basis.  Organizational hierarchies slow down decisions that could be made quickly in a startup.  While startups beg, borrow and barter or otherwise use ingenious means, large companies follow established processes, protocol and prices to accomplish the same things at a much slower speed and at much higher cost.
  3. Thus, big companies have a lot to lose if a new venture fails.  The risk is not only financial but also in terms of hurting or diminishing the corporate brand the company has worked so hard to build.  On the other hand, the only risk in buying a small established firm is the danger of overpaying for what it acquires.

An example is given by Hoggs:  If a large company knows it could replicate a start-up concept for, say, P50 million pesos, but only has a 33 per cent chance of competing successfully long term, it could mathematically justify waiting around to pay P50 million for the established or “de-risked” version.  “This allows it to leave the founding, flailing, and failing to entrepreneurs, and acquire the company and competition in one fell swoop.”

Knowing why big companies buy little ones is useful to positioning and pricing a company for an acquisition.

. Profitability is key. Lots of things go into establishing the value of a business—innovation, intellectual property, client base—but by far the most important element is the proven profitability of your company over time. You want a steady, strong history of making money. Minimize unnecessary expenditures and maximize your company’s profitability, and you’re improving your chances of selling for big bucks.

6. The riches are in the niches. If you’re providing a unique service to a dedicated, loyal group of satisfied customers, you’re poised to cash in big. It’s much harder for a bigger business to swallow you up on the cheap if you’re thriving in a niche market.

7. Make yourself dispensable. If you can subtract your ego and your involvement from your business, you’re adding to its value. Your business is much more valuable if it can run without you. Start scheduling and taking vacations and force your business to flourish on its own, demonstrating that the company will continue to thrive even after you no longer own it.

So here’s the secret behind all these steps: These are all things you should be doing anyway—things that make your company more efficient and profitable whether you plan to sell it or not. Your goal in prepping for the sale of your company should be to whip it into the best shape you can in order to boost its value. What you don’t want is to spend months trying to push for a sale and watch your business wither from neglect, only to have the sale fall through and leave you with a worthless business. Your best bet is to continue to grow your business, right up until the day you get that big check and hand over the keys.

 

Photo: From foodcartfranchisephilippines.com

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