Understanding the difference between financial and strategic buyers can help you better prepare when selling your company. The two types of buyers have different advantages and disadvantages for their acquisitions.
Knowing what each is about will help you better prepare your company for sale and more adeptly negotiate prices. Therefore, it is very worthwhile to become familiar with the type of buyers you are dealing with early in the sales process.
Note…your advisory team will be extensively involved in best positioning your company to prospective buyers. The more you understand the buyers and the sales process, the more likely you can come away with the best results.
Financial Buyers
Financial buyers are investors solely interested in getting a monetary return by purchasing a company. It is all about the numbers. The financial return usually comes in two forms:
- Monies are taken out from the cash flow
- A future sale of the company
Reselling a company is the most common and profitable way for financial buyers to profit. Financial buyers tend to be opportunistic. Generally speaking, financial buyers search for undervalued companies or companies with significant growth potential because of their industry, location or other reasons.
According to Vince Annable, CEO and founder of VFO Advisory Group and co-author of Your High-Performing Virtual Family Office: Maximizing Your Financial and Personal Lives, “Financial buyers may or may not have specific industry expertise or might be highly industry-focused and extremely knowledgeable about the industry they are investing in. For example, a financial buyer might concentrate on purchasing companies in the home services industry such as HVAC, Plumbing, Electrical or Roofing, and no other industries.”
As the owner, financial buyers commonly provide financial support. They also regularly engage in financial restructuring to improve the value of the companies they buy, such as expense reduction and using debt to expand the business. Financial buyers regularly use a substantial amount of leverage when purchasing companies. This can result in the lenders acting as partners in the purchase. When debt is used, the objective is to use operating profits to pay the interest.
Financial buyers are buying and selling companies, and there are two distinct types. The great majority of financial buyers are private equity firms. Consequently, they are quite knowledgeable and sophisticated regarding deal-making, including due diligence, valuations and deal structuring. They are likely to have significant legal expertise concerning acquisitions and sales internally or with their external consultants.
Increasingly family offices who are strategic buyers are purchasing or investing in privately held companies. This is how most families with family offices became extremely wealthy. It is seen as a way to create new and greater wealth. Just like private equity firms, most family offices have extensive expertise in doing deals.
“One of the big differences between family offices and private equity firms is that the former tends to be more patient capital,” says Annable. “Where private equity firms will often look to exit in five to seven years, family offices are often willing to stay the course for much longer. Some family offices doing deals have been known to hold onto companies for generations.”
There are advantages and disadvantages to selling your company to a financial buyer. Advantages may include:
- Potential access to capital for growth and acquisitions
- Current management can have significant upside potential
- May be able to provide flexible deal terms and transaction structures
At the same time, some of the disadvantages often are:
- Additional debt payments, which can be considerable
- Ongoing owner involvement when the owner wants to leave
- Extensive financial oversight from the financial buyer
Strategic Buyers
In contrast to financial buyers, strategic buyers are focused on how acquisitions complement and enhance their existing business(es). For strategic buyers, the logic is as follows:
1 + 1 = 3
In other words, the combined company’s value is greater than the values of the individual companies. Getting this greater value can occur for various reasons, such as:
- Access to new markets
- Expanded product lines
- Increased talent
- Greater cost efficiencies due to the elimination of redundancies
- Gaining new capabilities such as enhanced distribution or intellectual property
- Acquiring a powerful brand and reputation
By and large, strategic buyers will pay more for a company than financial buyers because of the greater value they derive from the acquisition. It is not exclusively about the numbers.
The greater value is due to synergy. For strategic buyers, acquiring an existing company and benefiting from the synergies is less expensive and faster than building the capabilities from scratch. However, when considering synergies, it is useful to recognize that there are two types:
- Reliable synergies that are confidently going to increase company efficiencies and profitability. This type of synergy is often easier to quantify and, thus, more likely to contribute to a higher price.
- Potential synergies that will lead to greater corporate abilities and growth. This type of synergy can be more nebulous and may or may not be a significant factor in the company’s price.
Annable says, “The more likely synergies, the more valuable the company is to the acquirer. As no one knows how the anticipated synergies between the two companies will play out, the ability of your advisory team to identify and make a case for potential synergies, the higher the sales price for your company.”
Types of strategic buyers include:
- Suppliers possibly looking for vertical integration
- Customers looking for vertical integration
- Competitors seeking to benefit from industry consolidation
- Related industries identifying value in diversification
- Adjacent industries selling similar products aiming to expand
There are advantages and disadvantages to selling your company to a strategic buyer. Advantages may include:
- Possibly the highest valuation for your company
- This can potentially enable the business owners to exit completely
- Potential synergies can increase the success of the business
At the same time, some of the disadvantages often are:
- The synergies are not realized, and the company suffers
- Possible negative effect on morale and personnel
- Customers may have adverse reactions
Financial Buyer Or Strategic Buyer
Which is better, a financial buyer or a strategic buyer? It all depends. It depends on your goals and objectives. For example, if you want to leave the business for other pursuits, this is commonly not possible when you sell to a financial buyer. However, selling to a financial buyer who will likely want you to stay (heavily) involved can be problematic.
The following exhibit compares financial and strategic buyers on several vital issues. By understanding the differences, provided you have choices, you may be better able to make a more informed decision.
Exhibit: Financial Buyers Compared To Strategic Buyers
| Issues | Financial Buyers | Strategic Buyers |
| Intent | Financial restructuring and sale | Leverage synergies to build a more successful larger company |
| Comparative sale price | Lower | Higher |
| The future of senior management | Likely to keep senior management | May rely on acquiring firm’s senior management |
| Use of debt | Commonly used in acquisitions | Varies depending on circumstances |
| Deal making expertise | Usually extensive | Varies but is many times not very extensive |
| Business disruption | Usually less | Usually more |
Russ Alan Prince is the executive director of Private Wealth magazine and chief content officer for High-Net-Worth Genius. He consults with family offices, the wealthy, fast-tracking entrepreneurs and select professionals.
