Add-on acquisitions with weak EBITDA Margins

November 12, 2022

by a searcher from Massachusetts Institute of Technology - MIT Sloan School of Management in Los Angeles, CA, USA

I have been looking at add-on opportunities, and the competitors interested in selling have traditionally not had very strong EBITDA Margins (4%-8% adjusted EBITDA Margins going back to###-###-#### I'm inclined to offer 1X or maybe 1.5X EBITDA on these businesses...but I'm wondering why a seller would even entertain such an offer? They could make that much in drawing an officer salary for two years... definitely not worth retiring for.

How do these businesses ever exit?....do they just never sell and eventually shut down or get passed on to family members to run?

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Reply by an investor
from Western Washington University in Key West, FL 33040, USA

It depends on the industry, but you would first want to look at their pricing. If their pricing is comparable to yours, then your be able to bring their margins inline with yours once they are apart of your structure. Additionally, there could be synergies from the added scale that may allow the organization as a whole to improve its margins even further. For example, if you have a business doing $1.5m in sales with 20% margins, and you add on a second $1m revenue business with 10% margins, perhaps the added scale allows the combined entity can do $2.5m in sales at 30% margins or something like that... However, if their pricing is significantly lower than your pricing, then that could explain the margin differential. And if their customers are accustomed to paying these low prices, you may not be able to raise their pricing and margins to match yours and thus it may not be a good acquisition candidate.

Reply by a searcher
from Harvard University in Fort Wayne, IN, USA

Three main values are revenue synergies (new products thru these newly acquired clients), cost synergies (typically from reduced headcount), and multiple expansion. Based on my experience, I’d bank on only a tiny amount of revenue synergies, 70-80% of expected cost synergies, and 50% of revenue multiple expansion. The research says only 70% of businesses realize the expected synergies. That said, if the price is right and the core business is humming along, it’s a great way to quickly expand. Just be conservative in your numbers and fight hard for a low price.

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