Greg Tooth says now is a great time for investors looking to acquire SMEs at bargain prices. But that’s not such good news if you’re a business owner who’s hoping to be well rewarded for all your hard work building your company.
Tooth is a co-founder of Equicapita, a Calgary-based private equity fund that specializes in buying SMEs in the “nano gap”: companies worth $2 million to $20 million. According to a report by Deloitte, these firms are, for the most part, too small to attract the established mid-market private-equity players and too big to attract ad-hoc networks of high net worth people such as angel investors.
“Equicapita believes that SME private-equity investors are heading into a very compelling decade for returns,” says Tooth. “The opportunities to acquire competitively priced SMEs will be significant.” Tooth cites three key drivers for why companies can be acquired at prices appealing for investors:
- Business owners in Canada’s massive boomer generation are starting to sell their businesses in huge numbers. Benjamin Tal, deputy chief economist of CIBC World Markets, reported last November that 310,000 SME owners plan to transfer control of their companies within the next five years. If they do so, $1.9 trillion in business assets will change hands over the period, the biggest ever transfer of Canadian business control, estimated Tal.
- Due to the nano gap, there are fewer potential buyers for firms worth $2 million to $20 million than for ones that are smaller or larger.
- Current business valuations based on trailing cash flow are artificially low because they incorporate the weak operating results many companies had in 2008 to 2010 during and after the credit crisis. “Sales and EBITDA numbers [earnings before interest, taxes, depreciation and amortization] were frequently severely depressed following the 2008 crisis,” says Tooth. “From what we see in deal flow, the underlying businesses have recovered. But transaction multiples are still being affected in a material number of cases.”