The market for initial public offerings (IPOs) is strong; the Renaissance Capital IPO Exchange Traded Fund – a bundle of the 60 most recent IPOs – is up 11% year to date, which is nearly double the performance of the S&P 500 over the same time period. Furthermore, investors signal that the remainder of 2017 will yield favorable conditions for IPOs, with one source saying, “The U.S. IPO market is well positioned for another active quarter. An extended period of strong IPO returns and low market volatility has created a receptive environment for a wide variety of companies to come public.”
Despite the strength of the IPO market and the fact that more firms are exiting via the IPO route, “sales to strategic buyers remain the top ranked exit option.”
For firms looking to sell, this is likely welcome news. Why? In part because strategic buyers tend to pay a premium. According to Pepperdine University’s 2016 Private Capital Markets Report, “50% of respondents found strategic buyers to pay a premium between 1% and 20%.” In addition, strategic buyers can “enable the entrepreneur to walk away completely and get the most liquidity, may be able to use their industry knowledge to lead to a faster close, and create operational synergies to improve efficiency.”
It is important for sellers to recognize that the motives a strategic buyer has for purchasing a company are often markedly different than the motives for taking a company public. This is because “strategic buyers evaluate acquisitions largely in the context of how the business will tie in with their existing company and business units.”
Therefore, a robust integration strategy is paramount for making an exit to a strategic buyer a success. While the burden of a successful integration ultimately rests with the buyer, there are several proactive steps that sellers can take to make their firm a more attractive target, increase the valuation of their company, expedite closing, and greatly improve the odds of a successful deal.
1. Determine the loyalty of your top customers
Virtually all businesses follow the 80/20 rule – 20% of customers account for roughly 80% of revenue. Therefore, it becomes critical to retain top customers because there will be a substantive impact on valuation if just one of them walks away or lowers their share of wallet.
Through the use of the Net Promoter Score® (NPS®), sellers can determine if each of their top customers is a “Promoter,” “Passive,” or “Detractor.” The NPS measures the willingness of customers to recommend a company to others, and it is used as a proxy for gauging customer satisfaction and loyalty.
Sellers are often surprised to find that among their top customers, a majority fall into the “Passive” segment. In other words, the bulk of a seller’s top customers tend to be somewhat satisfied but not necessarily loyal. These “Passive” customers are likely considering competitive firms, pressuring the seller on price concessions, and are hesitant to recommend the seller to a colleague – all of which are behavioral indicators of the account being at risk.
More concerningly, a handful of a seller’s top customers are often “Detractors,” who report serious barriers to satisfaction and are imminently at risk of leaving for a competitor.
2. Develop customer retention strategies
It is not enough to simply segment top customers based on loyalty and identify at risk accounts. Sellers should take the next step and prioritize precise actions that have to be taken to stem the bleeding and retain these accounts. This is especially true for “Passives” and “Detractors,” who often share the same barriers to loyalty, with the difference being the extent to which they are dissatisfied and the urgency in which issues need to be resolved.
A thorough and well-designed Voice of the Customer (VOC) initiative will uncover deep insights to understand why a customer is or is not loyal. Knowing the answer to the question “Why?” allows sellers to identify opportunities to enhance the customer experience and, in turn, improve loyalty.
Through the VOC process, the seller can also diagnose which touchpoints drive or hinder loyalty, and then prioritize which part of the customer experience needs the most attention (e.g. procurement process, product/service attributes, pricing and administration, account support, etc.).
3. Gain competitive advantages to increase share of wallet
In addition to understanding how customers perceive their own business, sellers should also understand how their business is perceived relative to the competitive landscape. This is particularly true when it comes to mapping the path to purchase, or the process that customers go through to determine which suppliers they will use.
The VOC process allows the seller to understand the hierarchy of purchase influencers (quality, price, lead times, etc.), and then benchmark the seller’s performance on these criteria relative to the performance of competitors.
This approach allows the seller to pinpoint which purchase criteria are competitive strengths (the seller performs better than the competitor), and which are competitive weaknesses (the competitor performs better than the seller).
After isolating the competitive weaknesses, the seller can then focus attention on turning those weaknesses into strengths. By improving these weak but highly influential criteria, it follows that customers will see a more compelling value proposition and increase their share of wallet.
4. Explore the possibility of a price increase
Revenue growth accounts for roughly 60% of value creation, and raising prices is one of the fastest and easiest ways to kickstart an increase in topline results. But this approach can be a risky proposition, especially if the seller’s customer base is composed of mostly “Passives” and “Detractors.”
However, a seller can use the VOC to build a foundation for a price increase by:
• Reinforcing customer loyalty by laddering “Passives” to “Promoters.” “Promoters” tend to view the seller as a partner rather than a vendor and, as such, are more tolerant of price increases because there is value in the relationship beyond the product or service itself.
• Understanding the importance of price in the path to purchase. If price is relatively unimportant (as is often the case in non-commodity sectors), then there is likely tolerance for price increases so long as a compelling value proposition exists.
• Comparing perceptions of the seller’s price to the price of the competition. If customers suggest prices are on par with or lower than other suppliers, there may be potential for an increase. On the other hand, if customers perceive the company’s prices as higher than competitors, a price increase may lead customers to explore alternative suppliers.
It is also important to go beyond quantitative measures and qualitatively understand what is driving the price/value equation. Insights gained from capturing the VOC helps identify low-cost levers that can be pulled to potentially increase the value side of the equation to help offset the increase in price.
5. Lay the groundwork for an expansion of the customer base
Relying on current customers to propel a business through integration is likely not enough, as strategic buyers are more often than not planning to expand your customer base as part of their post-close strategy.
VOC can be utilized to help lay a foundation for future growth by:
• Finding innovation opportunities: Identify unmet needs, pain points, and latent wants, all of which can be used as the basis for new product and service development.
• Proactively responding to industry trends: Map the direction in which customers think the category is headed, which can be used to position the company to respond to future disruptions.
• Measuring the growth outlook for the category: Prepare for business cycle fluctuations by asking customers to estimate future budgets and share of wallet allocation.
In order for a seller’s company to be an attractive target to a strategic buyer, extensive and careful strategic planning has to take place in the years leading up to a potential sale. Too often, this strategic planning happens within the vacuum of senior leadership or, at best, a select group of high-level internal stakeholders.
Our experience has shown that the most effective strategic plans are those built on the voice of the customer. After all, who knows better how to grow a business than the very customers who are driving that growth?
Having a solid VOC program in place pre-sale will greatly improve the odds of a successful exit to a strategic buyer, especially as customer due diligence (diligence that determines the strength and stability of key customer relationships) becomes increasingly common among acquirers.