I was asked by a client to evaluate the possibility of purchasing a competitor in his geographical area. The seller had 110 active accounts, doing approximately $300,000 yearly and working out of his garage. The seller was asking $175,000. After doing my analysis, I was of the strong opinion that my client should... STOP! Before I tell you what I suggested, you decide what you would do with the following information.
ABC Company (seller) has been in office coffee service business for six years and operated as sole owner. His gross profit is 37% from 60 office/factory clients and 50 restaurant/convenience stores/delis. The product sales mix is 81% coffee, 8% cups and the remaining 11% is made up of sugar, creamers, tea, hot cocoas, soups, cold beverages and cases of bottled water.
Seller's coffee sales of $243,000 are from two nationally branded East Coast roasters. My client (Buyer) believes that he could increase gross profit by 5-7% by eventually switching many of the accounts to his private-label coffees. He also knows that his purchasing power will increase with the added coffee poundage, again improving the GP not only of his present customers, but also of the accounts to be acquired.
Buyer also feels that his expanded product selections and water cooler service can be sold to many of the seller's customers.
On the equipment side, seller has approximately 80 pourovers, 25 automatic brewers and 10 single-cup pod brewers.
Buyer is almost maxed out in his warehouse and office space. This acquisition would push him into larger space, with added inventory needed and one additional employee and truck (the seller's truck is very old).
Seller has one very large account, which is a local law firm that gives him 10% of his gross sales. The gross profit for this client is 41%, and it has three automatic brewers and two single-cup pod brewers.
Seller will not guarantee, for any length of time, any of his accounts after a sale is finalized. His collections consist of C.O.D. on half his customers (mostly foodservices); the rest are billed; the majority pays within 45 days, and a few within 60 days.
Seller's computer system is antiquated and all information would have to be either transferred over the buyer's system, or buyer would have to run two systems and phase out old computer over time.
Okay; now go to work and figure out what you would do if you were the potential buyer: buy or not?
Let's see if we agree or disagree. I am going to give you the highlights of my findings, and here are the negatives:
1. Historically, 10% to 15% of customers sold to another company are lost within the first year. There are several reasons: loyalty to the existing service may fall by the wayside, and result in a phone call to your competition to see if there is better pricing. Some customers are tough on payments within your credit terms, and you drop them; some just go out of business. Typically a one-person OCS operation has provided excellent service to its customers, and the new company servicing these customers may not live up to an existing customer's expectations. Also, smaller clients have a tendency to go out and purchase their coffee supplies from discount clubs, unless the operator is very hands-on and visits these accounts at least monthly (note that route sales OCS firms have an edge over pre-call services in retaining clients).
2. A gross profit of 37% is way too low to maintain profitability after expenses.
3. If the law firm cancels service within the first year or two, the acquired operation would lose 10% of its sales volume and have five old brewers sitting in the warehouse.
4. There will be a high cost of maintaining old equipment, with an abundance of service repair calls.
5. Those office accounts that are very profitable should be upgraded to better equipment.
6. There is a huge concern that a competitor with more modern automatic equipment could easily infiltrate those restaurant accounts. In order to protect the more profitable foodservice customers, a larger investment in new equipment must be made.
7. A large percentage of foodservice accounts are very price-conscious and could easily be lost if you raise prices.
8. Foodservice customers do not want to change their coffee taste profile, since their customers already like what they are drinking. They would fear losing customers.
My recommendation to my client was that this acquisition is not a good fit, unless the sale price were reduced drastically to about $125,000. And he should attempt to negotiate a separate agreement with the law firm account.
I also felt that since my client wanted to expand, he should invest in hiring a salesperson for $650 a week to start and after training, as well as the salesperson given some time to learn the ropes; he could expect two to three new accounts per week. In 52 weeks, he could see a minimum of 110 new customers, with a gross profit of 48-52%, which is what his GP has been in the past. His investment in new equipment may be approximately $75,000 to $100,000, but the brewers will be service-free for two to three years; and with good financing, he should be able to see a good profit after the first year with these new customers.
Overall my client's investment would be approximately $140,000 the first year, and he would grow at his own pace, maintain adequate gross profit and obtain new and dependable equipment. Moreover, he could expand his business at his own pace, with a proven salesperson able to go forward with his company in the future.
This analysis was very condensed, but hopefully you can see the scenario overall. I would really love for you to contact me on what your decision would have been. I can be reached at (516) 241-4883, or emailing email@example.com.
LEN RASHKIN is a pioneer in office coffee service. He founded Coffee Sip in 1968 and later merged it with Dell Coffee. He also founded the Eastern Coffee Service Association and National Beverage & Products Association.