From New York to Regina: the geographically restricted search fund

When I decided in 2012 to launch a search fund, I also decided to base my search near San Francisco. I grew up in the Bay Area, my family was there, and I had been away for 12 years. The idea of returning home was exciting to me, and the idea of potentially staying in the Bay Area was even more alluring.

When I went to raise search capital, I knew that a nationwide search was not only a requirement for many search fund investors, but also it would deepen the pool of potential acquisition targets.

I did have one limitation - my wife’s career. She had a blossoming career in biotech, and not everywhere is home to biotech companies. We couldn’t move to Fargo and expect her to find a decent job. We did, however, adopt a very broad definition of biotech/pharma and decided that she would be okay in nearly any major metro area in the US, and that the risk would be worth the potential upside associated with buying a company.

And that’s what I told investors - I’d perform a nationwide search, but I’d have to wind up in a metro area. In the US, that’s not a difficult argument to make; over 180 million people live in the 50 largest metro areas in the US.

True to that commitment throughout my search, I visited companies in Providence, Provo, Phoenix, Boca Raton, and Long Island, to name a few. I even found myself in the outskirts of Toronto at one point.

Despite that commitment, there was a natural tendency to source deals closer to home. I found opportunities in Napa, Sonoma, Danville, Santa Clara, South San Francisco, and Newport Beach. When a company was a short drive away, the bar for visiting was much lower than if I had to hop on a plane. And visiting yields benefits to the searcher-seller relationship.

Ultimately, however, I didn’t find anything compelling close to home. The San Francisco Bay Area is viewed by many as a very desirable place to live, which drives up demand for and valuations of local businesses. I couldn’t bring myself to pay huge multiples for mediocre businesses just because they were in a sexy location.

My story is fairly common in this respect. Like many searchers, I conducted a true nationwide search but certainly had preferences and natural tendencies. According to a survey conducted by Searchfunder, “30% of searchers find a target in the same area as their search location.” This stat certainly indicates a bias for proximity, but it also shows that 70% of searchers relocate come deal time.

Recently I’ve seen several people proclaim on social media that you don’t have to conduct a nationwide search to buy a company. True, you don’t. But should you?

Most investors expect a funded searcher to conduct a nationwide search, and most searchers choose to do so primarily for the following reasons:

1. When they identify an attractive industry, investing time to understand it, they want to make the most of that effort by prospecting as many companies as possible within that industry. A larger addressable market will enable that searcher to make the most of each selected industry.
2. Sometimes the greatest deals are in the least sought-after locations. Less competition both on the bid for the company and then within the industry post-acquisition can spell opportunity for the searcher and her shareholders.
3. Search strategies focused on a particular geography often focus on networking and referrals, which can take much longer to be productive than high-volume cold outreach. Searchers would rather be CEO soon than remain searchers for years.
4. Generally, removing personal location preferences from the evaluation criteria can clear the fog from the investment lens.

Also, there’s a huge difference between focusing on the New York Metro area (18 million people) and Regina (0.2 million people). However, some searchers may be able to justify a narrower scope if the addressable market is big enough.

The best search fund data we have available is from the Stanford study, which covers primarily the US and Canada (population: ~370 million, GDP: $23 trillion). Of searchers in these markets, most of whom conduct nationwide searches (and often search across both countries), 33% still fail to acquire a business. Of those who do acquire, 25% produce a loss, often as a result of doing the wrong deal in the first place.

Put that average searcher in Regina, and we can probably expect a reduced success rate, simply given the smaller pool of targets, all else being equal.

Now of course, not all else is equal. There are market-specific and searcher-specific considerations that will affect that probability of success. But you get my point. Having 200 hundred companies per industry to look at enables a more efficient search than just 2 companies per industry.

At SMEVentures, our searchers all conduct nationwide searches. Australia’s population is about 25 million, which is big enough for a good search, but each metro area of 2-5 million is probably not quite enough on its own, at least to justify a funded search. Much to my dismay, I’ve had to turn down a number of prospective searchers who refused to leave Sydney.