Snake farm maintenance services (a.k.a. the power of specificity)
When I prepared my PPM to raise my search fund, I knew that I was supposed to choose a few target industries to highlight. I chose three, one of which was “education”, partly because I had begun my career as a trained educator and thought I could add value to an education business. In my first few meetings with investors I was asked about my industry selections, and as I provided my rehearsed response I sensed something was wrong but didn’t know what. Finally, one investor provided some constructive feedback: my industry choices were too broad and my rationale wasn’t rigorous enough. He said he otherwise liked me and my profile and that I should come back once I had done some more work on my industry selections. (This particular investor has continued to be quite open and honest with his feedback, painful as it is at times.)
I eventually narrowed it down to something much more specific, and that investor committed. However, I didn’t fully understand the benefit of narrowly-defined industry selections until a later date. This exercise felt like a test of my analytical abilities, but I learned later that it was also a useful exercise I would have to do over and over again during my search.
The evolution I went through is normal for search fund entrepreneurs, who also initially see the exercise as a bit tedious. Just last week a searcher I was speaking with essentially refused to narrow his industry selection beyond “business services, consumer services, and light manufacturing”, because “given the size of the market it wouldn’t make sense.” As I hope he will see in our next conversation, targeting narrowly-defined industries makes sense for several reasons.
1) You will be a more credible buyer.
If I own a preschool, and you say you’re looking to buy a preschool, you are already closer to my heart than someone looking to buy “an education business” or worse “a small business.” If you then prove that you know something about the preschool business, you ask intelligent questions that only someone who has some industry knowledge would ask, and you have spoken with other people whose names I might recognize, your credibility as a buyer dramatically increases.
2) You will build a network and generate referrals.
If you meet me at a conference and tell me you’re looking to buy a vacuum retailer, then I know you as the vacuum retailer guy. When I meet or think of someone in the vacuum retail business, you will be top of mind and I might make an introduction. If, on the other hand, you say you’re looking to buy a business, I’m very unlikely to introduce you to just any business owner I meet.
3) You will understand the risks and trends before jumping into a deal.
The worst mistake you can make in this whole process is to buy the wrong business. And how will you know if a business is the one if it’s the first business you’ve evaluated in that specific industry? Your reference points are few and your analytical tool belt is relatively empty. When your investors grill you on the industry and you come up short, you may fail to raise the capital. But if you succeed, you may find yourself in the wrong business. By contrast, if you know the industry and have evaluated several businesses in that industry, you will be wiser in your decision making and more credible in your investor conversations.
4) You are more likely to know a good deal when you see one.
Similarly, if you see a business in industry A with X% margins and terms Y and Z terms in their customers contracts, how will you know whether those are attributes of the business or blemishes without first looking at comparable businesses? Even better, if you’re evaluating a lawn care business in California, having someone in the lawn care industry in Florida that you call for advice will be handy in your evaluation and fundraising processes.
5) You are more likely to uncover unique opportunities.
Digging deep into a specific industry tends to uncover the gems not readily available to most buyers.
6) Bonus: Your interns/analysts will be happier.
Let your analysts get creative, generating creative and attractive industry ideas on a regular basis. The activity will be a welcome break from their daily screening routine.
To my dear searcher who refuses to narrow the search in a small market, have no fear! A small market simply means you will need to build a longer list of industries. Whereas a searcher in the US may churn through 20-30 narrowly-defined industries over the course of a search, you will exhaust each industry more quickly and will therefore need to churn through more industries. However, the above-mentioned benefits still apply to you.
As a side note, exploring new industries is one of my favorite parts of the search fund process. As a searcher, you have the privilege of digging into hundreds of businesses in dozens of industries, many of which you never would have spent time on and some of which you never would have imagined existed. Each industry has its own stories, its own cast of characters, and its own idiosyncrasies. And through this process, the searcher becomes much smarter, much more analytical, much more aware of the SME landscape in his or her market, enabling the searcher to apply learnings from one industry to another, a fairly unique and privileged position to be in when stepping into the CEO role.
So though the search may be a “grind,” take advantage of the opportunity to dig into corners of the market you’ve never given a second thought to. The resulting intellectual stimulation is a powerful antidote to the drudgery of the search.
Action Items
Right now, jot down 20 narrowly-defined industry niches as quickly as you can. It’s hard, but it’s important to go through the activity before asking your analysts to do the same.
Create a process that enables your team to reliably generate new, high-quality industry ideas on a regular basis.
Submit your industry ideas here for the benefit of the community.
