Entrepreneurship Through Acquisition: A Guide to Buying and Growing Small Businesses

What is Entrepreneurship Through Acquisition?

Entrepreneurship through acquisition (ETA) is an alternative path to business ownership that involves purchasing an existing small business rather than starting one from scratch. This approach appeals to aspiring entrepreneurs who want to run their own company but may not have a groundbreaking startup idea or the appetite for the extreme risks associated with launching a new venture.

According to Harvard Business School professors Richard Ruback and Royce Yudkoff, ETA candidates typically have the following profile:

• 7-15 years of prior management experience
• Strong desire to be an entrepreneur and business owner
• Practical, scrappy managers with solid business fundamentals
• Willing to take on a leadership role in an established small business
• Often coming from consulting, finance, or military backgrounds

The key difference from traditional entrepreneurship is that ETA entrepreneurs acquire an existing profitable business rather than building something new from the ground up. This allows them to step into an owner-operator role with an established customer base, cash flow, and team already in place.

The ETA Process

The typical process for entrepreneurship through acquisition involves several key steps:

1. Preparation and Fundraising

Aspiring acquisition entrepreneurs often start by taking courses or programs focused on ETA, such as those offered at top business schools. They develop their skills, build a network, and begin raising funds from investors to support their search and eventual acquisition.

2. Searching for Target Companies

The search process involves identifying and evaluating potential acquisition targets. This can take anywhere from 3 months to 3 years, with an average of about 18 months. Searchers look for profitable small businesses, often with $750k to $2.5M in annual EBITDA.

3. Due Diligence and Negotiation

Once a promising target is identified, the buyer conducts thorough due diligence and negotiates deal terms with the seller. This stage typically takes 3-9 months to complete.

4. Financing and Closing the Deal

The acquisition is financed through a combination of:

• Bank loans (often 50% of purchase price)
• Seller financing (10-25% via seller note)
• Equity from investors (25-40%)

5. Post-Acquisition Management

After closing, the acquisition entrepreneur takes over as CEO and works to grow and improve the business over a 5-10 year time horizon.

Financing an Acquisition

One of the most common questions about ETA is how relatively young professionals can afford to buy multi-million dollar businesses. The key is that acquisitions are primarily financed through debt and outside equity, not the buyer's personal funds.

Here's a typical capital structure for a $10 million acquisition:

• $5 million bank loan
• $2 million seller financing
• $3 million equity from investors

The bank loan is typically not personally guaranteed by the buyer. Investors provide the equity capital in exchange for a share of future profits. The buyer retains anywhere from 20-30% equity ownership in funded searches up to 60-70% in self-funded searches.

Advantages of ETA

Entrepreneurship through acquisition offers several potential benefits compared to starting a new business:

Lower Risk

Buying an established, profitable business is inherently less risky than launching a startup. There's an existing customer base, proven business model, and cash flow from day one.

Immediate Scale

Acquirers can immediately step into leadership of a company with millions in revenue and dozens of employees rather than starting from zero.

Easier Financing

Banks and investors are often more willing to fund acquisitions of profitable businesses compared to speculative new ventures.

Proven Model

The business has already demonstrated product-market fit and ability to generate profits, removing much of the uncertainty of early-stage startups.

Transition Support

Sellers typically provide a transition period to transfer knowledge and relationships to the new owner.

Challenges and Risks

While ETA can be less risky than starting a new business, it still comes with significant challenges:

Finding the Right Business

Identifying an attractive acquisition target that's a good fit for the buyer's skills and goals can be difficult and time-consuming.

Deal Complexity

Negotiating and financing an acquisition is complex, requiring significant due diligence and professional support.

Transition Difficulties

Taking over leadership of an existing business and team can be challenging, especially if there are cultural clashes.

Debt Burden

The loans used to finance the deal put pressure on the business to maintain cash flow to service the debt.

Limited Upside

Buying a stable, profitable business may offer less potential for exponential growth compared to a successful startup.

Keys to Success in ETA

According to experts like Ruback and Yudkoff, several factors contribute to success in entrepreneurship through acquisition:

Target Selection

Focus on acquiring stable, profitable businesses with enduring competitive advantages and recurring revenue. Avoid turnaround situations or businesses requiring dramatic pivots.

Industry Fit

Look for businesses that align with the buyer's skills and experience. A good industry fit allows the new owner to add value quickly.

Conservative Approach

In the first year post-acquisition, focus on learning the business thoroughly before making any major changes or investments.

Operational Improvements

Look for opportunities to improve operations, marketing, and growth through applying professional management techniques.

Employee Relations

Build strong relationships with existing employees by demonstrating humility and willingness to get hands-on in all aspects of the business.

Long-Term Mindset

Focus on steady, sustainable growth over a 5-10 year time horizon rather than swinging for the fences.

Ideal Candidates for ETA

Entrepreneurship through acquisition tends to appeal to and work well for people with certain traits and backgrounds:

Management Experience

Most successful ETA entrepreneurs have 7-15 years of prior experience managing teams and P&Ls in other companies.

Entrepreneurial Drive

A strong desire to be a business owner and operator is crucial, as ETA involves taking on significant leadership responsibility.

Practical Skills

Hands-on managers who are comfortable getting involved in all aspects of a business tend to do well.

Financial Acumen

Understanding financial statements, capital structures, and valuation is important for both the acquisition and operation phases.

Humility and Adaptability

Successful buyers are able to learn from existing employees and adapt their management style to the business.

Risk Tolerance

While less risky than startups, ETA still involves taking on significant debt and responsibility.

Finding Acquisition Targets

Identifying attractive businesses to acquire is one of the biggest challenges in ETA. Some common methods include:

Business Brokers

Working with brokers who specialize in selling small and medium-sized businesses.

Direct Outreach

Proactively contacting owners of businesses that fit the buyer's criteria.

Online Marketplaces

Using platforms like BizBuySell that list businesses for sale.

Networking

Leveraging personal and professional networks to find owners looking to sell.

Industry Focus

Developing deep knowledge of specific industries to identify opportunities.

The Role of Search Funds

Many ETA entrepreneurs operate through a structure called a search fund. This involves:

1. Raising capital from investors to fund a 2-3 year search process
2. Identifying and acquiring a suitable business
3. Operating the acquired business as CEO
4. Providing returns to search fund investors

Search funds allow buyers to conduct a dedicated, full-time search with financial backing. However, it typically results in lower equity ownership compared to self-funded searches.

Comparing ETA to Other Paths

How does entrepreneurship through acquisition compare to other common career paths?

ETA vs. Starting a New Business

ETA offers lower risk and immediate scale but less potential for exponential growth and innovation compared to building a startup from scratch.

ETA vs. Joining a Startup

Buying a business provides more control and equity upside but comes with greater responsibility and financial risk than joining an existing startup as an employee.

ETA vs. Corporate Career

ETA allows for business ownership and potentially greater financial upside but lacks the stability and resources of a corporate job.

ETA vs. Private Equity

Both involve acquiring companies, but ETA buyers become owner-operators focused on long-term growth rather than financial engineering for short-term gains.

Case Study: Successful ETA

To illustrate the potential of entrepreneurship through acquisition, consider this example:

John, a former management consultant, acquired a niche manufacturing business for $8 million:

• $4M bank loan
• $1M seller note
• $3M equity from investors (John retained 25% ownership)

The business had $10M in revenue and $1.6M EBITDA at acquisition. Over 7 years, John:

• Improved operations and expanded to new markets
• Grew revenue to $25M and EBITDA to $4M
• Paid off all acquisition debt
• Sold the business for $24M

This resulted in a nearly 10x return on invested equity and allowed John to generate significant personal wealth while gaining valuable experience as a CEO.

The Future of ETA

Entrepreneurship through acquisition has grown in popularity over the past decade, driven by:

• Increased awareness through university programs
• Aging baby boomer business owners looking to sell
• Attraction of Millennials to entrepreneurship
• Low interest rates making acquisitions more feasible

As more success stories emerge and the model becomes more established, ETA is likely to continue growing as a path to business ownership. However, increased competition for quality acquisition targets may make it more challenging for buyers.

Conclusion

Entrepreneurship through acquisition represents a unique path to business ownership that bridges the gap between traditional entrepreneurship and corporate careers. For the right candidates, it offers an opportunity to become a CEO and equity owner in an established small business without taking on the extreme risks of a startup.

While not without challenges, ETA allows aspiring entrepreneurs to leverage their management skills and experience to grow existing businesses rather than starting from scratch. As more professionals become aware of this option, it's likely to play an increasingly important role in facilitating small business ownership and economic growth.

For those interested in exploring ETA further, resources like Harvard Business School's "Think Like an Entrepreneur, Buy Like an Investor" course and Ruback and Yudkoff's book "HBR Guide to Buying a Small Business" provide valuable insights into the process. With proper preparation and execution, entrepreneurship through acquisition can be a rewarding path to achieving the dream of business ownership.

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