If you follow me on Twitter, you'll see me often call out a few particular companies based in the Nordic region of Europe. My deep interest in these businesses is due to them having "perfected" their unique "micro" small business acquisition strategies. We'll discuss our favorite of these serial acquirers today, Indutrade, and will comment on how their success & approach has deeply influenced elements of our plan to acquire dozens of "micro" small businesses in Japan. Notably, this post is not meant to be an in-depth analysis of Indutrade, but rather to highlight some of the more salient, powerful, and perhaps overlooked features of their business model.
Worth highlighting, many of the insights shared below regarding Indutrade's strategy & structure is sourced from a December 2011 study by Sofie Eliasson of Jönköping International Business School, entitled "Synergies in Mergers and Acquisitions: A Qualitative Study of Technical Trading Companies". Happy to share - just shoot me a note.
Indutrade was founded in 1978 in Stockholm, Sweden. Through its over 200 subsidiaries today, the company sells high-tech products and solutions globally, though predominately in Northern Europe. Its shares trade in Stockholm with a current market cap of around $4.3Bn USD. LTM revenue as of 12/31/19 clocked in at ~$1.9Bn, with operating income rounding out to ~$207M & free cash flow at $144M. The company trades at roughly a 28x P/E & an 18x Enterprise Value / EBITDA multiple.
The below chart shows Indutrade's stock performance vs. the S&P500 from 1/1/2010 to 2/7/2020. Its shares have outpaced the S&P500 by about 2.8x during this period.
During 2019 + January of 2020, Indutrade acquired 19 "micro" SMBs with aggregate sales of ~$186M, or roughly $10M per acquired company. The smallest company it acquired during this time period had about $3M in sales, while the largest had almost $33M.
An overview of a portion of Indutrade's portfolio:
Notably, Indutrade, as a whole, generated organic sales growth of just 2% during 2019, with total overall sales growing by 9%. EBITA margins hover at just shy of 13% today.
I'll leave it to you to dive a bit deeper into the company's financial performance and like. For now, we'll move on to discuss the ins-and-outs of their execution strategy & overall operational approach.
The Head Office
While presumably more developed today, during the years following the Financial Crisis of '08 & '09, Indutrade's corporate office was staffed by just 9 professionals overseeing almost 4,000 employees across 150 subsidiaries in over 30 countries. At least at the time, when succinctly describing the company to outsiders, executives referred to Indutrade as a "technical consulting company" to SMBs.
The Acquisition Process
As it relates to Indutrade's predominately buy-and-hold acquisition strategy, management exclusively focuses on niche "technical problem solvers" selling usually proprietary products alongside a strong technical expertise and a demonstrated history of profitable operations. The smaller the "total addressable market", the sharper the focus on a limited number of products, the more critical the established customer & supplier relationships - in essence, the more of a "highly local monopoly" a SMB is, the more intriguing the target becomes for Indutrade.
Acquired companies generally have between 15 to 40 employees, most of whom are sales engineers or technical consultants. Indutrade's subsidiaries largely fall within the flow technology, fluid & mechanical solutions, industrial components & measurement + sensor technology sectors - all very high-tech "niche" markets. Importantly, ~70% of Indutrade's SMBs, in fact, sell products made by other companies - that is very critical to realize & something that is often overlooked.
So, how do they go about actually executing a transaction?
First, corporate HQ usually has an active list of several hundred targets it routinely engages. Relationship building is critical, with some deals culminating after years of courting an owner-entrepreneur. Potential acquisitions with sales of <$10M or so are sourced by existing subsidiary management teams / general managers, with larger targets being the focus at the corporate parent level. To stress the former point, one of the core duties of subsidiaries is to actively source new deals - this is essential to Indutrade's acquisition strategy (and very similar to that of Constellation Software, another "role model" of ours). At any given point, Indutrade management is in active acquisition discussions with 10 to 20 SMBs.
When evaluating a company, Indutrade prides itself on valuing the relationship with the owner-entrepreneur & his / her employees. As they admit, the people make all of the difference. To that end, the Indutrade deal team spends the most time assessing who are the most critical team members & how they can ensure their continued involvement in the business post-close. Usually, a "key-man" risk exists in the founder / owner, who is sometimes retiring. In such instances, Inutrade requests that the owner remain involved for a few additional years (leveraging an earn-out to ensure this), while having him / her actively groom what is, most often, an internal successor.
To summarize, the following are essential assessment criteria for Indutrade when evaluating a potential acquisition:
- Niche market focus with subsequent leading "local" market position
- Quality, depth, breadth & degree of "value-add" provided to existing customer & suppliers
- Extent of the proprietary nature of the, ideally limited, product range
- Financial position, particularly around margins & "return on working capital"
- Continued involvement of key employees and / or ability to recruit / promote replacements
Assuming an SMB "checks the boxes" during due diligence, Indutrade will usually acquire the business for an ultimate 4x to 6x "net profit", a premium, in most cases, that is specifically meant to "leave money on the table" (similar to Sam Zell's approach to deal-making) to encourage key personnel to remain involved in the business post-close + to be a tangible show of good faith. Earn-outs are frequently utilized, while deals are usually an exclusive process with no other competitive bidders. This is partly due to few other viable buyers being interested in, let alone capable of, acquiring such small, lower growth assets; however, it is also a testament to Indutrade's direct, simple & honest dealings with SMB owners - a valuable & valued differentiator in the eyes of sellers. Before closing a deal, sign-off by a candidate's main suppliers is also required.
Indutrade adheres to a highly decentralized portfolio management approach. Upon acquiring a business, the particular SMB is expected to operate largely "as-is". Its name, culture & normal day-to-day operations go largely untouched by Indutrade HQ. Moreover, a subsidiary's President, it is believed, knows how best to adapt & manage the business "on the front lines" - decisions are to be made as close to the market as possible. As such, each subsidiary President has total responsibility over every aspect of the business with a supporting team in place around him / her, including a Head of Sales / Marketing & a CFO. Importantly, all business units have individual profitability & growth targets with sometimes vastly different reinvestment strategies and priorities across each. The degree of portfolio decentralization goes so far as to having each subsidiary select their own IT system to them being entirely free to directly compete with one another. The only real operational "overlap" among the business units is the monthly reporting requirements sent to HQ.
The parent company's role is to support the subsidiaries with critical operational know-how, financing, business development & "management by objective". A single, in-person, annual meeting occurs between HQ & each subsidiary in addition to a yearly multi-day meeting of all subsidiary Presidents. With regards to "management by objective", HQ sets simple, subsidiary specific goals in terms of profit margins, growth and "return on working capital". Internal benchmarking (which is set up as an internal "competition" among subsidiaries, whose tracked metrics are shared for all others to see) and an increasingly formal knowledge sharing practice among subsidiaries are employed as well. Most of all, an acquired SMB gains an owner who deeply understands the problems & opportunities that small businesses generally face.
One fascinating element of Indutrade's portfolio management process is to actually break up a subsidiary if it grows too large / broad. The belief is that the smaller an SMB, the more nimble it can be; as it grows beyond its core "niche" size & focus, bureaucracy, politics and complexity make it increasingly difficult to efficiently execute. I'll quote a somewhat dated interview of Claes Hjalmarsson, Group Controller at Indutrade, who explains this mindset (& why synergies among subsidiaries are not pursued):
"There is much talk about cost synergies, but we do not believe in it, even if it surely would be possible to calculate wins if some efforts were done. We think that these types of companies [that we acquire] have a large value in that the employees working in the warehouse also have coffee breaks with their CEO a couple of times a week, that they know what is going on in the business. The warehouse staff takes care of customer inquiries, accompanies the sales persons’ customer presentations and is absolutely integrated into the whole business."
A truly small business, and one that is best only as a small business.
That being said, Indutrade - similar to another one of our "role models", Constellation Software - occasionally elevates career-driven & high-performing subsidiary Presidents to the role of business group manager to oversee a growing sub-portfolio of SMBs.
To sum up Indutrade's approach, they are an organization defined by their entrepreneurial culture, which reaches deep into the individual subsidiaries, coupled with a pervasive discipline for simplicity throughout. Their core belief is that the individual SMB, once existing financial risk has been "eliminated" (i.e. assumed by the parent company), is most optimally performing when pursuing its aims in a way and in a market niche that only it knows best. So, they largely leave their portfolio SMBs to power onwards on their own, just as they have done for years before ever joining the Indutrade family.
Building "The Indutrade of Japan"
Now, while we are some of Indutrade's biggest fans, we are not suggesting that we will blindly follow their strategy to a T in Japan. Japan, in particular, is a very idiosyncratic market with unique nuances that need to be understood & addressed to most successfully operate in the country.
One thing worth nothing, however, is that, in our view, a good bit of Indutrade's success is likely tied to the cultural realities of the Nordic region. For example, group continuity is generally preferred, while individual financial success is less glorified than in other cultures, like, say, in the U.S. The region is also known for its well educated workforce & a deep expertise within technical fields & industries.
Similarly, Japanese culture is defined by a desire for group harmony + consensus, honoring commitments & relationships and conservatism in both risk-taking & individual wealth glorification. Sustainability & preservation is prized far more than striving for the incremental upside. Why risk harming what exists today and has taken years to build for something "more" that is not truly needed. Like those in the Nordics, the Japanese workforce is highly educated, conscientious & known for its expertise within highly technical sectors, such as robotics, electronic components & precision technologies.
The larger points being made here are that when developing & assessing an SMB acquisition strategy, structure & approach, accounting for the inherent cultural nuances of a region or country is incredibly important. Furthermore, the cultural values and realities of the Nordic region compared with those in Japan are intriguingly similar, making a study of Indutrade's business model all the more powerful for our planned efforts in Japan.
So, to that end, how will we look to build our reputation in Japan among SMB owners?
- Always offer fair prices
- Honor commitments + legacy, while deeply valuing relationships
- Never sell an SMB once acquired
- Meddle little in portfolio companies post-close
- Be a safe, honorable, long-term home for one's lifetime of work
We could write far more on the general topic of "borrowing" from Indutrade as we look to execute in Japan....and we will...but, we'll save such thoughts for future posts.
For one of our forthcoming posts, we are very eager to discuss & further explore the goal of developing a highly quantitative, deeply data-driven investment underwriting process that will be unmatched in Japan within our targeted “micro” SMB industry vertical(s). This is something we think is very achievable, is very exciting & is a powerful, increasingly enduring, differentiated "moat" as we scale.