During my time running my prior search fund, I tried a number of sourcing strategies. In this post, I will share my experience and thoughts across each. I have put most focus on proprietary and brokered deal flow since these are the most widely used methods, but I have also touched upon others as well (i.e., public deal sites, conferences, warm introductions). Each of these can be used in conjunction with one another, so it is not necessary to choose only one, but it may be important to determine one’s split of attention across them if searching.
Key topics:
- Proprietary deal flow and pros / cons
- Brokered deal flow and pros / cons
- Public deal site deal flow and pros / cons
- Conference deal flow and pros / cons
- Warm introduction deal flow and pros / cons
1: Proprietary
Proprietary outreach is seen as the most desirable method in which to find a deal because it theoretically means that you're finding a company that is not yet listed for sale. However, in my experience, it is also the most challenging, and each individual proprietary deal often has a lower probability of ultimately proceeding. Proprietary outreach involves finding lists of companies, contact information, drafting emails, sending out emails, and potentially following up with Linkedin messages or cold calls (depending on how in-depth you go).
Why do I think that it is often a method with lower probability of success? When you're reaching out to someone who hasn't hired a broker, you're hoping that many things align. They have to be ready to sell, at the right time, at the right price, to you as a buyer. Most of the time, someone whom you're reaching cold is simply not ready to sell or hasn’t tested the market enough to know what their business is worth.
Pros of proprietary:
- Hidden gem: You may sometimes come upon a great company that has not been found by others, simply because it is not yet listed with a broker or by any exchange. Note: This is increasingly rare these days, because many other buyers also have the same idea about proprietary outreach and are also contacting business owners
- Favorable deal structure: If you are able to win a proprietary deal, the deal is often better because you may be able to align on a more favorable deal structure with a better valuation, given that there is less outside competition for the deal
- Relationship with seller: You will be able to build a stronger relationship with the seller, given that there is no broker guarding access to the seller
- May lead to a broker connection: Sometimes proprietary sellers do eventually hire a broker or advisor. Even if this turns into a process as a result, since you showed specific interest in that deal, you will likely get connected to the broker, who can bring you into the process and also share other deals down the line
Cons of proprietary:
- Data and financials not ready or available: Since they're not ready to sell, sellers may not have clean financials ready, so you may have to spend extensive time cleaning up their financials, asking for data that is not available, or trying to estimate things such as accrual-based revenue, if they only provide cash-basis accounting. Sometimes even getting the NDA signed and receiving financials can take weeks, and at some point the seller could become unresponsive or decide not to share the data, since this isn't a big focus for them at the moment
- Sellers have no real sense of market valuations: If the seller is considering a sale, they often don't have a sense for market valuations, so even if you give them a fair offer, they won't know that it's fair - they may think that you're offering them too low of a valuation, and prefer to wait to see what higher offers they could get (and may end up running a brokered process in the end anyway)
- Lack of awareness of buyer types and preference: The seller may not have explored the marked extensively enough to know about the different types of buyers and why they may want to choose you over another option (e.g., private equity, search fund, strategic, growth equity, etc). This leaves you with the risk of them changing their mind later
- Risk of seller getting cold feet: Even if they do choose to move forward, because they have not hired a broker (by definition of being a proprietary deal), it is possible that they may have doubts about selling and could get cold feet as you go further down the process. There is nothing worse than spending weeks diligencing a deal, spending money on quality of earnings and other diligence, and the seller then deciding that they aren't actually ready to sell and walking away. This will waste your time and money
- Proprietary is no longer a differentiator: In prior years (e.g., prior to 2021), email outreach was still fairly unique, and you could get sellers' attention by contacting them via email. Since then, almost all serious buyers have started doing cold outbound strategies via email, and sellers tell me that they receive 10-20+ emails from private equity firms, searchers, family offices, and other buyers per week. As such, I have found it increasingly hard to differentiate in proprietary emails, and if a seller does decide to speak with you, they often have made a blanket decision to "take the calls," which means that they are likely responding to all of the other buyers who are contacting them, which defeats the purpose of proprietary. If the seller is actually determined to sell and starts taking the other calls, it becomes similar to a brokered situation in that all the buyers start issuing offers, and the seller then has their pick of the best and highest offers, which makes it hard to win the deal
As such, I find that although there are plenty of proprietary deals at the top of the funnel because sellers are curious to speak with a potential acquirer, getting them through to the end stage of a deal is much more challenging. That being said, out of the deals that I've signed LOIs with, 30% have been proprietary, so it is not impossible, but just lower probability.
2: Brokered
Brokered deals solve many of the challenges of proprietary in terms of providing data and signaling seller intent. However, they come with their own unique set of challenges because brokered deals are run as part of a competitive process, making it more challenging to win these deals.
Pros of brokered:
- Intent and motivation: Brokered deals signal intent and motivation. Sellers have had to find a broker and pay a retainer fee to sign up with them, so you can tell they are serious about selling because of this financial and time commitment
- Materials and data provided in advance: The brokers handle the initial heavy lifting of reviewing and preparing the financials to be sale-ready, so when you receive the data, it will be cleaned up, with a clean CIM and set of financials ready to be shared. If you have questions, the brokers will be available to answer them
- Organized process: Most brokers run a process, which means that there will be a clear set of deadlines for initial bids, final bids, and LOI signature. This means that even if you aren't chosen, there will at least be a timeline by which you will be informed of the outcome, so that you can spend your time elsewhere if the deal is not proceeding rather than continuing to wait
However, there are also a number of challenges with brokered deals, namely that they can be competitive (and therefore high-valued), and that they can take a long time.
Cons of brokered:
- Competition, meaning high valuations: Good brokers run good processes, which means a wide reach and multiple bidding parties - and this usually translates into a high valuation. For most buyers (particularly search funds and self-funded searchers), this can be a deterrent, because our returns are predicated upon a low purchase price. I often find that the very best companies are "unwinnable" because many other buyers also see the same upsides in the deal, and many of them have lower return targets, and therefore, are willing to pay higher valuations and win the deal. Many of the more "winnable" deals often have solid fundamentals, but may have 2-3 imperfections that make it unattractive for other buyers, but may be things which you are able to get comfortable with
- Process can take months: The brokered deal process can sometimes take months, without a clear answer on whether you will be progressing or not. The process from going to market, to selecting a buyer, to signing an LOI can sometimes take 4-6 months. The process often involves a company being taken to market (i.e., financials and CIM made available), then IOIs (indications of interest) being due 1-1.5 months later, then LOIs (letters of interest) being due 1-1.5 months after that, then several weeks for a buyer selection process, then several weeks for the actual LOI negotiation with the selected buyer (which sometimes may not work out, and the company goes back to its other buyers). All in all, the timing from process launch to LOI signature usually takes a minimum of 3 months, and often more, unless the process is less structured (which can be the case with smaller brokerage firms or individual brokers). I find that it's typically best to do the up-front diligence work that is needed to get comfortable issuing an offer, submit the offer, and then minimize effort until you hear back from the brokers. Often the feedback is that the offer is too low, so it may not make sense to do too much up-front work until you know that you are a finalist to proceed
Out of my signed LOIs, 70% have been brokered, so it is a core part of my strategy. However, it is important to note that some of these brokered deals have come via a proprietary strategy, in the sense that I emailed a seller, they had hired a broker, and that broker brought us into the process. As such, I view proprietary and brokered as going hand-in-hand.
The proprietary outreach mentioned above will help, since you will naturally meet brokers hired by the companies that you contact. Even if you don’t proceed with the specific company that you contacted, many deals are shared with you via brokers who have you in their network, so it is important to build up a broker network so that you receive other deals once they go to market.
3: Public deal sites
By public sites, I am referring to sites such as BizBuySell, Axial, and other marketplaces where companies are listed for sale. Public listings can vary in effectiveness, but I often find that they have a similar challenge as brokered processes, because they are typically posted by brokers who are using the listing as a way to generate additional interest, but are still running a process. Furthermore, because the companies are listed publicly, there is usually a huge amount of interest, which both makes it hard to get attention from the broker and seller, and also drives up the valuation.
Pros of deal sites:
- Direct access to listings: You get access to listings without needing the initial broker connection
- Helps build your broker network: It helps to create a network of more brokers that you can connect with for future deals. For any brokers that you connect, you can ask them to add you to their database so that you are notified of other deals they bring to market in the future
- Valuation is (sometimes) provided: Many of the deals on these sites have a listed price (in some cases, not all), so you can quickly determine if the deal is the right size and fit for you from a valuation standpoint. Target valuation tends to be provided on sites such as BizBuySell, but is not usually provided on sites like Axial, which are often larger deals being run in more formalized processes
Cons of deal sites:
- High valuation or unfavorable structure: High amount of buyer interest drives up the price, or if the price is set, it at least makes it difficult to get a more favorable structure
- Hard to get attention: Hard to get seller attention given that there are usually many bidders
- Similar to brokered deal: Similar cons as the brokered deal cons described above
Overall, I think that public listings are a core part of a search strategy, but are definitely not the only thing you should rely on. I have typically used them to augment my proprietary and brokered deal flow, and I have found some interesting deals from these sources.
4: Conferences
Conferences are useful methods for diving deeper into an industry quickly, especially if you have just shifted to focus on this industry. You can quickly meet many industry participants this way and get introduced to potential "river guides," who can put you in touch with companies that may be selling.
Pros of conferences:
- Build a network: Meet many industry participants quickly
- Find river guides: Find potential "river guides" to guide you to potential acquisition targets in the space
- Determine your level of interest in the industry: Determine if you like the industry and want to acquire and run a company in this industry
Cons of conferences:
- Time and cost: Can be time-consuming and expensive to attend and travel
- Business owners may not be looking to sell: Many attendees at conferences may not actually be looking to sell. Business owners who attend conferences are often motivated to grow their companies, rather than being checked out and ready to sell - as such, many of them may be years away from selling
- Not the right target audience: Many participants are employees at companies, rather than the founders or CEOs, so they are not the right people approach about a potential sale
As such, I view conferences as useful for meeting industry participants and people who can introduce you to others, but not necessarily as the best tool for actually finding motivated sellers at the conference itself.
5: Warm Introductions
Warm introductions, if the introducer truly knows and understands what you are looking for, can be effective. You can often find these "river guides" at conferences or via your network, and ask them to introduce you to companies that fit your criteria that may be selling. To further motivate them, you can sign a referral agreement with them to provide a deal fee if the deal that they bring to you ends up closing.
Pros of warm introductions:
- Pre-vetted companies: Companies are "pre-vetted" by the introducer, meaning that they have a higher likelihood of meeting your criteria and being interested in selling
- Higher trust: Higher trust between you and the seller, given that you have a common contact
- Not part of a brokered process: Not part of a process, which has the same benefits as a proprietary deal
Cons of warm introductions:
- Lack of exact understanding of your criteria: Experts may not completely understand your criteria, and may put you in touch with companies that are either not a great fit, or where the valuation is very far off. As an example, when I was looking extensively in the software space, I often met founders who said that their friend was selling their company and put me in touch. However, these companies were often either 1) VC-backed, which meant that their valuation expectations were too high, 2) barely profitable, which is okay from a VC-backed perspective, but does not work in search because we are buying consistently profitable companies, 3) had some metrics that were very off (e.g., very low retention and consistently high churn, or B2C business models that were not a fit, etc). These conversations were helpful, but it quickly became clear that there would not be a fit to proceed with a deal
- Valuation misalignment: Even if the company is a fit, the valuation may be off, which means that a deal may not proceed. The introducer may not always have checked about valuation alignment in advance
- Seller may not actually be as motivated as expected: Seller may not be as motivated to sell as the introducer believes, which means that they may waste your time
As such, I find it very important that if you get warm introductions, you very clearly articulate exactly what you are looking for so that you get useful introductions. You may want to have an bullet-pointed list ready to share with anyone who asks.
I hope this was a helpful overview of my findings and experiences with various deal sourcing methods if you are considering developing your own deal sourcing approach.
