Analysis paralysis is one of the biggest challenges I see new buyers face and is likely a big reason why 90% of buyers never close on a business.

However, I don’t blame them. When it comes to buying a business, the possibilities can seem endless – and overwhelming.

How do you know what type of business is right for you?

Should you go for a low-risk cash-flow machine or take a chance on a high-growth opportunity with major upside potential? On second thought, maybe you’re the type who loves a challenge and sees potential in turning around a struggling company.

These questions and this process of self-evaluation are important to consider, because you do want to find a business that’s aligned with your unique skills and aptitudes.

In this article, I’ll walk you through a proven framework to help simplify the decision-making process: the Acquisition Entrepreneur (AE) Matrix. I wrote about this matrix at length in my book Buy Then Build.

But why a matrix? Why couldn’t it be just a list?

Well, because I have an MBA, and no MBA is complete without a four-quadrant matrix.

Source: The Armchair MBA

You’re welcome.

Jokes aside, the AE matrix allows us as buyers to evaluate a business we’re considering acquiring – specifically, figuring out the upside, assessing the risk, and, at the risk of sounding dramatic, making one of the biggest financial decisions of our lives.

There are two axes on the AE matrix: a growth axis and a value axis.

If you’re familiar with the stock market, these axes can be compared to stocks in the stock market, where there are growth stocks and value stocks.

First, in the low-growth, low-value quadrant we have eternally profitable businesses. Next, the low-growth, potentially high-value businesses are turnaround businesses. Moving up the growth axis, we have high-growth businesses, which have high-growth (it’s in the name) but relatively low value potential. Lastly, platform businesses have the potential to be both high-growth and high-value.

Whether you’re looking for a stable investment or a high-risk, high-reward venture, understanding these dynamics will help you make an informed decision about what kind of business is right for you. (Stick around until the end, where I share what type I recommend for most acquisition entrepreneurs.)

 

Eternally Profitable Businesses aka Cash Cows

In the matrix, the quadrant with the lowest value and and lowest growth is what I call “eternally profitable” businesses.

Eternally profitable businesses are the “cash cows.”

Although there may not be much growth potential, they’re stable and dependable, with low risk of disruption. These are the “boring” businesses (or as I prefer to call them, “unsexy” – because there’s nothing boring about a cash cow). Customers have often been loyal for years, and as long as the service is good, they’ll stick around. This customer loyalty limits the threat of new competitors.

This kind of business is as close to a passive investment as you can get in the acquisition world, although acquisition entrepreneurship is never truly passive.

Richard Ruback and Royce Yudkoff, the two Harvard professors who wrote HBR Guide to Buying a Small Business, prefer to look for eternally profitable businesses in acquisitions, as these are the types of businesses that serve needs that won’t go away.

 

Examples of Eternally Profitable Businesses

The very popular laundromats and car washes fall into this “eternally profitable” category. Technically, car washes trade more like real estate since they operate on cap rates rather than multiples of earnings, but don’t get too caught up on that.

Other examples of eternally profitable businesses include snow removal, landscaping, plumbing, preschools, and even boat docks. I actually own several pre-K schools in the Midwest, where demand for high-quality early education remains constant year after year.

The key here is dependability and stability. While there may not be much upside in terms of growth, these businesses consistently generate cash flow, which means they can hold significant value. The predictability of that cash flow makes them appealing acquisitions for those looking for a low-risk, steady return.

 

Turnaround Businesses aka Fixer-Uppers

Now, let’s shift to the opposite end of the spectrum: turnaround businesses.

Turnaround businesses are the “fixer-uppers” of the acquisition world.

These are companies in serious trouble – sometimes even bankrupt – where you’re essentially buying them at their book value rather than paying a multiple of earnings (because there often are no earnings).

When you’re looking at a turnaround opportunity, the focus shifts to the balance sheet. You would need to ask yourself: What is this business worth in terms of assets? What kind of infrastructure does it have? In some cases, you’d even consider its liquidation value. This is a more advanced strategy because it requires a deeper understanding of how to revitalize a struggling company.

A lot of people are drawn to turnaround businesses because they think they can acquire them cheaply, especially during economic downturns. I’ve been through a few recessions, and I can tell you – while the idea of buying distressed businesses sounds great, it’s far riskier in practice than it looks on paper. Most people shy away from trying to catch a falling knife.

However, the potential for value creation is significant, if you’re able to master the basics and if there’s an existing product-market fit. If you’re able to come in and optimize efficiencies, provide strong leadership, manage the team effectively, and foster an entrepreneurial culture, you can transform a distressed business into a valuable asset at a relatively low cost. The risk, though, is that if you overpay, the business might not survive long enough for your efforts to bear fruit.

The common saying “you make money on the buy” is often misapplied to acquisitions in general, but in the turnaround segment, it’s especially true. The key is buying the business at such a low cost that you have enough runway to execute your turnaround plan before it’s too late. While the other types of businesses we look at don’t rely as heavily on this, in turnaround deals, the execution and timing of your purchase are critical to your success.

 

High-Growth Businesses aka Gazelles

Next, let’s talk high-growth businesses.

A high-growth business is one that is growing at an exponential rate.

The key drivers of value are simple: revenue and earnings growth. These businesses are able to command higher-than-average valuations in the market because of their strong upward trajectory. The idea behind this is that sustained growth over time signals a thriving company, even if it’s based on the (often flawed) assumption that past performance guarantees future success.

When a company grows at over 20% year-over-year for multiple years, it becomes incredibly valuable. In fact, if a business starts with over a million dollars in revenue and maintains 20% growth for five or more years, it can be considered one of the most valuable companies in the market. Verne Harnish refers to these high-performing businesses as “gazelles” due to their agility and rapid expansion.

Because high-growth businesses are in such demand and the forecasted earnings are much higher than they currently stand, these businesses come with a higher price tag, often requiring you to pay a premium multiple of earnings to acquire them. Unlike turnarounds, the key here isn’t to overhaul the business – it’s about keeping the current value drivers intact and continuing to ride the growth wave. Changing too much could jeopardize what made the company successful in the first place.

The challenge with high-growth businesses is that the stakes are higher, especially when it comes to financing. If you jump off the growth wave prematurely or if your cost of capital is too high, you might struggle to generate the returns needed to justify the acquisition. The trick is to maintain the momentum, either by keeping the existing management team or ensuring the core drivers of the business remain intact.

 

Best of Both Worlds: Platform Businesses

Finally, we have platform businesses.

A platform business, a concept borrowed from private equity, is the first company a firm acquires in their specific industry or vertical. This is their entrance into that industry, and this is referred to as a platform because they intend to grow on top of it.

In order to do that, the goal is to streamline expenses, boost efficiencies, and hopefully grow the top line, using the platform as a base to acquire additional businesses in the same vertical. This strategy allows for scaling through acquisition, ultimately creating more value while paying down debt and positioning for future sales.

In the context of acquisition entrepreneurship (AE), the idea of a platform business is slightly different.

Here, the platform represents a foundation for the entrepreneur or operator, whether you’re hands-on or a passive owner with a manager in place (although typically, the buyer of the company is usually the one who will operate as CEO).

Platform businesses have a higher upside than eternally profitable businesses, which invite you to bring your unique skills to the table – whether it’s sales, operations, marketing, or something else – and make a meaningful impact. In fact, with these types of businesses, it’s especially important for you to match your aptitude and activity goals with the specific growth opportunity a business presents. The opportunity to create value and a foundation that you can build upon is defined through your unique skills and motivation.

 

What’s the Right Business for You?

With acquisition entrepreneurship, the goal is to create more value and maximize the return on your investment, through earnings and when you eventually sell the business. In order to find this, you’ll want to seek a business that has greater upside potential than an eternally profitable one.

High-growth businesses offer significant returns but come with the challenge of maintaining that growth – and the risk of paying a premium price. Turnaround businesses, on the other hand, present the risk of recovery; you’re trying to pull a struggling company back from the brink, which requires considerable effort and risk.

A platform business, however, is a unique opportunity.

By acquiring a company at fair market value, you can leverage your specific skills (whether or not you’ve owned a business before) to enhance its value. This business becomes your foundation for growth, where you drive the change that increases its worth. At the end of the day, it’s all about what you bring to the table and your ability to turn that company into something greater.

Ready to acquire a business in the next 12 months? The Acquisition Lab is your first stop. Reach out to us today and get on the fast track to becoming an acquisition entrepreneur.