A DTC investor’s perspective: 10 problems stopping you from getting acquired

If you’re considering selling your DTC brand at some point in the future, it’s critical to understand what investors are looking for long before you start looking to be acquired.

By laying the financial and operational groundwork early on, you can avoid running into common problems that send investors running in the other direction.

Our team sat down with Jeremy Horowitz, DTC investor, to bring you the inside scoop on 10 reasons why investors walk away from deals and how you can set yourself up for a successful acquisition. 

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Key man risk

“All strong eComm teams operate super lean and efficient, but one problem that always exists is that there’s one person stringing together 4-5 inventory spreadsheets with import functions. It’s so that they can understand what the current levels are and where the inventory lives. But in an acquisition, this is unacceptable. We can't have one person manually tracking everything in one place. We've had to let deals go just because we weren't confident we'd be able to transition the inventory process since it was basically in one person's head.”

Having a centralized source of truth that cross-functional stakeholders have real-time access to can help automate processes, reduce manual work, and ensure continuity should an employee leave the organization.

One example of this is the power a warehouse management system can provide, guiding pickers to the correct locations in the warehouse without relying on tribal knowledge.

Cost of inventory at scale

“One factor that killed multiple deals for us: brands not knowing the COGS of their inventory at sale. It's vital to accrue your COGS expense when you actually sell the product. That way, you can get the proper estimates so that we can understand in the trailing 12 months, sales volume, inventory value, and actual gross margins against those sales. In valuations and exits, properly understanding the valuation on your EBITDA multiple and your true gross margins is essential. Understanding what POs will be placed, when to sell them, and having proper accounting will be crucial for the success of your exit.” 

Understanding which inventory valuation method you’re using and maintaining accurate COGS across sales channels, warehouses and entities is key to setting up your brand for a successful acquisition.

Using an inventory management system or an ERP with inventory management functionality can help ensure you have an accurate understanding of your inventory numbers prior to selling your company.  

No viable channel expansion

“Operating in multiple channels is crucial to getting the evaluation that you want. Every acquirer wants to see that you've had success scaling in DTC + at least one additional channel. For most DTC brands, the core is either Shopify or on Amazon. But we also want to see that you've gotten traction and can expand into retail and/or marketplaces so that there's meat left on the bone for us. We don't want to have to go up and stand up new retail channels, nurture new relationships, and establish new inventory and processing. We want to step into something that's already been tested and that's already had success. The more that you can do that (and the more channels you can do it in) with clear processes, the more successful you're going to be in getting the valuation that you want at exit.”

Before expanding into new channels, it’s important to ensure you have the right infrastructure in place to enable proper inventory allocation and order routing.

Understanding the different requirements for order fulfillment and packaging is another important aspect to have lined up prior to spinning up a new channel.  

See related: Scaling a high-growth business through wholesale: Caraway's journey

Lack of Standard Operating Procedures (SOPs)

“Something that kills a lot of deals or greatly reduces valuations is a lack of SOPs and documentation around using tools. A classic example: purchasing inventory management and how you distribute your inventory levels into channels.  I can’t emphasize this enough: having those ops extremely well documented with beyond clear SOPs is the difference between a great exit and a rough diligence process/valuation. Buyers do not want more work in diligence figuring out what truth is. The clearer SOPs are, the lower our risk is—we can understand how the business truly operates.”

Creating standard operating procedures can also enable your team to thrive prior to selling your company. If a new person is hired or someone has to cover another employee’s responsibilities while on vacation, SOPs can help streamline this process and reduce unexpected confusion or delays. 

Lack of redundant supply chain

“A huge valuation boost for businesses is having redundant supply chains and multiple suppliers, especially for their key products that drive the majority of their revenue. For a 7x+ EBITDA multiple, you need to have a redundant supply chain with multiple suppliers. Basically, if an act of God happened tomorrow to one of them, you need to be able to produce and ship your product—with a smooth system around all of it.”

Having a system of record that enables tracking of multiple price lists and mapping of products to multiple suppliers can enable efficient inventory planning and purchasing.

This will also help diversify your supply chain and mitigate risk should one of your suppliers be unable to meet a deadline. If you’re unsure how to find new suppliers, there are resources like Sourcify that can support you. 

Not knowing the value of inventory at exit

“One true deal killer is not knowing inventory value at the time of purchase. This is sadly common, and it shows us the brands had a weak gauge of what inventory they had on hand, plus what inventory was in raw materials or at various stages of production. Meaning they couldn't accurately show the value of that inventory. Considering that in almost all eCom/Retail exits, inventory is valued separately from the business valuation (and is usually additional cash laid out), the lack of understanding there will make us say “no” immediately.”

Inventory management can be challenging, especially for merchants selling across multiple channels, storing inventory across several locations or managing multiple legal entities.

Ensuring your system of record can support the tracking of finished goods and raw materials across multiple locations and entities is essential for setting you up for success. 

Lack of channel diversity

“Lack of channel diversity is a major issue that comes up in exits that greatly reduces valuations. If you don't have multiple marketing channels driving your business, or 50%+ of your revenue comes from one marketing channel, it’s a huge existential risk to the business. One that greatly reduces the valuation. If any platform decides to shut off your business or there are issues with your account, your business is done tomorrow. No acquirer is willing to risk  significant capital with that type of risk.”

Creating a multichannel customer experience can make your business more attractive to investors and enable you to tap into new customer bases.

The more you’re able to diversify your channel mix, the less risk you take on should a channel become obsolete. Some popular channels to diversify your sales across include Shopify, Amazon, Etsy, eBay, TikTok Shop, Wayfair, Faire and big box retailers via EDI. 

Lack of forecasts

“A lack of forecasts with clear, believable growth strategies is a huge red flag that reduces valuations. Especially if you want to have an 8–9+ figure exit, you need to show that the business can operate and run without the acquirer needing to step in and build a business plan from scratch. They want to see this business is firing, that it has a great growth trajectory, and that there's a clear path to larger profits or exits down the road. Plan on not only how the business will hit forecasts from the revenue- and sales-driving perspectives but also the inventory and the cash flow perspectives.”

Many leaders find themselves spending too much time “in their business,” fighting fires and playing catch-up.

By setting up the right processes and infrastructure and empowering your team to manage the day-to-day operations, you can take a step back and spend more time thinking about the future. 

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See related: How Grunt Style focuses on the future with Fulfil

Messy books

“Having improper or messy bookkeeping is another huge red flag that takes a ton of time in the acquisition process. The seller must clean up the books for the acquirer to understand where the business actually is. Having clean, tight, well accounted for, certified books is crucial going into an acquisition. It can either kill a deal if it's too poor or it just really slows down the process. The acquirer will probably reduce the multiple that they're willing to pay because of the additional headaches and expenses on their side.”

DTC brands have high transaction volumes, and unique accounting requirements, making it critical to leverage an eCommerce ERP purpose-built to handle the financial needs of DTC brands.

Native integrations with payment gateways like PayPal, sales tax compliance software like Avalara, and buy now pay later solutions like Klarna can help automate reconciliation, reduce manual work and improve the accuracy of your books.   

Misrepresenting major numbers

“Misrepresenting numbers kill deals because it completely erodes trust. For example, a founder says their gross margins (or contribution margins) are 50% but they’re actually 45% because they’re using broad-based averages. Maybe they're not accounting for recent product cost increases or fulfillment increases. This completely reformulates what the acquirer thinks the business is worth and dramatically changes the models that they started building in their head for future cash flow. Non-negotiables are accurate KPIs, including COGS, fulfillment costs, and gross margin.”

Having an ERP with accurate, auditable financials is essential for setting you up for success when going through an audit or looking to get acquired.

The approval workflows associated with a system of record can help add confidence around the accuracy of your numbers and provide auditability to quickly identify any irregularities associated with any records in the system.  

See related: How Ridge uses Fulfil to get audited financials

Preparing for acquisition

If you’re considering selling your business in the future, there’s no better time than the present to start preparing and setting yourself up for success.

Getting ahead of these common problems before you encounter them yourself will help reduce friction and disappointment when engaging with investors. An ERP like Fulfil can help solve many of these common problems that cause investors to walk away from deals.

Schedule a demo below to learn more about Fulfil can help you prepare for an acquisition.   

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