Wednesday, January 27, 2010

Response to one of my blog visitor's comments and questions.

I received a long-winded comment from a young man who read my previous post. Below, you will find his comments and questions (highlighted in bold type) and my responses to his comments and questions.

“I am an individual investor (student) that has also become interested in ARC stock. Your blog has been wonderful in helping me get acquainted with the industry. My chief concern with the stock is the viability of the business model. Regarding the reprography shops that ARC has acquired, it seems that the shops have been built to success by the hustle of an enterprising manager such as yourself. Once that manager sells his shop to ARC and leaves to either retire or start another shop is ARC really left with that much value?”

Joel’s response: Since I don’t work for ARC and never have, I can’t speak directly about ARC in my response to the above comment/question, but since I, myself, have acquired businesses and many of my friends have as well, I can speak to this issue from a “generally speaking” perspective. While it is true that successful reprographics businesses (and this, of course, would apply to most all types of “service” businesses, not just to reprographics businesses) succeed, primarily, because of the drive and initiative of the owner(s) who owned the business prior to acquisition, there are usually other ‘team members” (non-owner managers) who were also responsible for the success of the business prior to acquisition. (“Team building” is essential for any business to grow beyond “small.”) Post-acquisition, most acquirers retain the services of the owner, at least for a period of time (some for longer periods of time, some for shorter periods of time – a smooth transition, from the owner to the acquirer, is highly desirable, and most acquirers are well aware of this, and practice this. In addition, since most owners sell because they want to retire or pursue “other interests”, it is certainly necessary for the acquirer to plan for the post-acquisition retirement of the owner who sold the business. To that extent, most acquirers (if not all), will identify non-owner management team members, who either worked for the acquired business or who work for other similar acquirer-owned business units, as candidates for “executive level management positions” (these candidates are intended to replace the owner, when the owner retires, and they are given significant training.) In addition, each acquired company has a certain amount of “brand-recognition”, built over a period of years, and this brand-recognition generally stays with the acquired company, even well after it has been acquired (provided that customers continue to receive attention and outstanding service.) As to larger acquired companies, the owners are often so removed from “actual customer contact” that customers don’t even know who the retiring owner is. Unless one (the acquirer) loses sight (and sense) of what must be done, transition-wise, to keep customers in the fold, post-acquisition, the value of the acquired business truly continues. Sorry for the long-winded response. Let me give you one concrete example. This one is ARC-specific. In December 2007, ARC acquired NGI (HQ’d in Tampa, FL). Post-acquisition, all of the NGI management team members, except for one, stayed on with the acquired, continuing business. Post acquisition, the owner/President of NGI (Greg Williams) stayed on to continue running NGI. While it may well be that he will retire at some point, he is, as he was even before ARC acquired NGI, spending time mentoring and educating his junior management team members. The other point I want to mention about Greg is that he had an extremely high level of passion for the business before NGI was acquired by ARC, and his passion level has not changed, even though the acquisition was completed more than two years ago. Not all owners are driven by ownership. Many “top” managers are driven simply by competitive spirit; they don’t like to lose, they like to win; they know that winning requires “team” and they continue to work on team development, even after acquisition. One other thing I should not fail to mention, this one ARC-specific as well. ARC’’s executive in charge of operations, Snr VP Dilo W (hard for anyone to type his last name) is not only highly intelligent and very business savvy, he is the type of personality who truly values and practices mentorship, education, training and leadership. So, junior management team members, those who “move up” to take over “President” positions of acquired businesses as former owners retire, have input and guidance (from Dilo, from Regional CEO’s and from retired owners as well), whenever and wherever that’s needed. The short of it, if I were you, I would not be too worried about “the loss of value issue” when former owners sell and retire. (My comments, above, would apply equally to the CEO’s of Thomas Reprographics and NRI; both of those privately-held larger reprographics enterprises have completed acquisitions over the years and have successfully dealt with former owner transition and retirement issues.)

“In addition, I agree with you that digital document management and BIM are hugely important technologies to the future of the industry. However, what is stopping a dominant software developer like Adobe from developing an Adobe Architect application that competes with ARC's? As long as ARC can compete with ReproMax and other reprography shops they should be fine but it's hard to see what will stop bigtime software developers from taking notice as the industry shifts from a printing industry to an application development industry. “

Joel’s response: Certainly, nothing prevents “the big” (or even little unknown) software application developers from introducing software and related business processes that would threaten any reprographics industry developed applications and/or threaten “prints on paper”. Several years ago, AutoDesk (which is a very big company) acquired and re-introduced “Buzzsaw”, which has some of the features that e-planroom software products developed within the reprographics industry (such as ARC’s PlanWell and ReproMax’s DFS products) have, but, in spite of that, Buzzsaw has had insignificant penetration into reprographers’ e-planroom businesses. One other factor is that, taken altogether, the “reprographics industry” is very small (compared to the much larger “small-format” world), so, typically, “the big” software application developers look at the (“large-format”) reprographics world as an after-thought, not something deserving of prime attention and focus. One of my blog-posts listed several problematic issues (I guess you could call those issues, “threats”) that reprographers now or will face, but I did not include in my list the issue you raised because I do not see that as a likely threat (…at least I don’t at this point in time.)

“Finally, you mentioned ARC's profitability advantages over offset printers like CGX, but CGX would seem to have higher barriers to entry ($20 million digital printers). From reading your materials it doesn't seem like ARC's business model is quite as defensible.”

Joel’s response: Certainly, the higher the barrier to entry, the less likely that new competition will negatively impact your business. Certainly, large offset printers have very significant equipment (and, therefore, capital) requirements than do reprographers. But, don’t underestimate the fact that the ‘barrier to entry’ in the reprographics business has risen, a great deal, over what it used to be. I can remember when you could open a reprographics shop for less than $50,000 – a couple of used production-model diazo machines, a couple of used high-speed copiers and no computers or software were required! (And, no quirky I.T. people either!) Today, the barrier to entry is higher than ever, due to much more expensive costs for high-volume digital production equipment and due to the fact that you not only need lots of computers and many different types of software application programs, you also need a higher-skill set in your people. When I was much younger, reprographics companies outperformed offset printers. And, even though I’m much older now, that situation remains the same. Breaking it down (the issue of "barrier to entry", reprographics vs. offset, there are quite a number of very large, national or semi-national offset printing companies in the U.S. At the present time, and short of someone forming an entity that rolls-up ReproMax members or RSA members, the only two reprographics enterprises that have "national" footprints are ARC and ABC Imaging. (ARC's national footprint appears to be more extensive than ABC's.) The barrier to entering the reprographics business on a national-footprint scope is huge. While not as huge, the barrier to entering the reprographics business on a regional level is also quite significant.

“Anyway those are my two cents. I'd be very interested in any thoughts you had. Thanks again for the blog!”

Joel’s response: thank you for visiting my blog-site. Good luck with your education. Based on the comments you made and on the questions you asked, you appear to be a very bright guy …. with a success-filled career ahead of you.

1 comment:

  1. Joel,

    I really appreciate the blog (there's not much out there with an insider's view on the repro industry). Like the previous questioner, I've been following ARC for some time with a view to investing.

    There have been quite a few "roll ups" that have failed for the reasons you responded to above (ie the owner/manager who was the busines driver gets bought out and leaves) and this is usually offset by the argument about size, efficiency and national scale. Along these lines, what are the key factors for a customer in deciding which repro firm they will use? How much of it is service vs. cost? Does having a national footprint really matter given most of the actual work is for local jobs? What competitive advantage would ARC bring to the table that another large local firm could not?

    From an outsiders view I can't figure out what all these acquisitions bring to the table other than immediate size and scale. The cost saving/efficiency argument is usually more than offset by the loss of the driving force for that business (the bought out owner). Unfortunately, ARC doesn't disclose the multiples they are paying for businesses or how they perform post acquisition to prove out the strategy.

    Thanks for your thoughts on this. It's great to be able to get honest, unbiased views from an insider.