Due Diligence Homework: Key Issues to Watch For

As a heads-up for catalogers, let’s note some challenges you need to watch for:

1) The 2007 postage increase is much more nasty than one can imagine. Not only will it decrease your reported profits, but it will also increase your prospect breakeven. And it will, of course, shrink the size of your economically available, mailable prospect universe. Investors already have determined that higher postage will retard catalog business profitability in 2007 and beyond. So catalog company valuations already have begun to shrink for sellers, buyers and growth financing sources.

2) By having to report shipping and handling revenue you receive (from customers) in your top P&L line (as noted above), the calculation you make showing the percent EBITDA your business generates will be smaller — as the divisor (net sales plus shipping revenue) will be larger.

It pains me as a catalog deal maker to note that a consolidator CEO told me recently the result of “lower EBITDA” margins in our industry (which aren’t as well-regarded by financers as they once were) will be seen as another negative impact on catalog valuations.

Examples of the types of direct marketers who’ve already used these models:

• A direct marketer trying to optimize marketing spending (and P&L) across its selling programs, by modeling sales from catalogs, space ads, PIPs, the Web site, etc.

• An equity house acquiring a catalog business, which sought to define profitability from customers and prospects. This modeling was used to define cash flow financing required for a variety of growth rates and ROI. This became the forecast used in both valuation and the successful presentations to potential financing debt sources.

• A direct marketer used this model to help define and value its earlier acquisition of a cataloger, and its large customer list — for bank and tax purposes.

Finally, within two days of the Postal Regulatory Commission postage increase recommendation in late February, I started receiving calls from catalogers, especially those under $30 million in sales, asking about procedures, valuations, and timing — for selling. I make my living solely as a catalog deal guy, but this is sad and downright disgusting.

Larry West is president of West Cos.. a New York-based valuations and acquisitions consulting firm. You can reach him at dmgrowth@yahoo.com.