As you know Company Law allows “Small Companies” an option of disclosing less information at Companies House. This means that there is imperfect information in the public domain for SME firms. Companies House is the only verifiable source of financial data on privately held companies. As a result most of the attention is on the companies which do file complete results. Consequently for a company seeking to place itself in the shop window to attract a new owner simply filing complete information will immediately raise the profile.
The since 2016 company law states:
“Small Companies” are defined as those meeting any 2 of these criteria:
You can see there is a huge opportunity for SME firms to fly below the radar. The criteria apply across all sectors so some sectors the major players will be classified as “Small Companies”. As I write this there are for example 1.1+M firms with more than £50K of current assets on balance sheets filed at Companies House but only 158K firms reporting a turnover of the same size. An Advertising Agency could be turning over £100M with 49 employees (and being in a sector where fixed assets had no immediate relevance) will be classified as a “Small Company”. What this means is that simply screening by turnover and profits will exclude many interesting firms from shortlists in many sectors. This problem presents a major opportunity to identify firms with potential using a tool like USP Data to overcome the limitations of Companies House data.
Having the right group of firms in a sector report leads to sensible industry average ratios for measures such as Stock/Sales, Debtors/Sales and Fixed Assets/Sales. These ratios can then be used to estimate a turnover value for the trading firms not actually filing the P&L at Companies House. Of course it’s an estimate, and is based on averages which may not be entirely appropriate (the Fixed Assets/Sales ratio is not much help in our Advertising sector report for example) but it does result in a way to pick up more of the likely candidates in the Turnover range. There are some 1.05M firms with estimated turnover above £100K on USP Data which compares with 140K firms which actually report similar turnover figures at Companies House.
USP Data contains researched sector information which seeks to improve on simple SIC classifications. This is based on 30 years of research of the sectors and typically starts with Industry Association listings. The research aims to find out what the firms actually do and use this knowledge to classify them alongside their peers. Additionally a feedback loop encourages customers in each sector to make suggestions of missing firms in an effort to identify other firms in the sector.
For larger firms or quoted firms identification is not going to be a problem but what is really interesting is that the definition of “Small Companies” says nothing about the profits. Many PE firms which will be looking for investments of sufficient size to “move the needle” in terms of profits but will not be able to find these firms easily using simple screening.
Measures such as changes in retained earnings between years on the Balance Sheet will provide an indication of profitability. Retained earnings going up will mean profits but because any dividend paid is also likely to be undisclosed it is not possible to say that other changes reflect losses or even lack of profits.
Net Worth changes between years are useful in seeing how the company is being managed: Growing firms in sectors with potential might still be of interest even if profits themselves are not present since these profits may be being re-investing in that growth with a view to bigger future shareholder benefits.
A sector based approach is going to be the answer here ie using sector norms to spot the firms currently filing only a balance sheet but actually likely to be meeting the requirements for profits or turnover. Even better to spot the firms growing in the sectors of interest before they are spotted by alternative buyers. You might expect a better deal if such “Off Market” and “Off Radar” firms can be identified, and acquired rather than if a competitive situation developed with many buyers. So a tool like USP Data designed to accurately classify firms by sector and then spot the trends and results indicating potential will be key. Particularly such a specialised tool that not many other folk are using – you might expect the same answers as everyone else if everyone is using the same tool but it is always likely to be a key advantage to be first to spot the potential.
Because of the imperfect financial information available for SME firms, sector information especially averages and trends will be a key way to identify opportunities which might otherwise be overlooked.