Characteristics of Great Businesses

For any searcher, the quality of the business they acquire is a huge determining factor in the financial success of their tenure as an operator. A great business is one that has revenue growth potential, higher operating margins, and consistent and positive free cash flows. Let’s explore each value driver in detail. 

High revenue growth 

High revenue growth potential indicates that there is room for the new operator to grow the top-line through initiatives such as market share expansion, pricing power, or new product development. Businesses that play in growing markets that are still relatively unsaturated generally see higher revenue growth rates than businesses that play in stagnant and saturated markets. 

High operating margins

Higher operating margins imply that there is extra cash available to reinvest in the business or to pay down debt. If a business earns higher operating margins than their peers for an extended period of time, this may indicate the business possesses a competitive advantage intrinsic to the company. If all its peers in the industry earn high operating margins, then the industry has good economics and are good investment opportunities. 

Free cash flows 

Consistent and positive free cash flows show that the business is generating excess cash on a regular basis, which gives the operator financial flexibility. A great business requires low reinvestment of operating earnings to sustain their competitive advantage. This translates to higher and more consistent free cash flows, a very common attribute of great businesses. 

Investors should keep these characteristics in mind when evaluating businesses for acquisition. By targeting businesses with these qualities, they increase their chances of acquiring a great business that will be a key driver of their future success.