Driving into to work this morning, I was listening to CNBC’s Squawk Box which, on this particular morning, featured a well-respected financial advisor providing his long term insights on the economy and equity markets. To summarize, he projects tepid GDP growth for the next several years and by extension, believes this will correlate with modest equity market performance. Whether his insights prove prescient or not, it prompted me to consider the favorable dynamics of smaller companies making up the Microcap LBO market, MCM’s target market for the last 20 years.

We define the Microcap LBO market as companies with enterprise values of $15-$50 million, typically generating revenues of $15-$75 million and EBITDA of $2.5-$8 million. As one might intuitively expect the population of companies falling into this category are far greater than the number of larger companies as indicated by the following chart:

Number of Companies by Employment

Source: US Census Bureau 2008

In addition to the greater number of investment opportunities, generally purchase price multiples are lower reflecting the law of supply and demand. The aforementioned are attractive attributes; however, our fondness for the Microcap market has more to do with the opportunity small companies afford us to positively affect revenue and earnings. Typically, it is relatively easier to achieve the same percentage growth rate of a smaller company than in a larger company (authors’ note: this rule apparently does not apply to Apple). Further, in a Microcap company small changes in personnel and or tactics can profoundly impact earnings. For example, we purchased Dexmet, a $2.5M EBITDA company in August, 2006 which at the time of acquisition derived over 80% of its revenues from the lithium polymer battery market. We introduced a new CEO with a mandate to invest in new product and business development initiatives. The Company has since doubled EBITDA and serves a significantly more diverse customer base with battery applications representing only 40% of total revenues.

Of course, the ability to materially impact earnings can be both a blessing and a curse, hence portfolio management rule Number One within MCM is “Do no harm”. This rather simplistic adage speaks to our approach of gaining an intimate understanding of a newly acquired portfolio company’s strengths, weaknesses, market dynamics, etc. before advocating for changes. For example, in performing due diligence on MicroGroup, a former portfolio company acquired in 2001, I underestimated the talents and value added of the Company’s COO, who lacked the polish one usually associates with C-Level executives. This was particularly worrisome given the fact the CEO, although creative, was quite eccentric (“just call me Crazy Bill”), and thus she had more authority and impact than a typical COO. However, over the first year and thankfully throughout our ownership, I came to admire her New England common sense, passion for the company and ability to lead. In no small part, she was responsible for creating a culture which embraced lean manufacturing principals embodied in the Company’s motto of “Do it Right, Do it Fast”. The company truly excelled at providing best in class fulfillment of complex machined miniature medical device components and assemblies, often turning an order around in days as opposed to the weeks typical of their competitors.

Conventional wisdom suggests Microcap companies, relative to larger organizations, are more fragile presenting a smaller margin for error and, as a gross generalization, I would agree. However, our experience has been contrary to conventional wisdom. From 1998 through 2011, we have led 15 LBOs of Microcap companies, eight of which are current holdings. During this period we have not realized a loss on any single LBO investment and have only one small “mark to market” loss on an existing portfolio company. I believe our positive experience investing in the Microcap market is attributable to sound investment strategies enhanced by a strong Board of Operating Partners, coupled with almost 20 years of working with entrepreneurs and Microcap sizes companies. We remain bullish on the Microcap LBO market and fervently hope it remains under-served by the broader private equity community.

For more information on our Microcap buyout fund and investment principles, contact us today.

I have become a bit fatigued with the stream of bad economic news (European debt crisis, fiscal deficits, blah, blah, blah) seemingly taking permanent residence in the Wall Street Journal. Consequently, I am choosing to start this macro-economic perspective with a little bit of sunshine by reminding ourselves the commercial climate isn’t all that bad. For example, quarterly earnings, as measured by the S&P 500, have steadily improved since the dark days of Q1 2009 as detailed below.

Although corporate America has vigilantly controlled cost to drive earnings, it is important to note revenues have been growing as well as detailed below:

I am pleased to report the above charts are reflective of our portfolio companies, many of which are achieving strong, if not record profitability.

Unfortunately, there seems to be a disconnect between company earnings and the labor market, which has not materially improved (not including seasonal hires for the Holidays) from its nadir in October 2009. The U.S. unemployment rate is hovering around 9%, as detailed in the graph below, essentially unchanged for the past several months.

I believe the productivity gains made during the recession are playing a substantive role in damping the need to add employees. Although the impact of productivity gains on manufacturing employment appears to be more extreme this cycle, it is consistent with prior recessions, a topic I blogged about (Globalization Shapes US Manufacturing) this past April. In our opinion, the weak labor market, coupled with an annualized 3.9% increase in the seasonally unadjusted CPI, will continue to stress the consumer and temper domestic economic growth.

For more information on our small cap buyout fund and investment principles, contact us today.

MCM Announces Acquisition of Zinkan Enterprises

CLEVELAND, OHIO – MCM Capital Partners (“MCM”), is pleased to announce its investment to fund the majority recapitalization of Zinkan Enterprises Inc., a manufacturer and value added distributor of specialty chemicals serving mining, industrial and commercial customers.  Senior financing was provided by Key Bank.

Founded in 1982, Zinkan, headquartered in Twinsburg, Ohio, is the premier provider of proprietary formulations used in mining, general industrial water treatment and wastewater applications.  Zinkan’s current product line includes airborne particulate control chemicals, flocculants, frothers, freeze conditioners, defoamers, pond treatment products, pH control products, cooling tower biocides and descaling chemicals.

“We are excited to partner with Zinkan Enterprises, an industry leader in water treatment and mining chemicals, which fits extremely well with our investment focus on niche manufacturers of highly value added engineered products operating in segments, likely to grow faster than GDP,” said Mark Mansour, Managing Partner, MCM Capital Partners.

MCM has appointed Harry Shimp, one of MCM’s Senior Operating Partners, as Chief Executive Officer.  Mr. Shimp has been involved with the firm for over 15 years, most recently as CEO of Dexmet, an MCM II portfolio company. “Jim Zinkan, along with his son Brian and the rest of the team have done a great job in positioning Zinkan as the “go to” supplier in their field.  We intend to build on that foundation and adopt a strategy to drive aggressive growth.”

Incumbent management will continue to play a key role in driving the company’s growth.  “With the additional financial and management strength of MCM, Zinkan and all its people can continue our strong growth both in the USA and globally,” stated founder Jim Zinkan.

For more information on our private equity firm and investment principles, contact us today.

MCM Capital would like to thank each and everyone of you for taking the time to read our blog and post very insightful comments over the last year and half.  We hope you have enjoyed reading them as much as we have enjoyed writing them and hope they have been both informative and interesting for each of you.  If you should have any suggestions on topics you would like to see us write about please do not hesitate to ask, this blog is meant for our readers.  Thanks again and Happy Halloween from all of us at MCM Capital Partners!

For your viewing pleasure I present MCM’s Halloween rhapsody starring in order of appearance: Kevin Hayes, Steve Ross, Jay Poffenberger, Bobby Kingsbury, and Mark Mansour

Referral marketing is sometimes considered one of the simplest and least glamorous types of marketing. However, when utilized correctly it can result in remarkably high close rates with an extraordinarily high return on investments. The internet and social media outlets, where communication travels freely (and instantly), is forcing companies to re-think how they utilize this tried and true strategy of referral marketing. World-renowned sales trainer Tom Hopkins recently completed a study demonstrating the closing ratio for non-qualified leads is 10 percent versus a 60 percent close ratio with referred leads.

An equally compelling 2010 study on referral programs and customer value conducted by the Goethe University Frankfurt and the University of Pennsylvania tracked the customer referral program of a German bank paying its customers 25 euro for referring a new customer. According to the author of the study, Van Den Bulte, the two principal objectives of the study were: (1) to determine if customer referral programs can turn social capital into economic capital; and (2) to develop an easy-to-implement methodology to assess the effectiveness of customer referral programs with data and tools available to business managers. The study found referred customers were more profitable (as measured by contribution margin) and loyal (as measured by retention rates) than the bank’s traditional customers.

Referral marketing does not have a role at every company, which is why our CEOs determine which method(s) of marketing will produce the best results (and the highest ROI) for their respective portfolio companies. ESSCO, a MCM portfolio company selling floor care equipment to 7,000 independent dealers and on-line retailers nationwide, has determined the best use of its marketing dollars is to maintain a first class outbound and inbound call center and a highly interactive website with product schematics.

Alternatively, Cole Information Services, a portfolio company providing lead generation and direct marketing solutions to small business owners has implemented a web-based approach to marketing. Their marketing strategy involves selective use of pay-per-click advertising, an extensive social media program, weekly webinars, and most recently, a new online referral marketing program launched via its Cole Community on-line marketplace. Leveraging their social media and online presence, Cole offers pre-paid credit cards for any lead culminating in a sale. Given the adoption of social media and advances in observing customer behavior online through the use of web browser cookies, online referral marketing provides a high degree of tracking and accountability for possible leads. Within thirty days, the Company converted over 50% of the referred leads into new high-margin business (a 270% increase in contribution margin) at a cost that was substantially less than what it otherwise would have cost the company to secure these new customers.

According to Darrell Zahorsky, a business expert, author, speaker and consultant, the following are several benefits of a well-founded referral marketing strategy:

1. People feel more comfortable when a product or service is recommended by someone they know and trust. This is especially true if the product or service is expensive. Referrals do not involve direct selling. Instead a satisfied customer sells the products and services for you. If a satisfied customer tells a close friend about a certain business, then their trust is immediately transferred to the company, irrespective of if he has heard about it or not

2. Referred customers are typically less price sensitive. Most referrals can be sold at full price because they’ve been presold on your client’s trust and credibility.

3. A good referral marketing system can quickly multiply, giving you plenty of interested prospects. This will provide you with the luxury of selecting who you want to work with instead of having to take everything that comes your way. You’ll be able to focus on high-quality customers that are highly profitable for your business.

4. Referral marketing reduces your sales expenses and sales cycle.

5. Referrals can build your level of satisfied customers. The cycle self-perpetuates with more satisfied customers referring others to your company.

Referral marketing is one of the most cost effective means of advertising and will provide you with rewards beyond your expectations. In a future blog, I will provide you with some tips on how to build an effective referral marketing program.