Toronto business and franchise lawyer Sukhi Hansra, JD, MBA, of Hansra Law sets out how to read a target business’s customer base before you buy, and what each cut of the data actually tells you.
Most buyers look at a target’s revenue as a single number. The seller presents it that way, the listing repeats it, and the number goes into the offer.
That number tells you what the business earned last year. It does not tell you whether it will earn the same next year under a different owner, and those are separate questions. The answer lives in the customer list, which almost every buyer receives and almost nobody analyses properly.
By the end of this you will know four ways to cut a customer base, what each one tells you, and which answers should change your price.
Why the total revenue figure hides what you need to know
Revenue is an output. What you are actually buying is the set of relationships that produce it, and those relationships have different levels of durability. Two businesses with identical revenue can be completely different purchases if one has forty steady customers and the other has three who could leave.
The word segment gets used loosely in marketing to mean the kind of customer a business targets. For a buyer it means something more specific and more useful. A segment is any grouping of the existing customer base that behaves differently from the others, and the point of finding them is to work out which parts of the revenue are stable.
You only need one thing from the seller to do all of this. Ask for a list of every customer with the revenue each one produced, for the last three years. That single spreadsheet is what every section below works from, and a business that cannot produce it has told you something before you have read a line of it.
The four cuts that matter
Sort that one customer list four different ways, and each sort answers a question the revenue total cannot. Cut it by revenue contribution to see how concentrated the business is, by tenure to see whether customers stay, by how each customer was acquired to see whether you can repeat it, and by margin to see whether the busiest work is the profitable work.
| Cut the list by | What it tells you | What should worry you |
|---|---|---|
| Revenue contribution | How concentrated the business is | The top customer is a large share of revenue, or the top three are most of it |
| Tenure | Whether customers stay | Most revenue comes from customers acquired in the last year |
| How they were acquired | Whether you can repeat it | Most came through the owner personally |
| Margin | Whether the busiest work is the profitable work | The largest customers are the least profitable ones |
The value is in doing all four, because they interact. A concentrated customer base is a manageable risk if those customers have been there fifteen years on written contracts. The same concentration is a serious problem if the largest account arrived last year through the owner’s golf partner.
Concentration: how much of the revenue sits with how few
Sort the list by revenue, largest first, and work out what share the top customer represents, then the top three, then the top ten. In a business-to-business company the answer is often far more concentrated than the seller’s description suggests.
Concentration is not automatically a reason to walk away. It is a reason to find out three things: whether there is a written contract, whether that contract has a change-of-control clause letting the customer leave when you take over, and whether anyone has actually asked the customer what they intend to do after the sale.
Where the answers are unsatisfactory, concentration usually gets handled in the deal rather than in the price alone — through a holdback, or an earnout tied to those accounts still being there a year on.
Tenure: how long customers have been buying
Now sort the same list by the date each customer first bought something. A base where most revenue comes from customers of five years or more is telling you the business delivers something people keep paying for. A base where most revenue arrived in the last twelve months is telling you something quite different, and you need to know which.
Recent revenue is not bad news by itself. A business that has genuinely started growing looks exactly like this. But so does a business that churns through customers and replaces them, and the two are indistinguishable from a revenue total.
The way to separate them is to look at what happened to the customers who are no longer on the list. Ask for the same report for three years ago and see how many of those names still appear.
Acquisition channel: where the customers actually came from
Group the customers by how each one found the business. Paid advertising, inbound search, a referral partner, a trade association, or the owner personally. This is the cut buyers most often skip and the one that most often determines whether revenue survives the sale.
Customers who arrived through paid advertising transfer cleanly, because you can buy the same advertising the day after closing. Customers who arrived through the owner’s personal network do not transfer at all in any reliable sense, because the relationship belongs to a person who is leaving.
Where a large share of the base came through the owner, the usual remedy is a transition period written into the deal, with the seller staying on for an agreed stretch specifically to introduce you and hand the relationships over deliberately rather than by email on the last day.
Margin: whether the biggest customers are the best ones
If the financial records allow it, work out the gross margin by customer or at least by service line. The pattern worth looking for is a large customer who negotiated hard years ago and is now served at a margin the business would never accept today.
That situation is common and it is not fatal. It does change what you are buying, because raising that customer’s price is the obvious improvement and it is also the thing most likely to make them leave. Knowing before you close means you can price the business on what it earns today rather than on what you hope to fix.
This is the cut that most rewards reading the financial statements as management information rather than as a compliance filing, which is the work we do with buyers directly.
Where this becomes a legal question
Everything above is analysis, and analysis on its own protects nothing. The work becomes legal at the point where a finding has to change the agreement, because a risk you identified and then signed around is a risk you have simply agreed to carry. Each of the four cuts has a term that answers it.
Concentration becomes a holdback or an earnout. A change-of-control clause in a key customer contract becomes a closing condition requiring the customer’s consent, which is why BDC lists confirming that key contracts “can be assigned to you” among the things to establish before you commit. A base built on the owner’s personal relationships becomes a transition-period obligation with defined introductions, and usually a non-competition covenant so the seller cannot take those relationships somewhere else. Each of those is a term someone has to draft, and each is far easier to negotiate before the letter of intent is signed than after.
The structure of the deal also changes what transfers. Our guide to asset purchase versus share purchase sets out how customer contracts move differently between the two, which matters when the contracts are the thing you are actually buying.
Although this analysis is a good starting point, every business has a customer base with something unusual in it, and how that should be handled depends on facts a general article cannot know. A good next step is to speak with someone who has worked through it before, whether an Accountant or a Business Lawyer. Our guide to buying an existing business sets out where this sits in the wider process.
If you have a customer list in front of you and want to know what it is telling you before you make an offer, schedule a complimentary discovery call with our firm, or reach the office at 416-580-0345.
