Customer Concentration: Why One Big Client Lowers Your Sale Price

Where buyers draw the line

There is no fixed rule, but the market behaves roughly like this. Under 10 percent from any single customer, nobody asks. Between 10 and 20 percent, buyers note it and ask about the relationship, the contract, and how long it has been in place. Over 20 percent, it affects the price or the structure. Over 35 to 40 percent, many buyers and most lenders treat the business as dependent on that customer and price it as if the customer were a partner who could withdraw.

Lenders are stricter than buyers. An SBA lender looking at a business with a customer over 25 or 30 percent of revenue will often require a lower price, a larger seller note on standby, or more buyer equity, because their loan is at risk if the customer leaves.

Top five and top ten concentration matter too. Ten customers making up 80 percent of revenue is a concentration problem even if none of them is over 15 percent.

What it does to the deal

The first effect is on the multiple. A business that would otherwise support 3 times SDE might get offers at 2.25 to 2.5 with a large customer, because the buyer is discounting the earnings attributable to that customer.

The second effect is on structure. Rather than lower the price outright, buyers propose an earnout: part of the purchase price is paid over one to three years and depends on the large customer staying or on revenue holding above a threshold. The seller who accepts this is financing the buyer's risk. Sometimes that is the right trade, since a well-designed earnout can pay more in total than a reduced cash price. It has to be designed carefully.

The third effect is on the buyer pool. Individual buyers financed by SBA loans get nervous about concentration because their lender does. Strategic buyers in the same industry often care less, because they may already have a relationship with that customer, or have enough other revenue that losing one account does not threaten the company. A business with concentration is often better marketed to strategics.

Why it is worse than it looks

Losing a 40 percent customer does not reduce earnings by 40 percent. It usually reduces them by more, because the fixed costs that supported that customer, the staff, the equipment, the facility, do not go away on the same day. A business with $600,000 in SDE that loses a 40 percent customer might drop to $200,000 or less until it cuts costs to fit. That is the scenario the buyer is pricing.

What to do about it

Grow the rest. The obvious answer and the slowest. Adding revenue from new customers reduces the percentage without touching the large account. A sales push a year or two before listing, aimed at the customer segments where the business already does well, is the cleanest fix.

Get it under contract. A large customer on a handshake is the worst case. A large customer under a written two or three year agreement with defined pricing and termination terms is a different asset. Buyers and lenders can read the contract. Even a one-year agreement with an automatic renewal changes the conversation. If the customer will not sign anything, that itself is information.

Check assignability. A contract that terminates on change of control, or requires the customer's consent to assign, needs to be addressed before the sale. Get the consent early, or renegotiate the clause at the next renewal. A buyer who learns in diligence that the largest contract cannot be assigned will either walk or demand that you get the consent, which means telling the customer the business is for sale.

Deepen the relationship inside the customer. If the account depends on one buyer contact at that company, the risk is that person leaving, not the customer leaving. Get the relationship spread across several people on their side and several people on yours. Buyers ask who the contact is and what happens if they leave.

Move it off the owner. If the large customer's relationship is with you personally, that compounds the problem, because it is both concentration risk and owner dependency risk. Transition the relationship to whoever will manage it after the sale, a year out.

Document the history. If the customer has been with you for twelve years, has grown every year, and has never taken a competing bid, say so and show it. Concentration with a long stable history is priced differently from concentration with a customer acquired eighteen months ago.

Presenting it

Do not hide it. Buyers pull the customer list by revenue in the first week of diligence, and a concentration problem that was not disclosed in the offering memorandum becomes a trust problem on top of a concentration problem.

Present it with the mitigants next to it. The contract, the term remaining, the history, the number of contacts, the plan for the transition. Then present the business without that customer, so the buyer can see what the downside case looks like. A buyer who can see that the business is still profitable without the large account is far more comfortable than one who has to build that scenario themselves.

How lenders handle it

Buyers using SBA financing bring a lender into the concentration analysis, and lenders have their own thresholds. Many will flag any customer above 20 percent of revenue and ask for a mitigant. Common lender responses are a lower loan amount, a requirement that the buyer inject more equity, a larger seller note on standby, or a requirement that the customer's contract be assigned to the buyer as a condition of funding. A few will decline outright above a certain level.

This matters because it shapes what a buyer can offer. A buyer who wants to pay full price but whose lender will only finance 60 percent of it will propose a seller note for the gap. The seller who understands the lender's concern can decide whether to accept the note, reduce the concentration before listing, or market to buyers who do not need SBA financing.

A case where it was fixed

A packaging distributor with $700,000 in SDE had one customer at 44 percent of revenue, on a handshake, for eleven years. The first valuation came in at a range the owner did not like, with a note that most buyers would require a significant earnout.

Over the next two years the owner did three things. He signed a three year supply agreement with the large customer, with a six month termination notice. He hired a second salesperson focused on the mid-size accounts the business had been ignoring. And he moved the large customer's day to day contact from himself to his operations manager.

When the business went to market, the customer was 31 percent of revenue, under contract, and managed by someone who was staying. The buyer's lender accepted the contract as a mitigant. The deal closed at the top of the range with a small seller note and no earnout. The owner's two years of work were worth several hundred thousand dollars against the first valuation.

The reverse case

A marketing agency with $500,000 in SDE and one client at 55 percent went to market without addressing it. The offers that came in were all structured with 30 to 40 percent of the price in an earnout tied to that client. The owner accepted one. The client left eight months after closing when its own business was acquired. The earnout paid nothing. The seller received about 60 percent of the headline price.

Nobody did anything wrong in that transaction. The buyer priced a risk correctly and the risk materialized. The seller's mistake was going to market without doing anything about it.

Structuring around it

If concentration cannot be fixed before the sale, structure is the tool. A modest earnout tied to that customer's revenue, capped and time-limited, can preserve the headline price while giving the buyer protection. Negotiate the definitions carefully: what counts as revenue from that customer, what happens if the buyer changes the pricing or the service, what happens if the buyer sells the business during the earnout period, and how disputes get resolved. An earnout is only as good as its definitions, and the buyer's attorney will draft them in the buyer's favor if you let them.

The better plan is to start two years out and reduce the number.