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My first real attempt to buy a business

A detailed account of a Fastlane process...

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Hi guys,

So, I have had the experience of bootstrapping a services business up to 7 figures, and I am still focused on growing that business.

But in parallel, there is an opportunity to try to acquire a services business in my area belonging to an owner that is eager to retire.

About the business:
  • General Sales & Service Agent (GSSA) company: represents airlines to commercialise air freight capacity
    • Contracts with the airlines have got exclusivity
  • 10+ years old company
  • 6 employees
  • Revenue 2019: 500K. Seller discretionary earnings: 130K (2020 pretty similar)
  • Revenue 2021: 1M. Seller discretionary earnings: 500K -> Revenue has scaled up but costs have remained fixed
  • Selling Multiple: 2X
The selling multiple seems quite fair. My idea would be to bring in management short-mid term.

We are very early in the process yet and will meet the owner in the next days,

Being a "small" services business, I think the risk could be high, so I would be looking for the seller to carry a credit note (seller financing) as big as possible, or even keep some equity,

Does it makes sense maybe to do a higher offer than the price it is listed for if in exchange there is a big part as seller financing? what do you think?

Any advise on approach, structure of the deal, common pitfalls, or experience in the industry would be highly appreciated,

Thanks!
 
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Spenny

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Cool man, looks good to me. Just asking, is the multiple on the revenue or the earnings?

You also may want to get someone in to do some due dilligence on your behalf. Just to make sure everything is kosher.
 

Spenny

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On the earnings. Thanks, sure, due diligence should come later if we overcome this first phase and a letter of intent is accepted
Thats a crazy good multiple, be sure to be thorough with the DD!
 
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Two Dog

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Any advise on approach, structure of the deal, common pitfalls, or experience in the industry would be highly appreciated,
SDE for three years: $130K, $130K, $500K. Hopefully, the multiple is $250K * 2 = $500K purchase price.

If the purchase price is based only on last year's peak earnings, the 2x multiple doesn't sound too great. The problem with big revenue jumps is you really have to understand what made that possible and whether it's sustainable. Unfortunately, it's pretty common - and not too difficult - to artificially pump up revenue to increase the sale value.

Good answers would be more effective marketing, better conversions, higher sales. Bad answers would be front loading multiple year contracts into 2021, low balling new accounts, switching to accrual vs. cash, one-time revenue bumps.
 

Antifragile

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Consider buying with a traditional bank loan.

What would a local bank lend you to acquire this company?

This will require due diligence by the bank and their own valuation.

The big profit bump is a huge red flag for me. If the owner took home $500k but wants to sell the company to you for $2M and is open to seller financing, then why doesn't he/she automate it by having a manager?

Most private businesses cannot run without the owner/operator. Buyers insert buyout clauses to ensure the owner stays for a few years to transition without loss of profits. How dependent is this business on the current owner?
 

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SDE for three years: $130K, $130K, $500K. Hopefully, the multiple is $250K * 2 = $500K purchase price.

If the purchase price is based only on last year's peak earnings, the 2x multiple doesn't sound too great. The problem with big revenue jumps is you really have to understand what made that possible and whether it's sustainable. Unfortunately, it's pretty common - and not too difficult - to artificially pump up revenue to increase the sale value.

Good answers would be more effective marketing, better conversions, higher sales. Bad answers would be front loading multiple year contracts into 2021, low balling new accounts, switching to accrual vs. cash, one-time revenue bumps.
The price they ask for is 850K + 350K of current net liquidity position (1.2M total).

They seem to be saying that the growth comes from a new contract they got with a new airline. Those contracts apparently have got exclusivity per airline and geography for 3 years. Then renewed "if there are no complains". Will need to dig into this deeper obviously.

Consider buying with a traditional bank loan.

What would a local bank lend you to acquire this company?

This will require due diligence by the bank and their own valuation.

The big profit bump is a huge red flag for me. If the owner took home $500k but wants to sell the company to you for $2M and is open to seller financing, then why doesn't he/she automate it by having a manager?

Most private businesses cannot run without the owner/operator. Buyers insert buyout clauses to ensure the owner stays for a few years to transition without loss of profits. How dependent is this business on the current owner?
Why do you recommend a bank loan? Shouldn't the rest of what you are mentioning encourage pushing for seller financing?

Thank you very much guys
 
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Antifragile

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The price they ask for is 850K + 350K of current net liquidity position (1.2M total).

They seem to be saying that the growth comes from a new contract they got with a new airline. Those contracts apparently have got exclusivity per airline and geography for 3 years. Then renewed "if there are no complains". Will need to dig into this deeper obviously.


Why do you recommend a bank loan? Shouldn't the rest of what you are mentioning encourage pushing for seller financing?

Thank you very much guys

I recommend bank loan only because it'll force you to do due diligence at a level where you may not do otherwise. It's a second pair of eyes for free! You can always choose to pull the pin on bank financing in the last moment, but start there. It'll also give you leverage to negotiate with the seller, you'll have third party opinion on value.

Best of luck!
 

thechosen1

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I recommend bank loan only because it'll force you to do due diligence at a level where you may not do otherwise. It's a second pair of eyes for free! You can always choose to pull the pin on bank financing in the last moment, but start there. It'll also give you leverage to negotiate with the seller, you'll have third party opinion on value.

Best of luck!
That's really good advice!! Never thought about that - could use the bank as negotiating power, and then pull it at the last second and offer terms on condition of relaxing a few other things... Pretty sweet bargaining deal ;) that's why you are the real estate champion!
 

Two Dog

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The price they ask for is 850K + 350K of current net liquidity position (1.2M total).
It sounds like the sale price is based on forward looking revenues. CPAs and lawyers call that "pro forma."
The rest of us call it "imaginary." :)

Those contracts apparently have got exclusivity per airline and geography for 3 years. Then renewed "if there are no complains".
The only value here is the three year deal itself. The renewal aspect is worth virtually nothing. See "pro forma."

Why do you recommend a bank loan? Shouldn't the rest of what you are mentioning encourage pushing for seller financing?
Getting a small biz acquisition loan approved is a major PITA. The benefit to the buyer is taking advantage of the bank's natural tendency to ask too many questions followed by turning down the loan request. As part of due diligence, the bank will ask for the most ridiculous things including stuff you'd never think of asking. You can judge a lot by both the actual response and how much hassle is involved in getting the seller to respond and provide documents.

Example: The bank would certainly want to see proof of the contracts, payout and exclusivity. If the seller can't or won't, the bank will turn down the loan request and save you from making a bad decision. Seller financing is a red herring since it usually means you can't secure traditional financing and are probably overpaying as a result. That's why sellers can offer to carry a note. It's money they don't expect to see in the first place.

I really like the idea of seller financing and don't want to sound too cynical, but seller financing that isn't tied to the future performance of the business is instantly caveat emptor (aka "Let the buyer beware"). The world's richest man borrowed about 1/3 of the Twitter purchase price from conventional lenders. Why would he do that? A big reason is the money comes with an army of people digging through every possibly thing that you could worry about after buying it.
 
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addV

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I recommend bank loan only because it'll force you to do due diligence at a level where you may not do otherwise
could use the bank as negotiating power, and then pull it at the last second and offer terms on condition of relaxing a few other things...
Getting a small biz acquisition loan approved is a major PITA. The benefit to the buyer is taking advantage of the bank's natural tendency to ask too many questions followed by turning down the loan request. As part of due diligence, the bank will ask for the most ridiculous things including stuff you'd never think of asking. You can judge a lot by both the actual response and how much hassle is involved in getting the seller to respond and provide documents.
Alright guys, you are the best, and I took your advise, just called a bank and they set me up an appointment for tomorrow where hopefully I can understand their criteria and documentation required to submit an application, I guess I should push for a "loan for a ~1M business acquisition secured by free cash flow/EBITDA" so the discussion is focused on the target company and not on my personal or company assets.

Of course this does not mean I am no longer very interested in pushing for a transaction with a big part in seller financing, as that moves some of the risk to the seller
 
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Antifragile

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Of course this does not mean I am no longer very interested in pushing for a transaction with a big part in seller financing, as that moves some of the risk to the seller


Fantastic! Keep us posted.

And remember, who’s to say you can’t do both the bank and seller financing combined? I’ve done deals with near zero personal cash. Risky … but if there are no personal guarantees attached, it’s better.
 

addV

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And remember, who’s to say you can’t do both the bank and seller financing combined? I’ve done deals with near zero personal cash. Risky … but if there are no personal guarantees attached, it’s better.
Yes why not!

Ok, so, the person that came to the appointment was not the right person for the topic and the right one will call me on Monday it seems. I will keep you guys posted, thanks a lot again for the advise

We have got the first meeting with the owner the following Monday (12.12.22).

One more thing I didn't mention yet.. I am not fluent in the local language, but I am trying that this does not stop me and bringing a local partner who I trust and I am already working with
 
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addV

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Just tried calling 6 banks so far. Not much success managing to speak with someone from investment banking, they seem to be all busy or the gate keeper can not transfer me and they will all "call back/email back"
 
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thechosen1

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Just tried calling 6 banks so far. Not much success managing to speak with someone from investment banking, they seems to be all busy or the gate keeper can not transfer me and they will all "call back/email back"
Try walking into a local bank.
 

Antifragile

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Just tried calling 6 banks so far. Not much success managing to speak with someone from investment banking, they seem to be all busy or the gate keeper can not transfer me and they will all "call back/email back"
My last deal (quite large) @Kak was shocked to learn how many lenders I approached to make it happen…

It was 10x your number so far. Keep going.
 
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addV

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Try walking into a local bank.
It was 10x your number so far. Keep going.
I am almost ashamed you needed to tell me this, but it wasn't obvious till you did so thank you!!

A local bank just called me back. They have got local decision power till ~1M.
For the pre qualification, they need the last 3 years P&Ls and Balance Sheets, and a business plan "if we have got one"

This is a nice parallel exercise, but I I think I need to focus now more on preparing next Monday's meeting with the seller, and preparing my partner for it
 

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Alright, we had the meeting with the owner on Monday, organised by the intermediary broker.

Our main outcome: The business is very dependent on the owner. The owner is willing to stay for 6-12 months for a transition.

I only feel like making an offer with a big component of seller financing to mitigate this risk. Something like 100-200K cash, 1M seller financed. I guess he will still need some cash to pay the broker, and, there should also be some cash currently in the company,

My curent plan:
  1. Discuss such an offer with the broker
  2. Submit an LOI with this offer
  3. If accepted, time for due diligence + secure new CEO (we already have some ideas)

With 500K in Seller Discretionary Earnings, there should be money for:
  • 200K for the new CEO total compensation
  • 100-200K for debt repayment (seller financing)
  • 100-200K buffer

What do you guys think?

Supposedly there are another 2 potentially interested buyers, does it make any sense to offer a little bit higher (just adding more to the seller financed part) in case they go with a similar offer?
 

addV

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We discussed the offer with the broker,

My impression was that they were not very excited, but agreed to set up a call with the owner in early January so we can discuss/present it directly to him,

They also mentioned that:
  • At the moment they don't have any other offer yet (to compare with), but they expect some to come in the next 2-3 weeks
  • They may have pre discussed with the owner the option of seller financing, but he is expecting only 10-20% of the deal structured like this
I am not discarding going through the process with the bank as well, there is always a small chance we can get some financing approved secured by the cashflow of the company
 
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addV

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We had a meeting with the seller and the broker and brought on the rationale of our seller financing proposal. 200K cash, 1M seller financed.

We went into quite a lot of detail, and the outcome was that they were going to discuss it and get back to us.

We got the feedback that the seller is looking for a majority of the sale's price to be paid on signing, and they ask for some flexibility on that.

They mentioned they have got another offer, so I have got the feeling it may be less money but more cash upfront.

With "a majority of the sale's price" I understand 600K. I will validate that, but at the moment that sounds like too much
 

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His last feedback:
  • Sales price of 1.2M
  • Maximum 33% seller financing: 400K

We were trying to include some earn out on top of the 1.2M to motivate him, but still our positioning was 200K upfront max.

I think we will just pass this time
 

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