Buying or selling a business requires an entirely new game. You are not just dealing with one thing; you are dealing with an entire entity—processes, systems, warts, and all. That is why you need a pro who can help you through the process, making sure that you know what to expect and how to take those transactions to your desired goal. Scott Carson sits down with business broker and advisor, David Barnett. With over 20 years of experience, David shares his insights into the world of buying and selling businesses. He discusses some of the mistakes that new business buyers make, hurdles to avoid, financing options, and other items important to long-term success. Tune in now to gain invaluable insights into the intricate world of buying and selling businesses.
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Mastering The Business Acquisition Game: On Buying And Selling Businesses With David Barnett
This episode goes on to all those folks who have ever reached out to me and called to me and said, “Scott, I’m looking at buying a note on a business. I’m looking to sell my business on terms. Can you help me?” Our special guest has many years of experience in helping entrepreneurs and people buy businesses, sell businesses, and find businesses. He’s also an amazing wealth of knowledge because he is the author of seven different books about small business transactions and local investing.
He’s the host of a YouTube channel with hundreds of videos about buying, selling, financing, and managing businesses. You can find more information about him anytime on his blog, DavidCBarnett.com. We’re honored to have David Barnett join us on the show. What’s going on, David? How are you doing?
That C is important because if you don’t use the C, you’re going to find out about that serial killer on Netflix. It’s a critical thing there. It’s called differentiation in marketing talk. Thanks for having me on. I’d love to talk about this stuff.
We connected through our mutual friend, Clifton Corbin. We did the missing panel from FinCon that’s on our show. You guys hear David talk about how he uses LinkedIn on that stuff, but I enjoyed your discussion at FinCon about how you’re leveraging YouTube. We won’t get into that now. You told me this beforehand. You spoke in Vegas at the Paper Source Convention a few years ago.
It was before the pandemic.
We’ve had him on the show once or twice. He is a good wealth of information, but many people out there are looking for opportunities. A lot of people are hurting. It’s not just people are trying to make ends meet, but also a lot of business owners that are maybe struggling or they’ve gotten to the point where they’ve had this job for a while. They don’t necessarily want to hold onto it anymore and are looking to move it. Before we get into that, can you share a little bit of your story and how you got into doing what you’re doing because it’s a great backstory?
I’ve always been a person interested in business. I was one of those kids that had all of those flyer routes. We used to shovel snow as a kid growing up in Canada. Even at university, I had little side hustle businesses that I was doing all the time. My big exposure to small business came after university when I started working for the Yellow Pages. This was back in the ‘90s when if you had a leaky pipe and you needed someone, you couldn’t reach for your smartphone, or if you went on to Google, you’d find a plumber in California. If you needed a plumber down the street, you had to open up the Yellow Pages.
I got to go out and meet the owners and managers of all the local small businesses that we all know and use every day. I have to ask those people, “How do you make money? What customer do you want? Who would you like to be on the phone the next time it rings?” I would help create those advertisements and develop this mile-wide inch, deep expertise about the world of small business. I’m having experience talking with all these different people.
I could see where the future was going. I knew where Google was coming from. I realized the Yellow Pages was not the place to be long-term. I left around 2006 and started a business with a partner. We did that for two years and I sold that business naively. I didn’t know anything about selling businesses at that time, but I knew that I wanted to get out of that business. I sold it with a good deal of seller financing, as it would happen.
I got into becoming a finance broker. I was helping small businesses obtain capital leases, operating leases, and lines of credit bank loans, what we call factoring facilities, which is the sale of accounts receivable. I was doing that with people until the great financial crisis hit, and half the sources of capital I was using, the businesses that provided this money, disappeared. What was I going to do?
At that time, when I was helping people find money, I kept running into people who wanted to find the money for an entire business. That’s when I started to meet people in the business brokerage industry. I didn’t know anything about business brokerage at that time, but I had a business degree and sales background or a small business background.
What I knew for sure, Scott, was that the people that were trying to put deals together also didn’t know anything about business brokerage because I kept seeing these poorly structured deals. I kept seeing deals being put together with no consideration for things like operating capital. I saw people lose deposits. I saw people agree to terms that didn’t make any sense. I thought, “This is a place where a pro could do well.” When I decided to make the pivot, that’s what I did.
I joined up with one of the big international branded business broker franchises because they gave me access to training. I went into the IBBAs program. In over two and a half year period, I worked under the wing of a more experienced broker. I got my certification and ran that brokerage for three and a half years and sold 35 companies to other people. I had to get out because it’s an insane business.
I don’t recommend it to anyone because business brokerage is largely geared toward the idea of real estate brokerage, where you find a business owner who wants to sell. You may have a small engagement fee. You charge them, but largely, you represent them, talk with buyers, and show the business. When you sell it, you get a commission. The problem is that when you try to sell a business, it can sometimes take years to sell a business.
I remember the first business I listed for sale at the end of 2008 was a fried chicken franchise. The last business I sold at the end of 2011 was that fried chicken franchise. I sold it three times, but the first two times, it fell apart at the eleventh hour. It didn’t have anything to do with me, the buyer, the seller. It was always these outside influences, like attorneys, accountants, and bankers, that would ultimately determine a deal wasn’t going to happen.
I couldn’t live that way. I got out of it and became a banker. While I was doing my banking role, people kept calling me up. They were like, “I’m told you’re the guy that can help me with this deal.” It was someone from my broker days who was trying to do a deal and looking for advice. I started to help people as a little side hustle doing these consulting jobs. When the bank decided to reorganize, I was like, “I’m going to do this full-time.”
That was 2016. It’s been several years now. That’s when I hopped on YouTube and started making videos. I work with people all over the place. I act as a consultant with buyers and sellers who are moving through a deal. I do certain consulting work, like helping to do evaluations and analyze businesses that someone might want to buy. I’m coaching people through the process and letting them know what is going to be expected and what questions they need to be asking when they’re talking with their attorneys and accountants. I’m guiding them through that process because I’ve been with it with many people. That brings me to now.
I remember sitting there during your presentation. You’re like, “I sold 35 businesses over three years.” I was like, “That’s not bad. It’s one a month.” It’s not always one a month. It drags out.
In those three years that I sold the 35 companies, there were three distinct periods of 7 to 9 months long with no closings. I was familiar with the workings of lines of credit and credit cards because I would end up getting into the red, paying all of my business and personal overhead, and selling a business to get back to zero.
If anyone’s been in any rollercoaster project-based cashflow business before, that’s what it’s like. This is why I say that it’s a crazy business because I couldn’t even make a household budget. Luckily, I owned three apartment buildings when I did it. That gave me that cashflow stability. I don’t think if I had that, I would’ve ever gotten into it. I mentioned that because I know the tie into real estate that a lot of your audience has.
I’ve got friends who have been commercial residential brokers, buying and selling residential real estate every 90 days. They’ve made the bump to commercial real estate and things drag out much longer. They’re not used to that period in between. It takes longer to close deals and lots of things can go wrong or ride a kill a deal versus it being turnkey a lot of times with residential, but it can be in a lot of cases. What’s the average commission if you’re selling a business? I’m sure it’s a percentage of whatever sales prices, like a normal commission.
It’s a function of a lot of different things. When I had my brokerage, I was focused on what we call mainstream businesses, which would be businesses with a cashflow to the owner of under $500,000 a year. My commission was structured like this. It was 12% of business value and 7% of real estate value if I happened to sell real estate at the same time.
It is distinctive the difference between real estate and business with a couple of exceptions. There are a few businesses that are real estate, like your mini storages, RV parks, motels, and special care homes. There are a couple of categories like that. For the most part, if somebody owned a business like a retail store and they happened to own the building, we would analyze and divide those two assets and treat them separately.
One of the things I would often suggest to people is, “Let’s sell the business to someone. You can become their landlord.” Maybe we’ll give them an option to purchase, or you’ll sell the building to a real estate investment organization. They don’t have to go to the same person. The biggest challenge when you’re selling a business is finding a buyer who has that down payment money. If you force someone to buy your business and your building at the same time, they need the down payment for both. What that does is it shrinks your potential buyer pool. That’s what can elongate the process of finding that buyer.
We looked at them distinctly. That’s why I charged two different rates of commission. It’s funny that you mentioned commercial real estate agents. When I was a business broker, here where I live, to be a business broker, you needed to hold a real estate license. Some realtors would get the idea that because the license was the same, they were, therefore, qualified to sell businesses. Are you aware of the Dunning-Kruger effect?
Yeah. I’ve heard of that.
The more you know about something, the more you realize you’re incompetent. The real estate agents who were more likely to list businesses for sale were the residential agents because they had no idea what they didn’t know. The commercial realtors were the ones who would often refer people to me. They would meet someone who would say, “I want to sell my business.” The commercial realtor would be like, “I do warehouse office retail. I don’t do business, but meet my friend Dave.” I would often sell the business and refer the person back to the same realtor to sell the building.
Once the building has a new tenant in place who signed a 5 or 10-year lease, that building is a whole other value proposition to an investor. Splitting the two can enhance the value for the seller and make it doable for the buyer, where they may not have been able to pull a deal together at all if they tried to buy the whole thing in one fell swoop.
We’ve seen it. We’ve got some friends up in Dallas who work with entrepreneurs. They run a service interest like lawn care or other services aspect of it. They don’t have a lot of value because it’s all solopreneurs. The minute that they say, “Instead of you leasing your building if you can buy your building, you add a lot of value to your business and have a tangible asset that could get financing at banks who can put lines of credit against to help them out with that.” It’s interesting splitting the two and cashflow the business in one property up.
It’s a separate thing because what you’re talking about is someone with a landscape business and then they make a real estate investment. What they’re doing is their business is now in two different businesses. They’re now in landscaping and commercial property management and leasing. They have one tenant. It’s themselves.
If you look at the balance sheet of a corporation, an LLC, or whatever that entity is organized like, it may appear. You have these features you’re talking about but they’re still in two different businesses. When someone comes along to look at the business, they’re going to look at it separately from the building, but there are certain advantages to owning property in some cases.
If somebody comes to you and they’re looking to buy a business and start with a buy-side, what are normal terms? I know normal can vary. That’s an inconspicuous term and it means a lot of different things. It’s a ballpark thing. It can be all cash, a portion of cash, stock, or payments. What do you see a lot happening with the purchase of a business?
If someone is going to buy a business, the first thing we have to understand is how they are doing the transaction. How are they going to take the business from the seller’s hands into their own? I’m assuming most of your audience is American. For a lot of small businesses in the US, that is going to be done in the form of an asset sale. An asset sale simply means that I’ve got a legal entity, you have a legal entity, and my entity is going to buy the stuff your entity owns, which could include trade names and website addresses, what we call goodwill.
All the intangibles and tangibles are going to be traded from one party to another. Typically, in an asset sale, certain things do not transfer. They can be certain components of operating capital. For example, sometimes a seller will say, “I’m going to hang onto my cash and receivables. I’m going to pay off all my bills.” You’ll have a clean slate when you start. If that business owner has been operating with a net position in working capital of $30,000 or $40,000, that means that the seller, once he pays his bills, is going to have this extra money that he’s kept. That money was required to make the business work.
From a buyer’s point of view, when you make a business purchase from that seller, what you get in the transaction from the seller is not everything you need. In addition to the purchase from the seller, you’re also going to have to put in $30,000 or $40,000 in cash into your own entity to make up that operating capital difference. What you pay the seller is typically going to be a down payment, bank financing, and almost always a seller note.
If it’s an SBA financeable business, that opens the door to a lot of high leverage, which I’m not always a big fan of, and here’s why. When you buy a house, you can have the house inspected. You can know what you’re getting. You can look at the market and know what that house is worth. A business is not tangible like a house. A business is completely intangible. It’s a system. It’s a place where capital people operate together in a place to produce a cashflow.
It’s very fragile. You never understand everything about it before you own it. For most buyers, it’s scary. They’re like, “What if the seller is lying to me? What if things are not going to work out the way I think? What if I’m not going to be able to operate it the way I’m told?” The normal way that people deal with risk is they want to press the price. They start to build all of these what-ifs into what they’re willing to pay, but there’s another way.
The other way is to have this seller finance some portion of this purchase, which is subject to offset. What the seller is saying, “I promise everything I’ve told you is true. I’m going to finance part of this deal for you.” A lot of the time, it’s a little 10% note. People who work with me push for 30% or 40% notes that are a material amount of money. It’s subject to offset in the case of a material misrepresentation or undisclosed lien or liability.
What that means is if the seller tells you he owns the forklift and you buy the business, and then three weeks later, a repo man knocks on the door and says, “The leasing company has owed money on the forklift. No one has been making the payments.” You can say, “I was told that I now own the forklift, and apparently, I don’t.” You can pay the repo man, his agent, or whoever is trying to collect and deduct that amount from what you owe the seller.
That is how you protect yourself from any material misrepresentation or undisclosed liability. With that protection, the buyer is able to feel confident in doing the transaction, and ultimately, the seller ends up getting a higher price because there are economies in the world and other countries where seller financing doesn’t happen. Businesses sell for far less money because buyers will build every risk conceivable into what they’re willing to offer.
There are similarities in the non-performing note space where you deduct it based on state, foreclosure timeframes, and any risks that aren’t, especially taxes that aren’t paid and insurance. There are a lot of similarities with it. You said that when you’re working with your clients, they’re asking for a 30% to 40% seller carry. Does that mean they’re bringing 60% to 70% cash down or getting a bank financing?
They could be using a bank. It’s great that you brought that up. In an SBA deal, someone could put down 10%. They could borrow 50% of the deal from a lender that’s using an SBA loan and ask a seller to finance 40%. You can put that deal together. When a buyer has a significant down payment, like 30%, 40%, or 50%, we’ll have sellers that will say, “I don’t want to hold a note behind a bank. I’d rather do the balance in a note.”
The sellers are the only ones who can capitalize on that note if there’s any default because they’re the only ones who can run the business. A banker can’t run the business. Nobody else could come in and run that business with the same efficiency that the seller could. They understand the business. I’ve had cases before where buyers have failed and sellers have foreclosed on them, even if they have to come in and start taking up the payments on a bank loan.
With an SBA loan, that’s hard. Sometimes there’s conventional lending that happens where someone will use business assets like machinery, equipment, and vehicles as collateral for more conventional financing. A seller will repossess the business, take over the payments on those other notes, and take the business back. It’s not something that most sellers want to do. A lot of sellers will be hesitant to finance the business because they’ll say, “What if the buyer doesn’t pay me? What happens?”
What I always point out is that, at the moment of closing, the seller gets the buyer’s down payment and all the money furnished by the bank. The seller is going to walk away with 60% or 70% of the total price. Buyers don’t usually fail on day two. There’s usually some period of time. The seller could collect payments for a year or two. If trouble arises, the seller has the option, not the obligation, of saying, “I want to get back into this and try to salvage the situation.” They could say, “No, I’m going to abandon what’s left of my note.” They walk away.
If they did come back in and simply took over the payments on any debts that the buyer had from other lenders, what does that mean? It means that they get the business back. They’ve already collected 60% to 70% plus of the purchase price. If they can turn the business around, they can potentially sell it again. The outcomes potentially for a seller with the seller financing can be incredibly lucrative.
People don’t typically sell businesses to execute this thing. People sell a business because they want to get out. Something personal is making it. They don’t want to go there every day to run the business. When I explain it to people like this, they begin to realize, “This may not be the risky proposition that I originally thought.”
If a bank is on the hook to take over a business, they don’t necessarily want to do that. They’re willing to get creative with the previous owner to come back in and get those operations back up for a period of time.
Banks want to be paid. If a bank ends up taking over a business, they liquidate. They don’t have the ability to try to run an operating business.
It’s like, “What’s the forklift work? What’s the furnishings work? Let’s sell it and get as much back as we can.”
They’ll call an auction here. They’ll wind it up as soon as they can. If they can get anything out, like if there’s a landlord involved, the options for the lender could be limited.
You’re talking about foreclosure. What’s the timeframe for the business? Is it different than foreclosing on a piece of property where it can vary like 30 days in Texas and 3 years in New York? How long does it take to foreclose? I know it may vary.
That’s a question for a lawyer. I’ve rarely seen anyone go through the whole legal process because, usually, the buyer is in a bad state. The buyer and seller are still communicating with each other because the buyer is still paying money to the seller. The seller learns that there’s a problem in the business. The great thing about a seller note for a buyer is it aligns the interests of the buyer and the seller together because the seller wants their money.
As a buyer, if you know that the seller has an interest in your success, it means that you can then open yourself up to a mentorship or coaching relationship with that seller. If things start to go off the rails, the buyer will usually start calling the seller and say, “This is happening. Has this ever happened to you?” That seller is going to want to be helpful because they don’t want to jump back in and take over the business.
One of the big bonus factors for the buyer in creating this arrangement is that there’s this alignment of interest. You compare that to a cash closing. If a seller sold a business for cash and walked away with the money, and the buyer got into some trouble several years later, the seller has no interest in being helpful at all. That’s one of the things that scares buyers. A scared buyer is not paying top dollar.
For a lot of sellers, I take them through an empathy exercise where I say, “Think of yourself at this point in your life. Maybe you’re 60 years old or getting close to 70, and you own the business. You own a house. You have an RV or a place by the lake. You got a condo down in Florida. You have retirement accounts. You have all these various assets and then somebody wants to buy your business. Who is this person?
It’s a person who may be 25 years younger than you. They’ve got some savings, but they’re going to take all retirement savings. They’re going to ReFi their house or get a HELOC. They’re going to hit up all their family and friends for a loan or an investment into this business opportunity. They’re going to go talk to a banker and try to leverage things up as much as they can. They want to borrow from you, Mr. Seller.”
This buyer almost always is putting the entirety of their financial life in one basket and they’re going to hand this to you because they want to buy this business and use this business as a vehicle to achieve their own financial and family goals. The buyer is in a scary, and from their perspective, risky point of view. The business they will end up with is extremely different from the business that the seller sells. The seller doesn’t have 90% leverage. If they’ve been successful, they have paid off their debts long ago. They’ve got lots of stuff that’s paid for. They have this great cashflow coming out of the business.
A lot of times, when I work with sellers and I tell them what their business is worth, they’ll be like, “It should be worth more than that.” I’ll show it from the buyer’s perspective. I’ll say, “The buyer is going to put this big loan on. They’re going to have this monthly payment. They’re going to have this tax bill and CapEx expense. Here’s what’s left if they give you this price.”
For some sellers, it’s a bit of a shock because they don’t stop and think about it from those terms. They don’t have that empathy for the buyer. You have to often paint the picture for them. For these buyers, it’s a risky scenario. Anything that the seller can do to give that buyer confidence that this is going to work out and I believe in you, this business, and the market, that’s going to go a long way. One of the easiest ways to transmit that expression of faith is through doing a material seller note.
What do you see as far as the terms on that seller note, a number of years, or rough interest rates? I know that’ll vary.
It’s completely open to negotiation. I’ve seen them as short as 12 months and as long as 20 years. I’ve seen them with interest rates that approach what would be considered credit card rates down to zero. It has to do with the size. If somebody is only making a 10% seller note, they’re going to want their money in 3 or 4 years at the longest because they’re going to look at the payment and amount and say, “This is not much money. I’d like to be paid fairly quickly.” If someone is doing a 40%, 50%, to 60% seller note, it’s got to be over ten years in most cases because the numbers won’t work if you try to pay them in quicker.
When you mentioned SBA, you had a little bit of a wrinkle there. Is it difficult to get an SBA loan? Do you jump through a lot of hoops from time to time with that?
It takes time. They have their own process. They do a lot of their own due diligence and underwriting. Here’s the big issue I have with SBA. They make more financing and leverage available to more people, which sounds great, but everyone in your audience is a student of real estate history. Do you know what happened when more money was made available to more people for bigger amounts of houses several years ago?
Here’s what happens. The SBA will make a loan based on the purchase price of a business. Nowhere else in the world will anybody make a loan on the purchase price of a business. If a business is successful, there will be a component to that purchase price called goodwill. Let me give you a quick example. Let’s say there’s a little pizzeria. The owner works there full-time. He is able to take $100,000 a year out of that business. You decide you want to buy that pizzeria and you both agree it’s worth 2.2 times that total cashflow so it’s worth $220,000.
If you go into the pizzeria and you add up the value of the oven, the inventory, the furniture, the fit-ups, and the decor, let’s say that stuff is only worth $75,000. You’ve got a $220,000 business that only owns $75,000 worth of stuff. The difference between those two numbers is the goodwill. That’s the gap. In Canada, a bank will lend you a percentage of the $75,000, not the $220,000. It’s only in the US that the bank will lend you a percentage of the $220,000. It’s only because Uncle Sam stands behind that loan and guarantees it.
What does that do? It means that more leverage is available to businesses. It means that more people can get into it with a smaller down payment. What that does is it expands the pool of buyers. It means that more people can make a play on that pizzeria than would normally be able to. It sounds good, but I can tell you, a business in Upstate New York versus one in Ontario that is in the same industry with the same cashflow, the one in Ontario will sell for 30% less because there’s less financing and leverage available.
I’ve been on record saying this, Scott. I say it tongue in cheek. I don’t believe the SBA helps people buy businesses. I believe the SBA helps people sell them. That’s a whole different thing in the same way that GMAC helps GM dealers sell GM cars. I tell people to be careful of getting into a high-leverage situation with a business.
In the world of apartments, you can have a vacancy, but if you have a ten-unit building, it’s highly unlikely you’re going to have half the building empty. You can’t double the revenue of the building in a year. That’s hard to do. In the world of business, you can have a 30% decline in revenue in one year for reasons completely outside of the owner’s control. You can also have a 50% increase by running the business in a better way and finding new customers. The variability or the leverage in the operation of a business is much more variable than the operational leverage within owning real estate. Real estate has a lot of financial leverage. The business has operational leverage.
I point out that when you invest in real estate, it’s like investing with guardrails. Even if you mismanage it entirely, you can sell it and still get 85% or 90% of what you paid for the building. In the world of business, you can mismanage it and it’s worth nothing. You can completely go off the side of the cliff. Those guardrails aren’t there. There’s a lot more up-and-down variability.
I’ve seen businesses where I’ve seen five years of financial statements and revenue will jump up and down 10%, 15%, sometimes 20% year after year. If you look at those five-year period, you’ll see that it’s all within a certain band. We would call that a flat-performing business. If you apply 90% leverage to that business in the year it’s down 20%, you might not be able to take home a paycheck for yourself if you’ve got that debt service. These are some of the traps that first-timers fall into or people who don’t have a lot of experience. They don’t realize what oscillations can happen that are normal in the world of business.
We saw that happen a couple of years ago, like shutdowns. You also have a lot of seasonal businesses that are peak during the summers or dead during the winters to take into consideration. If you leverage, that monthly payment doesn’t go away every month.
You mentioned seasonal businesses. I’ve done a whole bunch of deals with people who bought seasonal businesses. The seller financing notes only have payments in the high season. When you’re doing a seller finance note, you don’t have to conform to your idea of what a loan looks like. You can make the payments a function of business activity if you want. You can make the payments only during certain months when the business is active. All kinds of seasonal businesses I’ve seen will go to interest-only payments from December to March if it’s a summer touristy business thing. That recognizes the variability of the cashflow, but it’s hard to get a bank to do that.
They like that steady stream of income coming in. Based on the example you give, would a business that has onsite management that’s included in the sale versus it being a solopreneur have more value?
There’s a big difference there. When we look at publicly traded businesses and stocks that are available in the stock market, people will look at the growth factor of that business as part of their analysis of what they think the price should be. Coca-Cola, for example, has a president, a chairman, and all the management staff. They have their plan laid out.
When you buy stock in that company, you’re buying into that group of people. When you buy a small private company, that leadership often is departing. Even in the case when there may be middle management in place, usually, the owner has some degree of involvement there. If not day-to-day, at least they’re supervising the manager on a regular basis or looking at the backend of the sales system. That leader leaves.
We don’t usually look at the future. The future gives us a reason to buy a business but our pricing is based on the performance that exists there that is substantiated by several years of results. The first question is, is the cashflow going to help a buyer decide what the business is worth? The second question they’re going to ask is, will the cashflow continue under my stewardship? You can see, in your example, those two different businesses you mentioned are going to have a different answer to that question.
If it’s a solopreneur thing, where one person is the expert and does everything, the deal is going to look a lot different than if it’s a bigger business with some of those management people in place. A lot of the time, the seller is going to have to sell themselves in the deal. What it might look like to people on the outside is Scott has taken on a partner because he intends to retire because everyone is told that you have a partner. That’s a business buyer. The deal is you’re going to work together for three years. They get to learn everything from you and develop all the same relationships that you have. Here’s the problem. Can your business afford to pay two salaries?
This is why that solopreneur example that you had, few people are able to pull off that thing. It’s not a great example of a marketable sellable business versus a corner store. If you’ve got the owner who’s there full-time and he is got a bunch of part-timers, the nature of what they do and how they do it lends itself much more easily to a transaction.
When the buyer says, “Will this cashflow continue under my stewardship?” They’re like, “Can I run a store? I can order stuff and talk to the Coke guy, bread guy, and milkman.” They can see that they can make it work, but if you’re trying to sell a business where there’s a lot of expert knowledge and specific relationships that have to be leveraged.
I’ve got a client who bought a PR and communications firm. It’s one of these cases where the seller has a reputation in the industry and is known in the industry. A lot of the reason why they have the accounts that they do is because of the seller’s fame, prestige, notoriety, and the fact that they’re a known commodity. One of the situations they’re doing is when the buyer comes on not as the buyer but as a new team member. It’s going to be a longer-term transition where someone is going to have to learn the ropes of the business.
That’s the intangibles that somebody brings in the way they make a pizza or the relationship, and how they treat their clients is important in that long-term success or the success they’ve had of that date. When somebody is looking at buying a business, what are some of the things they need to look at besides the financials and cashflow?
You want to look at the market and whether this is something that has a good trend behind it. You want to look at what you can add to it. Remember I said, “The future gives you reasons to buy, but you don’t put any value on it.” If you can find a business that is a business that is a good, profitable business that you know you can enhance through your own skills and talents, that’s the deal because you buy it and you pay for what it gives you, but you take it to that next level.
I’ve had countless examples of this over my career where someone will have a business for a few decades. They get tired. They slow down and stop being as aggressive as they could be. They aren’t good at systems, processes, and organizing. They were a technician or a tire guy, and they opened up a tire shop.
A lot of business buyers tend to be people that come from middle management somewhere, bigger companies, the military, government, or any of those places. They’ve usually had a better income. They could save up some capital, but they have some experience with processes like standard operating procedures. That’s often what these businesses need. It is someone who can come in, better organize it, get things running more smoothly, and be able to delegate responsibility instead of delegating tasks.
Many times, I’ll meet business owners who are real pros at what their business does. They’ll hire people and train them. They’ll say, “Do this task.” They’re still the central nervous system of the everyday operation instead of saying to someone, “You are now responsible for the inventory. You take care of it. You figure out a way to manage it, measure it, and place the orders, etc.”
Because they never delegate responsibility, they can never get away and the business can never grow beyond a certain point based on their own capacity. What this new owner is going to bring to the table is they’re going to bring the ability to start growing again. You see it everywhere. If you drive along somewhere, you see a three-bay garage doing auto repair. It could have been the same owner for many years. They’ve never grown beyond three bays, but there are 15 and 20-bay garages. What’s the difference between those two businesses? It’s the way they run.
I’m friends with a guy by the name of Roland Frazier. He talks a lot about buying auxiliary businesses that work with your existing clientele base. Is that a good starting point if you’re already in business doing something or if you’re looking to expand your reach?
It’s a common strategy. The question I asked was, “How can we improve the business?” If you have a pool of customers who already know you and you can offer them a new service, you can make the business you’re about to buy worth even more because of how you can grow and expand it. That can make a lot of sense to me.
Don’t pay anyone else for the improvement that you’re going to make. It would be my one morning. I’ve seen people do that before. I’ve seen people overinvest in a lot of different ways. I knew a real estate guy once. They wanted to get into property maintenance and landscaping because they were spending a lot of money on that service. They went and bought a franchise and a lot of brand-new equipment. They spent a lot of money on this capital gear. They made the business work but they didn’t make any money. If they had been able to study it further, they would’ve realized there would’ve been a lot cheaper ways for them to get into that.
At the end of the day, you’re buying a cashflow. One of the exercises I take people through is I’ll say, “What would it cost you to replicate this?” If somebody wants a crazy price that’s way too high for their business, and you could replicate it by buying everything, finance losses for a couple of years, and you’re like, “I could start this for a lot less money.” That’s one of the things that people are going to consider.
For people in your audience who happen to own businesses, one of the worst things you can do is bring your business to market and have it overpriced. The reason is that there are qualified buyers out there who are people with money, operational experience, and good credit scores. They’re doing research. If they’re looking for a business like yours, they’ve discovered my podcast and books. They know what the business should be selling for.
If you come on the market for 50% more, they look at you and go, “This person is nuts. They’re a waste of my time.” You won’t meet those qualified buyers. Who you will meet are other people who don’t know what they’re doing. Those people will meet you and talk with you. They’ll even agree to pay your price. They’ll meet the banker and the banker will explain why they can’t afford to buy the business. You’ll spin your wheels and waste time. The confidentiality may be broken at some point.
You never want to tell anyone that your business is for sale. If people in the public find out a business is for sale, it can be ruined. If you are motivated by a pressing personal need to sell your business, you have to know what you’re doing. You have to be prepared. It has to be packaged up properly. It has to be priced properly. When you bring it to market, you get the attention of qualified buyers who will come and make you an offer. You can sell the thing and have it move.
It’s not like selling a piece of art or a fancy house where you can say, “I’ll bring it to market. I’ll keep reducing the price until it sells.” That strategy often backfires. A lot of the time, people out there in the business brokerage community will tell you that the buyer that makes the most sense who’s the most qualified buyer, is often one of the first people that a seller will meet. It’s not a case where you want to be burning your opportunities.
You’re saying that maybe some of these business listing websites where people have listed their business for sale, like the LoopNet of commercial deals. If something is on LoopNet, it’s not necessarily a deal in one of the cases.
Let’s talk about those business-for-sale websites. Everyone knows that if they want to sell their business and hire a broker, it’s going to cost money, like real estate. The top five reasons people sell a small business are burnout, boredom, fatigue, divorce, poor health, the need to relocate, and retirement. Only one of those is planned for. The other four happen to you.
When one of those things comes up and someone says, “I can’t run my business anymore,” they’re going to ask themselves, “Do I know anyone who might want to run this business or own it?” If they do know someone, they’re going to talk to that person. This is why you see a Ford dealer being sold to another Ford dealer. Those people all know each other. It’s easy. If they don’t know anyone, that’s when they start to think, “I need to go to a business broker.”
The business broker has some buyers. The business broker is incentivized to sell businesses as quickly as possible. You may think that because they’re paid a percentage, they’re incentivized to pay to find the buyer who will pay the highest price. That’s not necessarily true. If you’ve read Freakonomics, they have a great example in there from the world of real estate.
A business broker will have a shortlist of buyers who they know have done deals and who are keen, serious, and interested buyers. They’ll offer that business to those people before they put it on their own website. They’ll try to make a deal happen. If they can’t, that’s when they’ll put it onto those big business-for-sale websites. A lot of brokers hate to do it because the minute they do, they’re going to get 100 inquiries. There’s an ocean of people waiting for deals. If it’s reasonably priced, within that first batch of buyers will be the buyer.
They’ll put it up for a brief period of time, get a bunch of inquiries, take it down so they don’t lose all their hair and they’ll finish the deal. The ones that end up hanging on there for a long period of time are often the ones that have some problems. It’s not to say there are no good ones in there because you can also get a scenario where you have a business that requires a buyer with certain technical expertise and it’s in a smaller city. There’s not a lot of buyers that are right for it. That business could stay on there for a year or two waiting for the right person.
I always tell buyers there are two ways to shop. You can shop like you go to a mall and look at what’s for display in the window displays. If you window shop, it’s easy to get distracted. You start looking at one thing and another. The problem with businesses is every time you look at a new business, you have to indoctrinate yourself into a whole new system and learn all the conventions of that industry.
I’ll give you a quick example. In construction, direct labor is part of the cost of goods sold and administrative labor is part of the expenses. In the restaurant industry, all the labor might be in the administrative expenses. Different industries have different conventions about how they report things and why. You have to dive into each new industry and learn it all from scratch each and every time. It takes a huge amount of effort and time. That’s window shopping.
What I prefer is shopping like grocery stores and shopping where you create a list. You’re like, “This is what I want.” Once you’ve decided that you want a machine shop in Upstate New York, you need the Yellow Pages. You can find them all and then you are free to build relationships with business owners. Earlier, I explained that if a business owner doesn’t know a potential buyer, they might go to a broker. If they’ve been contacted by someone who says, “I’m looking for a business that matches the description of your business,” now they know someone.
This is what they call proprietary search in the world of business buying, where you’re out there trying to network, talk to people, and meet those owners to try and create your own deal flow from people who may not yet be for sale. Some of the people that I work with will talk with a lot of these people and nobody wants to sell. All of a sudden, something happens in one of those top things. Someone is on the phone saying, “We should talk about this.”
This has been fascinating, David. You are a wealth of knowledge. What’s the best place for our readers who want to continue the conversation, talk with you, or hire you? What’s the best way for folks and our readers to reach out to you?
If anyone is interested in buying and selling businesses, you hit over to my YouTube channel. Look up David Barnett Small Business. I rip the audio feed and put it on a podcast feed. Any of the podcast services will have that. DavidCBarnett.com is my blog site. That’s the central nervous system of all of it. You’ll find my contact info and all that stuff there.
David, thank you so much for coming on and sharing your valuable expertise and knowledge with us. I appreciate it.
Scott, it’s been fun. Thanks for having me.
You learn it straight from the source there. Somebody who’s got a ton of experience expresses that during the episode. If you’re interested in buying the business selling business, check him out. Check out his podcast, YouTube, and several books. This guy is a wealth of knowledge and is willing to share that to help you make the right decision versus the wrong buy. Go out and take some action. We’ll see you all at the top. Bye.
- David Barnett Small Business – YouTube
- David C Barnett Small Business and Deal Making M&A SMB
About David Barnett
Barnett loves to say that it took him 10 years to un-learn what he was taught in business school. University had trained him to be a middle-manager in big enterprises, he was totally unprepared for the realities of small business.
After a career in advertising sales, Barnett started several businesses including a commercial debt brokerage house. Helping to finance small and medium sized businesses led to the field of business brokerage. Over several years, Barnett sold dozens of businesses for others while also managing his own portfolio of income properties and starting his career as a local private investor.
Barnett regularly consults with professionals and banks on business and asset values. Presently he also works with entrepreneurs and would-be entrepreneurs around the world who are buying, selling or trying to improve their businesses.
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