Welcome to the top m&a entrepreneurs today my guest is Chris younger Chris runs a company called class six partners. It's an investment banking firm. He also has his book called Arvest. It's on Amazon. It's a smart read. And I've got some questions for that. Chris has done over $2 billion in transactions from 70 different deals. So welcome to the show, Chris.
Thanks so much, John. Happy to be here.
Yeah. Let's talk about a little bit how you started. I was looking on your LinkedIn and you're a Harvard educated attorney. used to work for Jesse. What's his last name? Spa? Spa? Yeah. Then Wilson Sonsini, California, that big Silicon Valley attorney. Yeah. And then you work for Northwest growth Corporation. What was that?
So when I left the legal profession, I went to work for basically an investment group that was funded by utility. And that's where I and a couple of other folks started a consolidation strategy in the communication space.
Yeah, then you X Burnett's largest value added reseller for telecommunication communications equipment in the US acquired and integrated 27 companies. were you when you brought that on? Was that your goal to start acquiring companies?
Yeah, when we started, it was an attentional consolidation strategy, we had looked at the VAR market value added reseller market in the communication sector, and felt like with the change in technology, moving from kind of traditional TDM technologies to IP technologies, that having a large national platform, and the ability to invest in a big network operation center would give us an advantage. And so that started in 97. And we got, we completed those 27 acquisitions through early 2000. And then, as I mentioned, I went from being the deal guy throwing the deals over the fence to the operations team, to being the guy on the operations team, I became the CEO and the president of that business. So I had to deal with all the messes that I created on the acquisition side. It's quite fun. I used to be a lot taller.
Yeah. Yeah. Yeah. So then you sold that via a very large multibillion dollar company. And then you went off to Silver Cloud company's private equity firm in Englewood, Colorado, and you did that for seven years.
Yep, did that. And then in parallel, we started our investment bank, class six partners with my partner, and and it's been a great ride ever since.
Yeah, you've been doing that for 17 years now. That's fantastic. So yeah, that's been a lot of fun. And you're also a Vistage worldwide speaker since 2008.
Yep. Really big believer in Vistage. I'm a member I have been for the last 15 years. And I do a lot of speaking to Vistage groups around the country, and always, always happy to help those companies, because they're, they tend to be lifelong learners, and, you know, interested in growing their businesses, so they're fun to work with.
Where do you go for advice?
Well, I'm fortunate that I've got a business partner that, you know, for the last 17 years, I've been able to bounce ideas off of we've we're also very fortunate we have, we've built a team of about 40 people. And you know, the old advice about hire smarter and more talented than you, I think we've done that. And so they're, you know, very savvy folks. And then I've got mentors as well. Jim Walker has been a mentor of mine, he ran a very big division of AT and T back in the day, and then he was the CEO at EXPO nets, and learned a great amount from him just a terrific mentor. Yeah,
hey, I want to go back to that exponent and your 27 acquisitions. Why did you do that? Did you just see the end goal of like, okay, we need to get to this the valuation a lot higher so that we all you know, the, the operations bigger because we can all make a lot more money or what was it was it just it was there we need to climb it? Yeah, there's there were really
two pieces to that strategy. One was that market was highly fragmented. There were lots of lots of ours all around the country. And so we felt like If we could consolidate those get a cheap some efficiencies. I think that proved to be pretty challenging. But we'd have a much larger business and a more scaled business. The second piece, as I mentioned, was in that particular market maintenance services for we did a lot of phone systems and data networks. At that time, if a customer's data network or phone system was down, you had to do a truck roll to fix the system. So which is pretty expensive, right. And we had about 200,000 maintenance contracts at once we were at full capacity. And what we concluded was as technology was changing to IP technology, which is most systems today are all IP based, a lot of that maintenance could be done remotely. But that takes a pretty sophisticated network operation center a NOC that was, you know, we, we were investing about 10 to $15 million in that noc. And we ended up selling the business before we got that fully deployed. But that was the game plan is, hey, we think we can get an edge over our competition by being able to remotely diagnose and solve maintenance problems for our customers versus having to roll a truck, which is all those smaller bars. That's what they had to do. So that would give us a that would give us a pricing advantage. Yeah.
And how did you buy those would? You know, we go, okay, everybody wants cash, ideally, up front. But what did it come down to? Like, we put 33%, down in cash and three 3%, seller financing or earnout? And some
debt? Yeah, we used a combination of cash that we raised for Mr. The utility company, we had a credit line that we used for some of those acquisitions. And then we required each of those entrepreneurs to take equity in extra nets. As part of the deal, we wanted them to continue to be invested in and motivated to help us build exponential into the business we thought it could be.
Yeah, so out of the 27. The failures teach us longer than the other successes, what can you can you go on to describe one of those right? Yeah, that was that was horrible. But we learned
how long do we have? 15 minutes? Yeah, yeah. The? Well, I joke, and people have heard me say this before. But out of those 27 deals, I think nine, I looked a lot smarter than I am the nine of those kind of went as we had planned and modelled. And nine of those, you know, we're complete train wrecks, and I should have been fired. So
well, you're, that's good. Yeah,
no, it's at that. Doing that many deals that quickly, you know, you're bound to make mistakes. But, you know, the learnings, if I were to start to identify common elements of failures, I would say the number one lesson that we learned was, if you're buying a business, that where the entrepreneur is the dominant, either salesperson or operations person, or product development person, and they don't have a strong number two in place, that's going to be a challenging deal. entrepreneur, you know, for the entrepreneurs in the audience don't take this the wrong way. But most of us make poor employees. And, you know, after we would acquire those companies, obviously, we had more stringent reporting requirements. You know, we had policies and procedures that we needed to follow. And for a lot of entrepreneurs, hey, that was, you know, a reason for them to disconnect and get a little bit less interested. If you had a strong number two, that was managing the business for that owner ahead of time. That was much easier to deal with, because they were already used to taking direction, managing according to, you know, with with a manager in place, and, you know, the businesses were that wasn't the case, those were our toughest deals. And
what does that? I mean, can you see that when you say, okay, he's got a general manager or CEO. And you ask the CEO about that. You go, well, who's your number two? And tell me about? Oh, yeah,
yeah, before we would, as we learned those lessons, obviously, we would insist on meeting those people to really understand what was the bench strength, both at, hey is there somebody that is either running or is capable of running that business, a president or a COO? But we also wanted to talk to the CFO, we wanted to talk to the head of sales, we wanted to talk to the head of operations, head of engineering, because that gave us a much better sense for the strength of the team, which, you know, that has a big impact on valuation. and the stronger the team, the less risky it is. And like I said, we'd learned that lesson the hard way on some of our deals. And but it was, yeah. You said you learned a lot doing that many deals that quickly.
Yeah, it when you say it adds the valuation or subtracts to the valuation, you're saying the same thing? Was there a number attached to that? Or can you Sure?
Yeah, yep. We. And even on the banking side, we see this all the time, if we've got a business where it's too heavily dependent on the owner, or the entrepreneur, versus a business that's got a really strong, deep qualify team, you know, the difference could be two to three turns of EBIT, da, in terms of valuation. So yeah, so as businesses scale, you know, this was one of the challenges that all entrepreneurs have, as businesses scale, you know, there, as they get to a certain level, maybe that's 10 million in revenue, maybe that's 12 million in revenue, you know, they're gonna have to make that decision to really invest in, you know, more talented, second tier management. And so it'll depress profitability for a little bit. But that's what's required to make the business less risky and scalable.
Yeah. So let's talk about class six partners, you clearly have the skills to say I can go acquire a company, and then do repeat this, or I can go down this other road is help other people do it. I mean, what was the choice? And why did you make that? Take that fork in the road?
Well, we had, we had sold exponents back in 2003, hit at that time, three young kids, a newborn and a four year old and a six year old, and I was on the road, pretty much nonstop. And, you know, I sat down with Mary Beth, my wife and said, Hey, we could try to go do this again, right? Go raise some money and come up with a strategy or we could we live in Denver, we loved it. We could stay here in Colorado and do something different. So I actually, I probably, he was kind of in quasi retirement for about a year and a half. And I joke, I was reorganizing her spice store when she told me, I won't use the Yeah, I won't use the exact language that she used. Yeah. But she said, You need to find a hobby. So that's why we started the bank. And we did it. One of the things that I learned to do and all those acquisitions is just how fun entrepreneurs are to work with. Yeah, they were high integrity, high quality driven, fun people to hang out with. And so I wanted in the next life, to make sure that I got to continue to work with them. And this is a perfect job for that. I mean, all of our clients save a few are entrepreneurs. And, you know, they're good people. And it's really easy to get our team motivated to help them. Because they, like I said, we're pretty selective on clients, we really work with those folks that are good values match with us. And you know, they're generally quite charitable, they treat their team well, high integrity people, hard workers. And, as you know, with all entrepreneurs, I mean, they've got their quirks. Most of them are entertaining, some of them not, but
I gotta go, when you ask about high integrity, what is your, hey, they crossed the line. And it couldn't be the tiniest little thing. I mean, I'll give you an example. I can remember, you have a basketball will ludos. And first came, he brought a recruit to a restaurant, and recruit was rude to the waiter. And that guy did not get a scholarship. And he told that story because he was trying to get people to come to the seats at that time. This is right when he first came.
Oh, yeah, are the three core values at our firm are hustle, humility and relationships. And the humility piece is a really, really important one that I don't know if people pay enough attention to. So we're looking for clients that are lifelong learners that are coachable, that care a lot for their team, we can tell a lot about an entrepreneur, when we're first meeting with them, and asking them about goals of the transaction. If their individual financial goals show up first. That tells you something right in terms of hey, what are they trying to get done versus you know, it's music to our ears when an entrepreneur talks about wanting to reward the team that helped him or her get there. So that's, you know, there's lots of tells, as we like to say that give us a sense for Hey, where's this entrepreneur positioned? And is that gonna be a good fit for us? You know, the, the entrepreneurs who know everything and and really can't take advice. I mean, we're just not going to be that helpful, too. And so those are ones we pass on. We've certainly done deals that were a lot more challenging because hey, maybe the business was smaller, or maybe it's just a more difficult market, but we just love the entrepreneur. And we knew it'd be fun to work with them. And so that's been that's been, you know, we've been fortunate to be able to make those choices.
Let me let me deep digger, dig deeper into that, when you say, when they want to reward the employees do insert your opinion going, Oh, he wants to give 10% of his business, or the sale to the employees? And you say, No, I think it should be 15%. Are you just okay with whatever?
Yeah, I don't. I mean, we'll, we'll get the question a lot. How much should I reward my team, but I would say most entrepreneurs, these business owners have a pretty good sense for what they want to allocate to their team. And, you know, we've seen just some amazing stories where we had one client a few years back, you know, the deal wasn't a large deal was probably, you know, I don't know, $15 million. And so you think after tax, maybe there's 10 million left. I think he ended up writing $2 million, and checks to folks that had been with him for longer than six months. And they just, they literally brought everybody into the room and presented in their check. And he said it was one of the best days of his life, which is, that's fun.
Yeah. That is cool. So let me ask you about this. I want to talk to you your partner, David Tolson. Yeah. That's so how did you decide to partner up with him and write the book? I, the reason I asked this is, you know, finding somebody, to be a lifelong partner with your spouse is challenging. And then when you're when you bring a business and a lot of money to the table, to finding somebody that's ethical, and who has humility is, is also very challenging.
Yeah, it's a great story. And the good news is, he's not here to defend himself. So I can say pretty much whatever, whatever I want. But, I mean, I've been so so lucky. With David, we, when I was running Expo nets, I was the chair of an industry association. And the woman who was the executive director, she actually did all the work, Mary, said, Hey, you need to meet my nephew, he lives in your neighborhood, here in Colorado. And at that time, I mean, we were so busy, I didn't have time to do anything. But after we'd sold the company, I was still on the board for a while. And she kept telling me, hey, you really need to meet my nephew, David. And so we met, hit it off. You know, we immediately played golf, you can learn a lot about somebody on the golf course. And there's lots of stories that I'm sure he would tell, and that I can correct about the first golf match that we played. And then we just got to know each other over the course of about a year and a half. And he was running at his valuation practice at the time. And we talked and said, Hey, why don't we start, you know, an m&a advisory shop. And I will tell you, you know, you, obviously, it's, it's hard to predict, hey, how do these partnerships evolve over time? We've just been it's been terrific for us. I think we complement each other really well on, hey, where do we have areas of exposure? I think our thought processes, negotiation tactics are different enough, that it's always helpful to talk to one another. And I will tell you, the moment that I knew that I had picked a the right partner and that we were aligned. Early in the days of our business. We had a guy come to us who was trying to raise a real estate fund. And obviously, that's a lot different than doing m&a advisory. But given that we didn't have any money, and we were anxious to do any deals, we told him, Hey, this is a little bit outside of our bailiwick, but we'll give it a shot for you. So we got our retainer. I was in charge of it, went out, did the solicitations and ended up with almost nothing. And I went into David's office and I and we weren't obligated to do this. But I went into his office and said, David, we've we've just totally booted it for this guy, we need to refund his retainer. Well, I think the retainer was 30,000 and we had like 15,000 in the bank. And David said, All right, where do I write my check? And so you know, both of us had to put money into the into the business to write that. And I knew right then hey, we're, we're aligned, right? We always do You always want to do the right thing by the client. And sometimes that hurts and sometimes it costs you money. But I do think in the long run and number one, it's an easier way to live and, and to it's good business and so, but I've just like I said, he's a terrific person. I can't say enough good things about him. And he's been just a ton of fun to build this business with.
Yeah, I've heard that too. Like the the more you tell the truth, the the stronger you get. Where does that come from? I mean, where do you think that comes from? The like, your parents instilled these ideas? Or you found, you know, your God, whatever it was, yeah. No, I
for me, I'm sure it was my parents. You know, my dad has been a role model for me. He grew up in the cable television business, but was just he was beloved by his you know, the folks that worked with him and he and my mom, just a very strong moral compass. And and I think you, you know, Charlie Munger, Warren Buffett's partner, he has this. He's got a bunch of quotes, one of them and I'll paraphrase, but basically, hey, don't do business with turkeys. You know, pick the people
Almanac, you gotta Yeah, exactly. Yeah,
I have that book. And, and I think that's true, right? I mean, life is short. And you want all the studies that they've done about happiness, it's all about having great relationships. Well, and I think it was Warren Buffett, who said, You're not going to do a, you're not going to how much time you spend not going to make a good contract with a bad person. And so I think, and obviously, as you get older, you're better able to pick up on that. And, you know, the millennials, you know, it's one of the nice things about our business is we get to we just get a lot of referrals. And we know, right, when a referral is coming from one of those clients, A, the person that's on the other end of that line is likely to be a good person. And it's been, that's been a lot of fun, very, very gratifying.
So I got a class six partners, named, hey, just find a look out over the edge and looks Oh, there's a black rock, I just call it black. The street, you don't have Street in there or something? Yeah, we used
to be our name used to be capital value advisors, CVA. And we had that name, were registered broker dealer. And we also we have a family office, which is a registered investment advisor. But then the SEC implemented this reg bi, I don't know if you've heard about it. But basically, they after 15 years, with no issues with our name, we, you know, they told us, Hey, you can't use the word advisors in your name as a broker dealer. So he said, fine. So that was during COVID. I think David and I probably had too much to drink one day and said, Hey, we're going to change the name. And we started thinking about, Hey, what's that journey of the entrepreneur? And, you know, what's, what's a great metaphor for a the work that we can do to help them and class six is the classification for Rapids is the most difficult rapids to traverse. Yep. And, and I do think that for a lot of entrepreneurs that haven't been down the river yet, you know, maybe called and it may look really nice today. You know, as you get into that transaction phase, that's when the class six rapids are and so you really need a guide. And you know, that's our role is to make sure that they don't die. I got
I gotta pick on this. So FINRA was a FINRA or SEC said you can't SEC reg bi? Yeah, well, why? I mean, what was the reason? Who knows
what the reason is for all these different regulations? I mean, they, they had reg bi was expensive in terms of all the different changes that they made, and that was just one of them. But, you know, I think that I think the underlying reasoning was, it makes it would make us sound like a wealth advisor. And so hey, we're not a broker dealer. We don't take custody of funds in that business at the at the Ria, our family office, we absolutely do, but that wasn't the name for the broker dealer.
Yeah, I'm gonna ask you about that little family office a little bit. So sure. After that real estate, you refunded his money. So what was the first client after that? I mean, this is always curious. When you do a good thing. The door opens. Oh, for sure. For the right. I don't know why that the Universe works that way. But it does and
yep, I would agree with you. We did our very, very first deal. was a company here in Denver called Sunnyside staffing. It was a staffing business. Bob Grabowski and Nvidia and has since unfortunately passed away but she was a kind of A pillar in the Denver community. And David had done some valuation work with them. And for whatever reason, they decided to put their trust in us to get their deal done. And they've, you know, they became just lifelong friends. And it's just what a great, great couple. They did a ton for the community, they, you know, they did the right thing and their business, just a prototype perfect client for us. And, and we got it done. It was not easy. But we got it done. And then, and they were very appreciative. And today, today, you're still references for us?
Yeah, you call that chapter in your book deciding when to harvest? How do you know that they're ready? I mean, you asked him a bunch of questions. And sometimes you just find somebody that backs out last man or something, how do you really know?
Yeah, it's a great question. And one that we've spent a lot of time thinking through, we do use some assessments, just to help us understand a little bit more. And what we'd like to say is, you really want an owner who's running to something and not running from something, one of the things you'll see in the book harvest, a lot of times an owner will show up, and they're just exhausted. And that's that maybe the business is struggling, or maybe the business is having some challenges. And that's the reason that they want to go to market. And we always tell them, Look, this is the exact wrong time to go to market, because you're going to end up leaving a bunch of money on the table, you know, let's help you fix some of the underlying operating issues so that the business gets back into shape where you actually enjoy it. And then how you can make that decision of whether you want to sell it or not, because now the business will be in a shape where we can actually make a reasonable return for you. But we'd like to say, look, there's there's three sets of timing for a deal. There's market timing, which is very, very difficult to predict. There's the business timing, which is easier to understand. And then there's personal timing, which is, you know, the owner has all the cards on that decision. And we ask a lot of questions about what's next, what are you going to do next? How do you? Is it Hey, mean, sometimes it's a health issue, sometimes it's, Hey, I want to spend more time with my grandkids, sometimes it's I want to go start another business. And sometimes it's just hey, I've been doing this for 30 years. And I think it's time and that's obviously as you know, it's stressful running a company, and particularly when you're the first one and the last one to get paid. And so, and I you know, you can see that in entrepreneurs,
sometimes has the answers, actually, the their actions don't match the answers.
For sure, for sure. I think, where are we?
And how do you deal with that? Like, hey, you just say, Hey, it's okay, come back to us when you're ready?
Oh, for sure. Right? If it's one of the things we've learned, if an entrepreneur decides that a deal is not the right, fit, or it's not going to work for them, that's great, right. And that's just we've gotten a lot of information. We've obviously learned a lot from the marketing process, we've talked to a lot of bidders. And we've also we also know, because we've seen this movie a bunch of times, when they go back out, we're going to do much better. And because we've learned, hey, here are the some of the things we've got to go work on to make this business more saleable and higher, you know, get a higher valuation for you. And so we're, I always tell owners look, you know, we're here to advise, and we're never going to push a deal on you. You as the owner hold all the cards and the decision of what deal you want and who you want to sell to and for what amount. Our job is just to provide you a lot of options and allow you to pick from those. And what's one of those options, maybe not doing a deal, right? So that's okay.
Well, what are the top two options? What they choose, like, if you go to market, and they are not getting the price that they want or something do they was that one of the top ones are what?
Yeah, that's usually one or something happens to the business where business performance starts to deteriorate, and hey, we're no longer in the driver's seat with buyers. That happens, not me not a lot, but you know, maybe 10 or 15% of the time you'll have that issue. And sometimes look that as the owner gets closer to the decision to actually close a deal. It's pretty stressful. And
your job is to insulate them from most, especially by the ways there's a curve coming up and there's a yeah, now we do
a lot of we have a chart in our office about the amount of counseling that we do and it's a through the course of a deal. It's an asymptotic up to the right. In terms of counseling that we do with business owners Oh over time. But that's it is it's, we we try it, we're big on education with our clients, we want them to understand exactly what's coming, here's the emotions that you're likely to experience here, the challenges that we're going to have, you know, deals die, so just be prepared for that will work through it. And, but as much as we try to educate and inform, it's still a, it's a daunting process for an owner and it's, you know, stressful and compound that with, for a lot of entrepreneurs, the the challenges with just identifying, you know, their own identity coming from that business, you know, that starts to create some challenges for him. Yeah,
let me ask you about, if they come to you and say, Hey, I would like X amount of money in my bank or x to do this and this, but they're, there's no way that business is going to provide that for them. And you clearly have a tool in your pocket, well, you need to do five acquisitions to get your even to be able to get that kind of price. Do you do that for them? And say, Well, there's a two year roadmap. Yeah,
so we have a piece of our business, we call it Pathfinder, which is basically, that's for business owners who might be a year to five or six years away from getting ready to exit. And that work is really mean, we know what the end of the movie needs to look like. And so it's really helping translate that for a business owner, and given them the test ahead of time to say, look, a buyer, you know, we're going to be the eyes of the buyer throughout this process. And we're going to let you know, as you're making different decisions, a buyer is going to like that, they're not going to like this. And hopefully that helps give them more confidence as they're making these different decisions, but also some guidance around where should I take the business? And sometimes I would say, look, 60% of the time, their intuition is absolutely correct on what to do with the business. But I would say, you know, maybe 30 or 40% of the time, their, their intuition might be just slightly off kilter. And so hey, let's, let's try to adjust that with what we know the market is going to like or not like. And in general, I think that advice is, it's pretty good, I think it's, it gives them the eyes of the buyer, or the voice of the buyer in the room. It's not as if you're always building your business to sell it. But I do think sophisticated investors have a pretty good sense for, hey, what makes a business valuable? What makes a business more scalable? And that's good advice for business owner, regardless if you're going to sell or not? Yeah.
What's the conversation you have with somebody, when I like, Okay, if you're wanting to get to this price, and this valuation, you got to do this. And that requires, you're like, on the last lap of and the coach is on the side, you got one more lap, now kick it up a gear?
Yeah, a lot of that goes back to what the goals are of the entrepreneur. And if the goals are way out of reach, that just means if they've got a short time horizon, you know, unfortunately, that means they're gonna have to take a lot more risk, they're gonna have to put more chips on the table in order to be able to get to that level of valuation. And sometimes that's feasible for them, their risk appetite is appropriate. And sometimes it's not. But we try to be, you know, when we run a process, there's kind of a bell curve of valuations on that business, right? In the fat part of the bell curve is going to be what we would consider market value, you're going to have folks that are going to try to buy it a lot cheaper than that. And if you've done your process the right way, and you've identified enough of the right types of buyers, you're hopefully going to get bids that are, you know, on the far right of that bell curve. We never want to take a business to market unless we believe, hey, the fat part of that bell curve valuations in that range are gonna meet their needs, financial needs, whatever other needs that they have. And you don't, you definitely don't want to take a business out counting on getting one of those outlier bids, because you're likely to disappoint them. And there's nothing worse than having a disappointed owner after work in nine months. I mean, that's, that's a horrible, horrible position to be in for everyone. And so we try very, very hard to prevent that. But it is a, you know, back to your question of how do you motivate somebody, part of that is just showing them what's possible. And most of these folks are pretty driven. And sometimes all it takes is just painting that picture for them of what's possible. And then they, you know, they'll, they'll go execute. We've watched that time and time again,
with us, like, you just tell them, hey, here's the roadmap you should take and they just do it themselves. And they're just constantly you know, they'll pick up the phone and go, Hey, what do you think Chris? You make 27 acquisitions. What do you think? Yeah,
yeah, exactly. And we and we monitor them. We've got Got a series of we obviously monitor their financials, we update the financial model, we're going to update all the data room documents as those are happening so that we're ready, we continue to think through the story that they're going to tell to the market. We check in with them periodically, at least once a quarter, if not more. And, you know, as I always tell clients, I'll be disappointed if, you know, you've got a big decision, and you don't call us to, you know, to get some input. That's our gonna tell you, for sure, for sure. Back Back to the client selection, right? You're trying to find somebody who is a lifelong learner and, you know, knows what they know, but also knows what they don't know.
Yeah. Let me give you a couple examples. If you ever taken a company to market with a really high concentration to customers, let's say 8% of their business and to customers. Do you take that to market? Because you know that somebody might buy that bigger company, that's a strategic or you just say, Hey, this is not our bailiwick or products.
So we have we've taken some of those to market. And I'll give you an example of one of them. They had one customer that was about 80% of their business. They were serving utilities, which makes sense, right?
Yeah, I understand those, those are long term contracts and switching costs are extremely high. You just from one, you know, one supplier to the next.
Well, this Yeah, this was a company was providing services to the utilities, and they had evergreen year long contracts. So they utility company, basically, every year, that contract was up for renewal. And we ended up taking, we took the business out to market and I talked to the owner and said, Look, I think this is a long shot. But let's go see. So we talked to the different strategics, we talked to a lot of private equity firms. And as you might expect, with that much customer concentration, that deal was not doable, it wasn't tenable. And so what we did was we went, we went back, you can solve customer concentration, a variety of ways you could go acquire some other businesses, you could try to sell your way out of it. But both of those are time consuming and expensive. What we ended up doing was just renegotiating the contract with the utility, gave them a price break, committed to some additional capex, but we're able to get seven year contracts. And then we broke that contract up into four or five different service lines such that if one of them busted, and we didn't lose everything with that utility. And we took the business out, and we ended up getting we got it sold about twice the valuation that we were seeing in the first
operation went up because you diversify, or mitigate the risk of customer concentration. Yeah,
exactly. But it's, uh, I mean, did you to
the utility company with the CEO and work on this negotiation? Or are you just counting him to do that?
We just coached him. We had said, Hey, let's, let's see if we can break this contract up, get longer terms. Also, let's kind of zipper the relationship with them. Let's make sure it's not just the owner, and the head of procurement at the utility, let's really build the project management relationships down through the organization such that, hey, we always had advocates up and down the organization.
How long did that take? Because now we're talking about working with a bureaucracy, possibly government regulated, or is regulated like, Okay, let me run that to the next person, run it to the next person running it up to the next person.
took about two years. Two years. Yeah, yep. Yep. It was worth it. I mean, they ended up the increase in value over those couple years was really, really good return on investment. Say that? Totally.
Hey, let's move on to chapter five, understanding financial statements inside and I'm a big fan of Warren Buffett because business, the language of businesses account. So understanding that i What are you looking for? And I know, David Tolson used to do evaluations, so he knows these financial stuff in house. So what do you place on? You know, income statements, you know, the bottom line is kind of a theory versus the balance sheet, you can see what people owe and people who you Oh, yeah.
Yeah, obviously, in our world, the financial statements are really the story of the business, right, that that will help you understand exactly what's going on in the business. And in these days, right, any deal of north of 20 25 million, you're gonna have to do I mean, we, we, we won't take a business to market unless we've done a seller prepared quality of earnings report. We don't want any surprises and we want those financials to be represented just as well as they can be. And, you know, obviously, there's lots of things you're going to look at, but you know, the most important is how, how's the business growing? Is it growing profitably? You know, what's that incremental contribution margin from addition? No products or services sold? How are we doing on the bottom line? And then you go into all the qualitative factors behind that, right? The team, the customers, you know, what's, what kind of strategic advantage does this business have? I'm a big believer that gross margins, right accurately accounted for we'll give you a really good window into how differentiated that business is in the market. The prototypical examples, when you look at a SaaS business, it's got 80 or 90% gross margins compared to a general contracting business, it might have three or 4% gross margins, that tells you a lot about pricing power for each one of those businesses. And and it corresponds to how valuable those businesses would be, you know, at equivalent cash flows.
Yeah. What about debt on the balance sheets? What's your when you look at this? Do you try to help get rid of the debt on the balance sheet cleaned up? What do you do?
Yeah, most buyers are going to exclude debt from the purchase. It's
an asset purchase agreement. But what if the debt was actually used to turn assets into cash flow?
Yeah, it's, again, I think, well run businesses with an appropriate amount of debt is just fine. The Hey, they've used that, hopefully, they've gotten a good return on investment for the debt that they're utilizing. Again, we're gonna have to pay that off at closing. But, you know, I would say more to few entrepreneurs that are running really healthy businesses utilize debt to their advantage, to really be able to make investments because, you know, for these healthy businesses, the cash that they invest in those businesses is going to generate a really nice return. But a lot of business owners are pretty conservative, which I totally respect. I am that way with our business.
When let's unpack that, when you say they're not You're not utilizing entrepreneurs not utilizing debt as much as they should? What are you actually saying? I said, to use it to go buy businesses or buy better, more products at a better price? What do you talk?
Typically, for most entrepreneurs who haven't had acquisition experience, their risk adjusted return on investment for organic growth is going to be better. And so and we always do that analysis for and we'll show them, hey, here's the return on doing this acquisition, right? Under these assumptions, here's the return on an organic growth strategy for you. Maybe that's adding a geography or adding a, you know, adding more salespeople or increasing your marketing spend, or new product development, hey, here's what that return looks like. And in most cases, they're going to see that not was spent, notwithstanding their experience of how difficult it is to grow organically, generally, they're going to get a better return there than just going out and doing an acquisition, particularly and especially if they don't have any experience acquiring another company, if somebody has got experience, and they're well situated, that can be a great strategy, but are in our experience, a lot of organic growth strategies are going to deliver returns in the 20s 30s 40s percent range in terms of return on cash. And if you can borrow money at 5%, well, okay, all of a sudden, now I'm picking up that incremental 25 30% of return on somebody else's money. And that's, again, I understand for a lot of business owners, they don't want to get over levered because that tends to reduce flexibility during times of challenge. But I would say most entrepreneurs are much more reluctant to to utilize debt than they probably could.
Yeah, let me ask you about that. Because organic growth, you know, this individual has been growing their business for 15 years, and they kind of maxed out what they think, how do you bring a new marketing strategy and say, well, this will be good ROI, because marketing is a test, right? Does this work? No. Did that work? No. And then at some point, you find it, but
yeah, generally, on the marketing side, we're typically looking at, hey, what have you deployed in the past? And have you been able to measure the returns? If they haven't, then you're right, you've got to go do this testing. So you're not going to put major dollars behind a particular marketing strategy until you get a much better sense that, hey, that strategy is going to work. But once you do find those things that were generally the returns are pretty good. And so it's easier to put cash flow into those investments, because, you know, hey, this is going to generate certain amount of sales. You see, there's
got to be a case by case though, right? Oh, for sure. For sure.
Yeah, we see a lot. We have a number of clients that sell on Amazon, advertise on Amazon. And there's a pretty direct link between the advertising and promotions that they do on Amazon and sales levels. So it's,
I mean, that's easy. Like if I put it dollar in Facebook, I get $5 back, you step on the gap right? Until you start seeing
exactly till your return on advertising spend row as they call it to start to deteriorate. Yeah.
When let me ask you about the capital structures transactions. What are you talking about here about when you're trying to sell a business? Are you recommending specific calf strikers that they're looking for? Or is it based upon, I know, it's a combination of what the seller wants to have, like, Hey, he's 75, I don't really need a lot of money. But it's $5 million on my bank account.
It's really it comes down to I mean, on the capital structure, many deals can get done, as we were talking about earlier, that can be done with cash, they can be done with a seller note, they can be done with seller taking equity that can be done with an urn out. In general, our advice, at least to our clients is, you know, when we do that transaction, and we get that closed, the only cash that you can count on is the or the dollars that you receive it close. And if that's not enough to meet your objectives, then we shouldn't do the deal. All that extra, whether that's road equity, or a note that the buyer may owe you over time, or earnout, those are all gravy, you know, icing on the cake, but you don't, you don't want to count on those. Sometimes those can be used to breach valuation gaps. But again, if I came to you and said, Hey, John, I want to buy your business, I'm going to buy it for $10 million. And it's going to be 10 million in cash. So that's one offer. Somebody else says, John, I'm gonna buy your business for $30 million. If they don't tell you how they're going to structure it, hey, initially, that could sound appealing. But John, I'm gonna pay you $500,000 a year over the next 60 years. That tells you hey, from a deal structure standpoint, you're probably better off taking the 10 million, right. And so that's when we talk about deal structures. That's the advice that were given to folks on, how do you how do you think about the different offers that come in? And how do you rank them against each other?
How do you make that decision, let's say you have a number of offers on the table, one from private equity, and it's a good offer, they're gonna buy 60% of it. But you know, they're gonna roll over 30%, which means the person has to stay on for another couple years to lease to run a business. Versus a guy says, Hey, I'm gonna buy it for 10 million, that's what it was valued at. And it's 50%, down 50%, seller financing, or 50%? Or it's the same kind of offer. It's just, you know, one has a bigger bank account than the other.
Yeah, I generally mean, if, if a seller is going to take a risk on future payments, right, whether that's an her now, equity or a seller note, in general, that risk looks a lot like equity type risk, right. And so, you know, for our clients, we would recommend, if you have a choice between those three, take the equity, because that's going to generate the best returns for you. If the business runs into problems, there are now it's not going to get paid, the seller notes not going to get paid, and the equity probably will be worth less. If the business does really, really well. Well, the earn out maybe a little bit higher than No, it's not going to change, but that equity could be a lot higher. And so you know, terms of if you're gonna take equity, like risk, it'd be great to get equity like returns. And that's generally our advice to our clients. And we've had a lot of clients, right, especially with selling to private equity, where they are rolling equity, and they've done you know, they've ended up doing better on the second round than they did on the first round.
Even though sometimes the business does worse there. They have 30% equity or fractional and the holding company, that the private equity sells to a bigger private equity company.
Correct? Correct. Yeah, does better. And, you know, those can be great deals if they're managed, well.
Beautiful. When you go to market, I mean, how do you go, I hear you talked about, hey, don't do the shotgun approach. We do targeted? How long does it take to create a targeted list that you know, that the companies are for if you're doing all kinds of industries? I mean, you went like Sunnyside recruiting, then you did something else. Right.
Yeah, we've done deals in a bunch of different industries. But it really the process for identifying those candidates is fairly straightforward. It's let's map the industry up and down the value chain. Where are the adjacent industries that we think particularly for strategic buyers could have an interest on the private equity side, it's actually pretty easy there. We invest in a lot of databases that help us identify private equity firms where this size character of investment and type of company would be appealing to them. And so that's pretty easy to identify. And then on the strategic side, you know, those are much more hit or miss. But, you know, we tend to talk to a lot of folks just so we can identify, hey, who could be that outlier, that might be willing to pay a premium for this business. One of the things that we see when we go to market, a lot of times clients will say, Well, I know who the buyer is going to be for my business, it's going to be one of these five companies, right, because they've been super active in our space, one of the things that we've learned is, when you have a very active m&a market, the folks that are the most active participants in that market, their bids are going to be very close to one another. And the reason is, is because they've watched each other bid over the last 10 processes. And so I, you know, I'm gonna know where my competitors bidding, and so I'm not, I don't want to pay much more than that, right? I don't want to be the idiot who paid way too much for the business. But if you talk to people that might be outside those likely suspects, that allows you to potentially find somebody who is not necessarily familiar with where all the other bits are gonna come in, and who's willing to pay a premium, because they really want that business for some unique reason. And so but it does, it's, it's a lot of elbow grease, a lot of reaching out to folks and talking to them. But it works.
Yeah, I've had that experience, a broker told us, Hey, you're in within 10% of the bid from other people at the table. So
yeah, yeah, well, it's when you look at the distribution of bids, right? Again, a lot of them are right there at the fat part of the bell curve. And usually, those are what I would call the usual suspects, none of those folks is going to pay a premium.
And I gotta tell you, when you ask it, like chapter 14, you got like the communication don't make this mistake. What do you what do you?
Well, a lot of owners, right, I mentioned that we're working with folks that are very, very high integrity, they sometimes will feel a compulsion to tell their team about the process that they're going through. And our advice is, look, you can't tell them with certainty what's going to happen, because we don't know with certainty what's going to happen. Obviously, for your CFO, and maybe your some of your senior leadership, you're going to have to bring them into the fold as you're starting to put a book together or talk to potential bidders. But announcing broadly to your team, we think is a huge mistake, because most employees for for whatever reason, I think, get very, very anxious around the notion of their business getting acquired, you know, they've, they've heard some of the horror stories about
Silicon Valley, you're, you're gonna get laid off somebody's gonna Yeah,
yeah, you're gonna get laid off it, I would say in the 100 Plus deals that we've done, we've only seen layoffs in two of those deals. And that was because the industry just cratered. It they were both in oil and gas services. And, but in most cases, right, the the buyer, they want the team that's delivering the results that they're buying. And so they don't have a big incentive to create a lot of risk for the business by firing a bunch of people that, you know, have been delivering those results. But unfortunately, if you, if you were to explain to your whole team, pay six months before a deal happened, hey, we're gonna go sell the company, this is a process that we're going to run, you're going to have a lot of people putting their resumes out, they're going to be worried about their job they're going to be. Exactly, exactly. And so there's no reason to do that, right? Until you till you've got good certainty over what what is the story that you're going to tell them. And that's, you don't know that until you actually have the buyer in hand. And, you know, hopefully, you've gotten the deal closed, so that you can explain to them, Hey, here's exactly what we did and why and why this is, and again, for almost all of our clients, it's usually a good thing for their team, they've got some they're going to have additional investment dollars available to grow the business. It's going to be good for those employees careers. And, you know, as my old mentor, Jim Walker used to say, none of us is permanent, right? We're not we're all temporary employees. So, you know, we're passing through, yeah,
talk about, oh, gee, having high concentration to customers. Now they and you know, in their industry, they like, isn't there a concern evaluation, high concentration? Not? This is not a concern?
Yeah, no, it's just that's the nature of that of that business. You know, Schlumberger is 80% of a lot of these companies, customer bases.
Yeah, I hear we make pipes or the coverings for pipes. So we have one customer.
Oh, good. Yeah. Oh, good.
Yeah. So tell me about this family office. What is that? What are you guys doing? I know what a family offices and everybody else doesn't this? How are you matching that with investment banking?
So we, about seven years ago, we had seen this going on for years before that. Our clients who were or they were wealthy just wasn't liquid. But they wouldn't necessarily attract interest from sophisticated wealth managers to help them do the planning. That would help them save income taxes, help them save at state taxes, think about how to educate their kids about money and what that's going to mean at some point in their lives. And so,
so you, you do all these transactions, and now these people have big checks, and they're gonna do you say, Hey, before you were going, now you need to go talk to Schwab, or you need to go talk to Merrill Lynch or something. Yeah,
exactly. But a lot of those guys, I mean, they might spend a little bit of time with them, but they weren't doing the planning. And then after they sold, all the wealth management firms are all over them. Right. And, and I have to be honest, I'm not a huge fan of the wealth management industry, it's rife with conflicts. I don't know. I mean, it's a lot of people have incentives to sell product to clients that are maybe not appropriate. And so it's not something that we were terribly excited about on behalf of our clients. And so that's why we started our family office, is to be able to give them advice, while we were doing the planning with them well ahead of the deal, and then afterward be able to give them a service at a more reasonable cost. And without any conflicts, you know, when we don't take any money from anybody other than our clients. So there's no incentive to sell an insurance product or a particular fund or anything like that. And selfishly, you know, one of our core values is relationships. It allowed us to continue those relationships with those families, which has been awesome, we have about 85 families, with about a billion dollars of active assets under management, we advise on another billion and a half that's yet to be liquidated. And it's been just a blast for us because we get to stay in touch with all those clients and continue to help them.
And what do you do with the money? What's your thesis?
Yeah, a big part of our thesis is, hey, as an entrepreneur, you've taken a lot of risk in your life, our primary job is to make sure that you don't run out of money and that your family is well cared for and that you don't have to go back to work. And that will depend a lot on the risk tolerance and what the goals and objectives are of the family in terms of hey, what asset classes are going to be most appropriate for them. You know, a lot of our clients will do private investments. So we'll help them think through those. And we're actually in the process now of trying to put a fund together that would would allow those families to invest in private businesses where we could provide them some advice kind of on a holistic level.
Beautiful, Chris, thank you for being on my show. Top m&a entrepreneurs are great.
Yeah, John, thanks so much. It's been great talking to you, and thanks for what you're doing for all those entrepreneurs out there.
Yeah, and by the way, it's got a great book. It's on Amazon. It's called Harvest. There it is. Look for that cover from Chris younger. And David C. Tolson. Yeah.
Get David in there.
All right, let me stop. I hope this video has inspired you. If you need help buying your first million dollar business, make sure to visit me at deal flow system.net If you liked this video, make sure you subscribe down below, comment on it, share it, tell everyone about it. And thanks for watching.
