Not every entrepreneur goes into the process of putting their business on sale. But when the time comes that selling your business is necessary, whatever your purpose may be, you will have nothing to lose on your end if you prepare well. Demystifying the intricacies of business selling and acquisition with Bob Roark is John Warrillow, the CEO of Built To Sell. John discusses how to know the right time to sell a business, present it to potential buyers, and start a healthy bidding war. He also goes deep into the most critical responsibilities business owners must take on when delving into such a transaction, from breaking the news to your employees to treading carefully when signing a no-shop clause.
Every business owner will exit their business at some point. If you want to learn how to create value, understand what makes your business attractive to a buyer, and then how to negotiate the sale of your businesses, where John says, “Punch above your weight with that buyer.” You're going to improve your skill stack on this episode with John Warrillow. He's the best-selling author of Built to Sell, top ten Forbes ranked podcast host on Built to Sell Radio, and CEO of The Value Builder System. He has started an excellent four companies. You would agree it's safe to say a couple of things at a minimum. John is a subject matter expert and an advocate for business owners on creating value in their business, maximizing the return on their legacy. He's one busy guy. John, welcome to the show.
It's good to be here, Bob.
Thank you for taking the time. John, I've read your previous books and I bought additional copies to share with business owners. I’ve got it dog-eared and worn out. One of your books, The Art of Selling Your Business, is an important book. It's a must-have investment for every business owner. I have to ask, being as busy as you are, why this book and why now?
It's funny you mentioned the podcast I do. I've done something like 300 episodes and what I've come to learn is that there are cadres, a small cohort of entrepreneurs, who seem to get much better offers when they go to sell their business than the prevailing industry benchmark. It got me curious about, “What is it that the small group is doing? What do they know that others don't? What are the secrets?” Independent of what industry you're in or what the mechanics of your business is. It seems like there was something they were thinking and doing differently. I tried to distill that down into some lessons and some secrets, and that's what inspired me to write the book.
You're doing field research. You're talking to business owners every week on Built to Sell Radio. If you don't have your finger on the pulse of the business owner, no one else does. On the selling trends for business owners that were hit in a difficult patch during the COVID pandemic, what do you see the trends doing here during this period of time and post-pandemic?
There are two big things that we've seen. We've done some research where we looked at people that complete the Value Builder questionnaire, which is our intake questionnaire for people who use the system prior to the announcement of the pandemic in March of 2020 and the next eight months during the pandemic. Two big things popped. One is that the pandemic is causing business owners to want to sell sooner. They moved up their sales by 20%.
Number two is their appetite to do a family transition. Passing their business down to their kids has dropped through the floor. In lieu, they are now planning to sell their business to a third party. We could riff on why that is. My guess is it's probably the stress of the pandemic that has left owners wounded and not wanting to pass that stress on to their kids. They're like, “I want out and I want to sell it to somebody other than my kids.”
[caption id="attachment_5737" align="aligncenter" width="600"] Selling Your Business: During the pandemic, more business owners sold sooner and refused to pass it down to their children.[/caption]
It's funny. I've had a number of those conversations as well, particularly the business owners that made it through ‘08 and ‘09 and recovered and back. They go, “Really? I'm getting another once in a lifetime of it in ten years. How many of these can I survive?” For that business owner, how do they know when it's the right time to sell?
There's a qualitative way to answer that question, which is probably the opposite of when you think it's the right time to sell. The right time to sell is when you're on the way up, not the way down. I did a podcast before this. It was with an entrepreneur who built a company. He was on the way up and had an offer from News Corp, Owned and founded by Rupert Murdoch, and shunned it. He said, “No, we're going to go grow and build.” Ultimately, he rode over the top and raised $10 million. He didn't build the company that he thought he was going to build and sold it in a fire sale for $1 million.
He and the shareholders got virtually nothing from the deal. It's a very common instance when we ride it over the top. That's a qualitative way of thinking about it. Probably the best time to sell is when you least feel like it's a good time. There's also an objective way to answer this question, and that is when you hit the freedom point. The freedom point is when the sale of your company after tax and after paying commissions and so forth would garner enough money for you to live happily, successfully for the rest of your life.
People say, “How do I calculate that?” Take how much income you want and multiply it by 33. That implies a 3% withdrawal rate. Once your business reaches that amount of money, the question you need that answer is, “Am I prepared to give up financial freedom in return for the next tranche of growth?” The next zero on your top-line revenue line isn't necessarily going to change your lifestyle at all fundamentally. When you reach that point, it's worth saying, “Am I willing to gamble that?” It's like the blackjack player puts all the chips on the table.
As a business owner, if you own a concentrated position in your company and it's a big part of your net worth, you're effectively gambling that freedom every time you wake up in the morning. I know there are lots of reasons to build a business. It can be to create something that is much larger than yourself. That's an admirable goal. It's worth asking yourself the question once you crest the freedom point, “Am I willing to make that trade-off again?”
The answer for more owners is, “No, I've had enough.” For that business owner who’s negotiating, like Rupert Murdoch, how do you gain leverage as a smaller business owner when you're working with an industry giant?
You want multiple offers. You want competitive tension and multiple people buying your business. What I found is that a lot of people get enamored with or fall in love with the idea of selling to a strategic like a News Corp of Rupert Murdoch if you're a media company. The challenge we’ve fallen head over heels in love with the idea of selling to one type of buyer is that you limit the universe of potential acquirers. It's the opposite of what you want. You want a lot of potential acquirers because that's going to guarantee or at least maximize the odds that you can get multiple offers, and multiple offers is what allows you to punch above your weight.
[bctt tweet="The right time to sell is when you're on the way up, not down." username=""]
There are three types of buyers and I would in the shoes of an entrepreneur, be open to all three. There's an individual investor who comes in and wants to buy a job effectively. There's a private equity group. It’s common these days for small and mid-sized businesses to be bought by private equity groups, and then there are the strategic acquirers. If you can remain open to all three, in a funny way, it gives you more leverage to sell to the person you want to sell to because you've got competitive offers. If you only got one offer, it's hard to punch above your weight.
If you did a comparison matrix, if you had three offers from the three types of buyers, you could compare and contrast. If you have one, that does disallow the ability to compare and contrast. For the owners that are interested in selling without looking desperate, how do they let potential buyers know that they're coming to market?
There's the magic in the word partnership. You can approach a potential acquirer about a partnership. Most acquirers will see through that language as, “This might be an interesting strategic partnership or potentially an acquisition,” but it gives you plausible deniability. It gives you the ability to say, “That's not what I meant. I genuinely meant a partnership.” If you look at all of the stories that I've done for Built to Sell Radio, a lot of them starts with the relationship and begin with a partnership.
One that comes to mind immediately is Stephanie Breedlove. She built a wonderful little payroll company with $9 million in revenue when she did a marketing partnership with Care.com, which is like Angie's List of care providers. She does marketing and sharing content, and ultimately, that transcends into a strategic conversation. The fact that they had a pre-existing relationship allowed Stephanie to know a little bit more about Care.com.
Care.com had 7 million subscribers and Stephanie had just 10,000 customers. She made the case that, “If 1% of your 7 million subscribers buy my payroll service, that's 70,000 customers. It's a business seven times the size of mine.” Long story short, Stephanie sold her $9 million payroll company for $54 million. It's an unbelievable exit. It's so outlandish. The valuation is out of this world, but it started with the partnership conversation.
You get a free look or a de-risk look at how they behave when we're working together as a partner. That's a great idea.
We often think of acquisitions happening from these events where people don't know each other. When in actual fact, in most cases, the acquirer knows the person that they're acquiring.
[caption id="attachment_5738" align="aligncenter" width="600"] Selling Your Business: Strategically, owners must wait until the deal is signed before breaking the news about selling to their people.[/caption]
Take some of the mystery out of that mess for sure. For the business owner thinking about selling, how do they break that news to their employees?
That is a tough one. It's one of the instances where what is morally right is strategically wrong. What is morally right and feels natural for most business owners is to tell their employees they're thinking of putting their business on the market and tell them they've got an offer. The problem with that is the moment you tell employees what they are going to do, they're going to brush up their LinkedIn profile or resume and they're going to start sending it off to people in the industry. Quickly, the word is going to travel that you're for sale and that can undermine the value of your company and your negotiating leverage.
It's the right thing to do morally and it's the wrong thing to do strategically. Strategically, you want to wait until the deal is signed. There are a couple of people on your team you'll probably need to consummate a deal. A senior management team, for example. If you have one, they're going to need to know. You're going to want to put an incentive in place for them to help you get it over the line and as well keep it confidential, but this can be very emotional.
I talked about in the book. There's a woman who built a nice business with 60 employees. When she went down to tell her employees she had sold, she broke down in tears and sobbed uncontrollably in front of her entire team. Partly because of the stress of selling her company, but partly because of the guilt that she felt in having the secret from the people that she owed so much to. One of those uncomfortable truths about selling a company is you've got to keep it confidential and it feels terrible.
The unsaid commentary is if you're getting older in life, your late 60s or late 70s, the employees know. Unless you're going to live as old as Moses, they know you're going to sell at some point. Going back to that one comment where you were talking about a bidding war. The business owner’s reading goes, “I want to do a bidding war. How do I create a bidding war for my company?” Any thoughts?
This is a who, not a how question. Dan Sullivan wrote a book called Who Not How. It's a great book. You should pick it up. It says that most of us as entrepreneurs think problems are how problems. Meaning, how do I find multiple bidders for my company? How do I go about doing that? In fact, it's a who problem. You need to find an intermediary, an M&A professional to take your company to market to create competitive tension.
In many cases, they have a Rolodex of private equity groups that they can reach out to. They know the strategics in your place if they're an industry expert, and that's their job. That's why they make as much money as they do is to create competitive tension. Instead of trying to do it yourself, it's a bit of a fool's errand. I interviewed a guy on the show and put him in the book. Arik Levy was his name. He built a company called Luxer One. It's an amazing business. They put lockers into Manhattan apartments where people buy online and can get their stuff delivered.
[bctt tweet="The next zero on your top-line revenue isn't necessarily going to change your lifestyle fundamentally." username=""]
Levy goes to raise money thinking it's a DIY job. He's thinking, “How do I raise money? How do I sell part of my business?” He goes down to Sand Hill Road in Silicon Valley. After dozens of meetings, he can't get to any of the partners at the VC firms. He's meeting with junior associates and people right out of MBA school. He leaves Silicon Valley, puts his tail between his legs, and he's got nothing to show for his attempt to sell his business.
A few months later, he gets an email from a guy in one of the buildings that he's put his lockers in named Trip Wolfe and he says, “I love what you've done. I believe in your company. If you ever want to sell or raise money, let me know.” Trip is an M&A professional. Arik calls him up and says, “I want to raise money.” Trip goes out and gets seven offers and five of which are acquisition offers. Levy sells his company to a public business. There's a science to selling a company and there's an art to it. The science is done and known by the M&A professional, so just hire one. They're worth their weight.
It's funny, for many of the entrepreneurs, they're so steeped in, “I did it. I built it. I grew it. I understand it. Therefore, I can translate all those skills to selling it.” The emotional investment in that process and the lack of expertise, maybe the first and only time they sell their company. The money spent on a professional is a good investment, in my opinion. It’s interesting. One of the specific things talking with the client, what does that client or owner do when you have a potential buyer who wants them to sign a no-shop clause? What do you do?
A no-shop clause is almost always part of a letter of intent. A letter of intent is like an engagement letter or an engagement proposal. You're not married. Most LOIs or Letters of Intent are not binding, but they are a strong indication that you're engaged. Part of that engagement like an engagement in life is you agree not to see other people. On a no-shop clause, you agree not to negotiate with anybody else. When you sign a no-shop clause, your negotiating leverage swings heavily away from you in favor of the buyer. Once that LOI is signed, the buyer has leverage over you. Oftentimes, they'll use that leverage to reach trade and try to eke out better terms because they know you're a bit compromised.
The key before you sign a no-shop clause is to ensure all of the material deal points that you believe are important are negotiated upfront rather than waiting until the end of the line. The story in the book about a guy who signed a letter of intent with some nebulous terms around what his employment would be and what the reps and warranties were going to be, the things that are material to the deal. The acquire said, “We'll figure those out downstream. We'll work those out and do due diligence.” Of course, the deal fell apart because those things were not agreed to upfront. The moral of the story is to get everything that's material or important to you done and agreed to at the letter of intent stage because once you sign that no-shop clause, you lose a lot of leverage.
That plays into the earnout issues that many people have. For a number of the business owners I've talked to where they're in an earnout situation, if you've given up control or it's not specific, the earnout is a risk issue for them.
[caption id="attachment_5739" align="aligncenter" width="600"] Selling Your Business: When you sign a no-shop clause, your negotiating leverage swings heavily away from you and in favor of the buyer.[/caption]
The number of stories I've written about and heard of a disaster earnout, one that comes to mind is a guy named Rod Drury. He started Xero, the competitor to QuickBooks. It's a big cloud-based software, counting platform, and billion-dollar company unicorn. Rod got the money to start Xero by building a company called AfterMail. AfterMail was around the time of Sarbanes–Oxley when all these big Fortune 500 companies had to archive their email and be able to access paper trails and so forth. Rob builds this thing called AfterMail with $2 million in revenue. He sells it to one of the big systems integrators who have all the Fortune 500 companies as his clients and big IT companies.
He sells it in part on an earnout. He sells it for $45 million. $15 million of which is paid in cash and the rest in an earnout. Rod gets a check for $15 million. He’s a young guy. What's he going to do? He takes his foot off the gas and takes a breath. He finally celebrates the sale of his company. He starts to navigate the company that bought his to try to figure out how he's going to deal with this or not. Six months in, he's missed his first target. The earnout gets harder because there's usually a gating system where you don't get a budget to get to the next gate unless you hit the first gate.
Six months in, Rod bails and walks away from roughly $30 million worth of potential money because he doesn't have what it takes to go through that process, nor to most entrepreneurs. For most of us, we're not wired to work for anybody. Let alone a big company. Nobody's having any tag days for a jury. He built an incredibly successful company on the back of a $15 million exit, so he's fine. It's a good reminder that earnouts, A) Are almost always at risk and, B) Anathema for most entrepreneurs.
It's almost like just saying no, but sometimes you don't have a choice. For the business owner where the potential acquirer wants to talk to their employees or their customers, how would the business owner protect himself if that's what the potential acquirer wants to do?
Gated due diligence is important. What that means is, in particular, if you're selling to a competitor, the competitor needs to invest money in diligence. There are some bad actors in the acquisition world who will use the veil of acquisition to find out confidential information about your company and to steal your employees. Although it doesn't happen commonly or frequently, it does happen. I read about one story in the book where a private equity group made acquisition offers to 80 different companies. They didn't plan to buy 80 different companies. They planned to hire a bunch of employees they met through having diligence conversations with 80 different companies.
They ultimately made two acquisitions, but then on the 78 companies they didn't buy, they created a systematic process to hire those people away from those companies. There was nothing those founders could do because they had let the line into the henhouse. They had exposed themselves. The key to getting away from that is stage due diligence. It means that after you sign a letter of intent, there are gates that you pass through of increasingly more confidential information that you're going to reveal to the buyer. They have to invest time with lawyers and advisors to get to each gate.
The more they invest in the deal, the less likely they're just a tire kicker and the more likely that they're serious about consummating. Something like talking to your customers. First of all, it's not a great idea ever. If you have to let them talk to a couple of your customers, it would be the last step of diligence after they've spent a few $100,000 with legal fees to get them to the dance. It's never the first thing that you would have them do until they've invested considerably in the process.
[bctt tweet="Entrepreneurs are some of the savviest, street-smart, sophisticated business people on the planet." username=""]
In looking for the business owner things to avoid, we talked about some of the issues around earnout and some of the fishing expeditions, for lack of a better term. What are some of the other things that some of the Fortune 500 companies or private equity groups do to advantage over the business owner?
The most common would be retrading. Retrading is effectively agreeing in a letter of intent to buy a business for a certain amount and then over the due diligence period manufacture reasons to pay less for the business. There's legitimate retrading and illegitimate retrading. Legitimate retrading is if you miss your numbers running the business during diligence, all bets are off. That's a fair retrade. Illegitimate retrading is when an acquirer does it simply because they can. Simply because you bought the lake house, you've told your spouse, and employees, and three days before the deal gets consummated. The acquirer rocks up and says, “We said we were going to pay X, but now we're going to pay 20% less.” You say, “Why? What's your justification?” They manufacture something fairly superficial.
The reality is they know that they've got you. There are a few ways you can counter unfair or illegitimate retrading. I talked about a story in the book that comes from one of the guys I interviewed. It's called the no retrading handshake. The idea is that at the letter of intent stage, you walk up to the acquire and you say, “I'll do this deal on one condition.” “What's that?” “That there is no retrading.” The fact that you acknowledge the game, you're a sophisticated seller, and you are not going to participate in that game probably gets you 9/10 off the way there. It probably gets them to realize that, “The gig is up. These guys are sophisticated. We can't pull the wool over their eyes.” That's the no retrading handshake. There are lots of different ideas in the book, but that's probably the one that is most valuable.
I was listening to an episode and the guest escaped me. He had a 3x5 card and he says there are three inviolable things that he would not put up with. He said, “I'd go back and I'd look at that card. Any of those three were deal breakers.”
Getting clear on your deal breakers going into a deal because once you're into the throes of a deal, it can be emotional. Getting clear on your red lines are important.
I don't know if that's deal fatigue or decision fatigue, but you just get done. You want to be done. It's interesting. In the business community market, there are gifted entrepreneurs. I'm a fan of business owners. They're most of the economy in a smaller space. I'm surprised, given how much they know about the business enterprise that they run, at how little they are aware of the exit or sale process. As a comment about what you're doing, you're demystifying the process between Built to Sell and The Art of Selling Your Business, what you're doing now, and the podcast.
For the business owner that's out there going, “It seems like there's so much to know,” my sense is, get committed. Get the books, read the books, and make notes on the books. Go back through and go, “What did I learn?” On the podcast, I suppose they could take and search for industry podcasts, specific things to look at in their industry. The storytelling format is incredibly instructive. I listened to the podcast regularly, trying to understand the business owner’s mindset and what happened to them. In advising clients, they go, “I heard a story. Don't do this. This is a great way to do it.” Like the lady that talked to them and said, “I've got 10,000 people and you've got 7 million. One percent moves the needle.” You go, “How valuable is that perspective to a potential selling business owner?”
[caption id="attachment_5740" align="alignleft" width="200"] The Art of Selling Your Business[/caption]
It's a big deal. You're absolutely right. You have a tremendous degree of respect for entrepreneurs. I consider myself once I feel like we're brothers on that level. We get so good at running our companies, developing a market plan, hiring and firing employees, and all that jazz, but you don't get the experience of selling a company. The best analogy that I like to talk about is Sully, the guy who landed the plane on the Hudson. Sully was a trainer and he'd been flying for 40 years. He knew everything there was to know about a 737.
Yet, he never had the chance to land the plane on the Hudson River. He had one shot to get that right and the stakes couldn't have been higher. The same is true of entrepreneurs. They are some of the savviest, street smart, sophisticated business people on the planet yet, we only get one shot to have a fantastic exit. It's worth trying to prepare yourself the best that you can certainly to understand some of the less scrupulous things that acquirers do to try to prey on your naivete or ignorance.
I was talking to a gentleman about legacy risk. You go through and you're trying to sell the company yourself and you go to cost too much to hire professionals. I don't think that the business owner has the framework to go, “My return on investment for bringing the best of the best into the business to help me get it sold affects the legacy that they leave for their family and the generations to come.” It's an underappreciated and probably hard to quantify the number, but certainly out there. John, for the readers that are going to take and say, “Absolutely. I need to dig in.” Where can they find out more about you, Built to Sell, and so on? How do they find you on social media?
I would go to BuiltToSell.com and you can opt-in. Provide your email address and you'll get a fresh episode of Built to Sell Radio every single week. It's free. There is an episode every week. It's an interview with an entrepreneur about their exit. Just hearing firsthand from other entrepreneurs who've gone through the process is probably the best place to start.
I think about the quality of the guests that you have and their candor and willingness to share. It's like the story of life. “I've got my family. My wife said this. My kids did that. I had a tough one. My life changed. I was egocentric.” All of the story of life. Your guests are free in sharing their experiences and that's a real credit to the environment that you've established to let that thing go. To close, John, you're an incredibly experienced guide. You're a generous business hero for the business owner and you share freely what you know on the podcast and your books. It's an incredibly small investment for the knowledge packed in there. For the business owners that are looking at maximizing their life's work, they should take in BuiltToSell.com and find you. I thank you for being on the Business Leaders Podcast and thank you for sharing your time with us.
Thanks, Bob. It’s a pleasure.
John Warrillow is the founder of The Value Builder System™, host of Built To Sell Radio, and author of the bestselling books, Built to Sell: Creating a Business That Can Thrive Without You, The Automatic Customer: Creating a Subscription Business in Any Industry, and The Art of Selling Your Business: Winning Strategies & Secret Hacks for Exiting on Top.
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