Richard Ruback and Royce Yudkoff, Harvard Business School professors and co-hosts of the Think Big, Buy Small podcast, explore the growing trend of "acquisition entrepreneurship", including the type of person who might be right for it, the type of opportunity to look for and how to find them, the relative LACK of risk involved, and a deep dive into the economics of pie.

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Today's guests are Richard Ruback and Royce

Yudkoff, Harvard Business School professors and co-hosts of the

Think, Big Buy Small podcast from Harvard Business School,

which explores a growing trend in business leadership, which is

entrepreneurship through acquisition. Richard, Royce,

great meeting both of you. I really enjoyed your book.

Thank you. Well, it's a pleasure to meet you, and

it's fun for Rick and me to be here.

You know, I know there's so much to unpack in

your recent work I would love from both of you just a quick

quip on the early years.

My dad was a caterpillar mechanic. Worked on

heavy machinery. He worked with his hands a lot. I worked at a

fruit stand from junior high on, and didn't want it to be my

life's work, and so I discovered economics, actually, by

happenstance. I discovered it in high school, we had a teacher

mentor who was big on getting our students, her students to go

to National Science Foundation summer camps. So I was not very

good at natural sciences. I took a two week summer camp because

it was so much better than working in the fruit store. And

it was an economics department, and when it came time to come to

college, you know, we didn't have a lot of money as a family.

And St Olaf, as you might get a sense of, is not a Jewish

school. I am Jewish, and so they invited me to come there and

gave me a great financial package, I think because I was

one of the five Jews on campus. And so I went to St Olaf college

and studied economics because it was so interesting. And so I

decided that maybe I should go get an MBA, and as fate would

have it, got my PhD in Business Administration instead of

economics, and then went to MIT, and then Harvard. So that's,

that is my backstory.

And Royce, you kind of took a little bit of a

different path.

Sure, I did. Yes, you're right. I grew up in New

York City. My mom was a full time mom. My dad was actually a

writer and a filmmaker. He was a very independent, professionally

independent person, and he loved his independence. He was

determined to do work that he found interesting. And also he

was in a field where, you know, while we were like Rick, while

we were never poor, you know, the economic vicissitudes were a

little scary to a kid. Nothing bad happened. But, you know, it

definitely had my attention. And these three factors sort of

shaped my life. I think I came away from that upbringing with a

desire to sort of be my own boss, to have work that I found

truly interesting and that I wanted to sort of insulate

myself against some of the sort of economic faci tubes that life

just naturally brings. Went to college, worked a couple of

years for a large bank in New York City, and then came to

Harvard Business School, which I found a transformative

experience in my life. The school really I joined a

consulting firm called bait and company. I ended up staying

longer than I ever thought, because it always in my mind was

to be an entrepreneur. I just didn't know how. I didn't feel

quite ready. Became a partner co heading their media and telecom

group, and then my co head and I left to form a private equity

fund which focused on that space. And for the next quarter

century, we ran that. And after 25 years, you know, we actually,

my co founder and I looked at each other and felt like, this

is great. We're really happy, but, but as we look ahead, do we

really want to do this for the next 15 years? And the answer

was that feels like a lot. We stepped aside in a very

carefully coordinated plan, and I came back to Harvard Business

School to work with Rick, who had we had known each other

through some case writing Rick had done, and Rick had

originated an idea of doing something in small firms, and

wanted a partner to build this out. And together, the last 15

years have been spent building a small firms program at HBS and

beyond, and it's been a joyous experience in my life, both

working together and doing what we've done.

At the time, it seemed something where we could

make some headway. We could learn something about the

market. We could learn something about the opportunities.

This didn't exist when we started. There was

When we started. I went to my then unit head and

nothing.

said, I want to teach this course on small business. I want

Royce to come join me. And he looked at me, and he said,

there's going to be no student at the Harvard Business School

wants to take that class. You're going to have to give that up

and go back and probably teach in the first year, because you

got to meet productivity requirements. And I said, Well,

I'm willing to take that risk. But it turned out that we had,

what did we have, 17 students in our first class, and then by the

next year, we were sold out of one section, had offer two. And

since then, I believe we've basically sold out every seat

we've offered for the last 13 years. What is interesting? And

so at HBS standard room, a. That I teach in, that we teach in,

has about 102 seats. So you need to have two seats for the

instructors couple seats for gas. So that says the maximum

number of people you can have by fire code in the room is 98, 97

students. That's the maximum number. If it's 90 or 85 it's

viewed as full in our classes, we've had literally 97 or 98

every year, and students who don't get in our courses sit in

for a week or two in the back. Waiting for somebody to drop out

is quite remarkable.

Yeah, we get people contacting us from beyond

Harvard Business School who have either read the book or heard

about us through their friends, and it's one reason why, you

know Rick and I have launched the podcast, think big, buy

small, because, you know, the school's mission isn't just to

teach people who are on our campus, but to reach out to lots

and lots of people who are not MBAs, but maybe mid career

executives and want to be entrepreneurs, but don't know

how So, and that has further increased the number of people

we meet.

You know, a funny story that I find just

emblematic of this is, my oldest son went to high school with a

guy and who's on our podcast, Jeff Duckworth, and about four

years ago, five years ago, just soon after the book came out, my

son and Jeff happened to be at some gathering, you know, they

said, What are you doing? And Sam said, you know, I'm a

salesman, and what are you doing? Jeff? And he said, Well,

I read this really great book from two guys at Harvard, and

it's really changed my career. I've decided to buy a business,

and I just bought I just finished closing on this

business. And Jeff said to Sam, my son usually should read the

book. And Sam said, you know who wrote it? And of course, Jeff

says, I don't remember what the guy's last name was.

Really hilarious, full circle, isn't it? Full

circle.

So how do you determine who's right to take

the risk of entrepreneurship and what's your what's your take on

the risk of getting into this small business acquisition part

of entrepreneurship?

Both Rick and I, after careful examination, feel

that entrepreneurship through acquisition is dramatically

different from entrepreneurship through startup with respect to

risk, and the reason that is is because when you buy a small

firm, you're buying a company that has been around for 1020,

30 years. You can look at its historic financials and see what

its revenues are, its profits. It has a team of people that

know how to do the work. It has a collection of satisfied

customers. You can measure their pattern of recurringly buying

the company's product, and so you know a great deal about the

business, not only how it operates, but how stable and

predictable it is. And this is just a complete world of

difference from starting a business up where you know

almost none of those facts. And so even though they're both

linked together as entrepreneurship, this type of

entrepreneurship, while it's surely not without risk, is

dramatically lower risk than starting starting a small

business. And almost always, when you buy these companies,

part of the purchase is a transition agreement with the

seller so that you sort of have a smooth onboarding. So, you

know, when Rick and I look at this, we do think there are a

couple of risks. You know, one risk is, you could spend some

time looking for a business to buy and not succeeding. That's a

risk. But to us, it's a very controlled risk, right? It's,

you're missing out on some salary. You're delaying career

alternatives for a while, but it's, it's a, hardly a dramatic

risk. And the other risk is that you buy a company that's been

successful in the past and ceases to be successful under

your management and while that is certainly a risk that happens

very few times in entrepreneurship through

acquisition, and we can talk about that in more detail. So

the first thing I'd say is the risks are really very controlled

in this space.

You know, those people who get a lot of social

value out of their careers, you know, they want to be able to

meet interesting co workers. Maybe they're single and they're

interested in having a life mate, and they're going to find

that by somebody who they're going to meet through a work

experience. You know, the social side of work. They want to work

with people who are like them. They want to work in highly

resourced organizations. Those combinations of people probably

are not terrific, at least when they're coming right out of

school for this path. But if you tend to get your social

interests elsewhere, your work can be separate from your social

you don't feel that you need some affiliation to feel

fulfilled, and you love the idea of having executive control,

taking this blank page every morning and figuring out what's

important to do for those people. This is a great path,

and by the way, that's what. I think draws a lot of our

veterans into this path. Veterans, particularly as an

officer, you're given, you're given lots of control over how

you execute your mission, whatever that mission happens to

be. In big companies, that's not the case, and so they miss that

autonomy. They miss that that's what I meant by executive

control.

Yeah, that does make a lot of sense, yeah. And

so you're not the one making the pie. If that's your business,

you know you're, you're the one building the business that makes

a lot of pies. And you've got to be really interested in the

widgets, the behind the scenes, and the systems and the people

more, almost more than the product that's delivered itself

in some ways. I mean, is that a fair.....

That's a very good insight that you've just

communicated because you're right. People who are drawn to

entrepreneurship through acquisition are drawn by that

challenge of being a manager, managing people and creating

marketing strategies and overseeing product. They're less

focused on what the particular product or service is they're a

little bit more agnostic and more interested in managing, and

that can be a dividing line between people who choose

startup and people who choose entrepreneurship through

acquisition.

To use your analogy, most people, most

people who start bakeries, are really good at baking and are

fascinated by the idea of, you know, cutting up apples and how

to make the right crust and making that delicious apple pie,

they may not have that skill at actually making the pie in a

cost effective way, and pricing it properly, and distributing it

properly and alike, and marketing it properly. So those

are, those are the skills that are often required to take that

bakery the next level, I think about entrepreneurship. You

know, startup is, you know, you might not have ever seen a pie

before, and you're now inventing this idea that you could put

these interesting ingredients with some crispy crust on top

and and you don't have a recipe, and you don't have pricing, and

you don't have a model, and you don't know if it's going to

work. And so for most of these you finally do the equivalent of

baking a pie, and you're very excited about your prototype

pie. You don't know how to price it, and you don't know what the

competition's like. You don't know what other pies are out

there. So this is a lot easier you buy a business that people

have proven that it has an effective model. You can improve

the model, but it begins with a with a starting point where you

know that that the company under its previous management can

produce the product and sell the product at a profit.

That happens all the time. It's one of the sort

of catalysts of success in entrepreneurship through

acquisition, which is that Baker, to keep using this

analogy, that knowledge of baking was hugely important when

he, he or she started the business 20 years later, when

they have 35 people in the plant, that person has become a

manager. They're not baking pies anymore. They're dealing with

payroll and staffing and regulation and customers, and so

maybe what the business really needs is someone who's been

trained as a manager, not trained as a baker. And the

second thing is that that person who founded the company has been

really successful, and now at age 65 they have more money than

time, and they're acting accordingly, and they don't want

to work on Fridays to figure out how to expand into a neighboring

territory, but that hungry young entrepreneur, they're willing to

work on Fridays and Saturdays to figure out how to expand the

territory. And those are catalysts. What are the reasons

we see so much success in this.

So just as a little bit of a switching gears,

once you've decided that you're right for this approach of

acquiring small business, you begin to search and find them.

And I know there's brokers and websites, and how would you

advise someone go about finding the companies that might be

worth acquiring?

A number of paths, but I think a good

starter path is to reach out to the brokers who deal in small

firms. There are about 3000 of them, just in the United States,

who broker a large chunk of the roughly 250 300,000 companies

that come up for sale every year and start to get in the flow of

just looking at small businesses for sale, you're going to learn

a lot about what small companies look like. And then Rick and I

teach our students a set of criteria that they ought to be

filtering for that tend to tend to lead to high returns and

safety of principal and but that allows you to sort of screen

through this and look at a population of companies that

have good prospects. That would be the way I would suggest

starting.

Let me just... a question occurred to me here.

I've something I toy around with is what do people optimize for

in life? You know, in this Instagram world of business

acquisition, you know, it can seem that the optimization a lot

of people have is like, how do I just get reoccurring revenue?

And, you know, sit on the beach, let all my businesses do the

work for me. Maybe. That's what someone wants to optimize for by

buying businesses others might want to optimize for purpose or

optimize for impact. Do you kind of factor that in, I guess?

I think that couldn't be more wrong. I don't

know anybody who works 40 hours a week. I am waiting for the

person who is 40 years old, successful, and hanging out in

the ski slope or the beach or the golf course or the weight

room, but I don't think they really exist, because I think

it's always a lot of hard, hard work. It is not the case that if

you have a business with lots of recurring revenue that you can

go hang out in the beach, because the reason you have that

recurring revenue is because you have some kind of barrier, and

usually that barrier is that the company delivers this service

really, really well, and that as soon as customers get unhappy

with the service, they're going to move on. We often hear

stories where sellers say, I'm unhappy with the price I can

sell my business for. I've been getting a million dollars of

cash flow out of my business a year in which I'm working 60 or

70 hours a week on I'm gonna take my number two, who I'm

paying 75 or 80 or $100,000 a year, and I'm gonna make them

CEO, and I'm gonna move to wherever they go to retire, and

what they see is that their million dollar business very

quickly becomes a $500,000 business, and very quickly

becomes a $200,000 business, and then it's really not saleable

because it's had three bad years. It really does take the

energy and creativity of an entrepreneur, of a CEO, to keep

the business successful.

This is not a career to go into because you

don't want to work. It's a career you should go into for

professional independence, for the opportunity to build wealth,

because you like making decisions, even though some of

them can be anxiety provoking. You like being at the center of

a team. Those are reasons to go into this.

One of the great things about entrepreneurship

through acquisition is that you the entrepreneur, are going to

pick the company you're going to acquire. If you're allergic to

fur, don't buy a pet shop. Don't buy handguns. If you're a gun

control don't buy a handgun manufactured and similarly, if

you really want to live in a particular part of the world,

only search in that part of the world and buy a business in that

part of the world.

Yeah. Understood, yeah. Talk to me about focus

too, because there's another thing that I think is maybe,

maybe a myth that's propagated, but maybe not, is the idea that

the acquisition of many companies is always a wonderful

thing, that you're not just buying one small business. You

know, your your goal is to have 20 small businesses.

Over the 15 years, Rick and I have been

doing this. We've seen all sorts of experiments by, uh,

entrepreneurs through acquisition in different ways of

using this field. You know, if you go back a decade, virtually

everyone who went down this path, their vision was to buy a

business and run it as the full time CEO and the major owner of

the business, I would say, Rick. Over the last half decade,

there's been a stream of people in the group who really want to

assemble a portfolio of companies, not be the person

running them every day, but sort of be supervising and guiding

that person. So you can almost think of them as a little more

investorly in their careers. They raise capital, they find

the company, they diligence it, they buy it, they recruit in a

CEO, or promote someone the CEO, and guide that person. And while

that's a minority of the population, we see it's another

interesting way of of utilizing entrepreneurship through

acquisition to fulfill their lives. And the two things I'd

say about that are one that's like so many other ways of using

this to fit your life, like having a geographic focus or an

Industry Focus, as opposed to being having a generalist focus

on your acquisitions, things that Rick was talking about

earlier. But the other is it's not just sort of spreading your

opportunity or spreading your risk across multiple companies.

If you choose that sub path of entrepreneurship through

acquisition, you're leading a very different life from what a

CEO does. Right? You're not really the center of a team.

You're not really making lots of decisions every day. You're not

dealing with all different kinds of people, like customers and

regulators and lenders and employees. It's a good life, but

when you closely examine the career, it's a very different

type of work you're doing every day. And I think, I think it's

what Rick and I try to do, is sort of hold up a microscope to

that and say, Your days look very different. It's not better

or worse, it's just who are you? It's an important thing to

remember about small companies is good. Small companies aren't

small because no one wants to buy their product, or because

their customers keep getting snatched away by competitors.

Good. Small companies are small because the market niche they

focus on is small, but within that niche they are devastating

effects. Competitors or for some reason or another, customers are

reluctant to switch. They see value in sticking to this

supplier, and perhaps their costs to switching. And so you

can have a great business that's still a small business. I think

one of the early moments of realization for Rick and me was

a trip we took to Dallas Fort Worth in the early years of our

teaching. And we met these two sisters who were selling their

business. It was a high rise window washing business, and

they were taking down about two and a half million dollars a

year, which they split between them, year in and year out,

serving these highly recurring tall businesses operating out of

a sort of inconspicuous warehouse in Dallas, Fort Worth.

And we kind of looked at each other and said, Here's this sort

of obscure small company out of many possible industries in one

city, out of many possible cities. Do you realize how many

opportunities must abound? Because we see this, and that's

what the world of attractive small businesses is comprised

of.

And note how much money they were making.

Yeah, note that.

They were making over a million dollars a year.

Each one of the things, I think, is very interesting is in the

small business space, you can find a lot of businesses that

are capable of generating that kind of annual income, like, a

million dollars a year to their owners. That's a lot of money.

That's nothing to say. Oh, yeah. Well, what would you do if you

were successful, right? That is successful.

So do you two feel like you suffer from, like, this

disease, where, everywhere you go, you're always assessing the

business model, like you're at a gas station, or you're....

That's such a funny question. So this drives

my wife crazy. Every time somebody comes to do a service,

I want to engage in a conversation of like, how does

their business model work? So just a couple weeks ago,

somebody knocked on my door and said, Hey, see you have apple

trees. Would you like us to start taking care of your apple

trees, and, you know, revealing perhaps too much about myself,

but I hate heights, and I also hate failure, and I've had these

apple trees for about 15 years, and they've grown so that I now

have to deal with heights, and they almost never produce

apples. So I hire these guys, and then I can't help but

wonder, so how many people? How come they have two schedulers?

So I can call to schedule the appointment in there, somebody

else is saying, How come that work? And seems like, it seems

like it says that it's one of, you know, such and such company,

like, it's part of a funeral home, you know, it's like a roll

up. Could you do an apple tree maintenance? Roll up? How could

that possibly be possible? And I spent hours and hours and hours,

and my wife is always Rick, would you just let them do their

job?

I agree with Rick. I do this too, all the

time. I actually never thought of it as a disease, though. I

thought of it as a superpower. Like, you know, every time we

encounter some service, we're thinking, Well, how many can you

process in a day? And what's your average charge, and what's

your cost, and what might you be making? So yes, we confess. We

do that all the time.

Shifting gears for just a second, negotiating a

potential deal with a seller, right? There is such a

psychological small business world, you know, they're they

put their livelihood in this thing. They're emotionally

attached. I mean, some of it's not uncommon for a small

business owner to refer to their business as their child, right?

Because of the blood, sweat and tears that went into it. How do

you account for the psychological element when

you're navigating a deal?

You've raised a very important point, because

the actual buying from a seller is a is a challenging experience

and hard work, and there are at least two reasons for it. One is

almost every seller you deal with is a first time seller, so

they're embarking on a intricate transaction of something that's

very important to them for all the reasons you've said, plus

their family wealth is concentrated there, and they've

never done it before, including never picked the advisors like

lawyers and accountants that they need, so you have to sort

of help them through the process. But the second piece

is, do they really want to sell? And you know, Rick likes to say

that finding a committed seller is actually harder than finding

a great small business, and I think that's really true. Part

of your early diligence when you're looking at the company,

is not just the numbers or sales recurring. Does it have any

customer concentration, those sort of hard skill assessments,

but making sure that you understand? Does this seller

have a compelling motivation to sell? Now they're getting older

and they really want to move to a retirement community. They

don't have a natural successor inside the firm. They don't have

partners where they have to get alignment of three or four

people on selling. There are a bunch of clues that you can look

at that say, Yes, this, this seller probably doesn't have to

sell, but they have a strong propensity to sell. By the way,

hiring a broker is a is a good clue on that too, particularly

if the broker charges. A retainer, and not just a success

based fee. So there are a set of clues you should be looking at

early on to determine to borrow Rick's words, is this a

committed seller?

One of the things that's challenging is

first time sellers are first time sellers. And so there are

standard parts of any negotiation, like working

capital, that almost invariably create conflict and hassle if

they use a broker. The brokerage community is, you know, it's

really important to get a broker who's really good at getting

deals done. Suppose you're selling your house, so

everybody's going to come in and say, Oh, your house is really

special. We really love what you've done with it. It's just

It couldn't be better? No, no, no, let's not paint the walls or

anything like that. I'm going to get you a high price for your

house. And people get enamored by this idea of a high price,

but they don't ask questions like, how often does this broker

find a buyer in a reasonable amount of time, how much

discount off the asking price normally occurs. Or even worse,

how much premium above the asking price normally occurs,

right? Because that just says they're not doing their pricing

job well, how much delay, how much hassle? People don't ask

those questions and they should, probably should. How often is

this broker able to bring the firm to sale in an orderly way.

How many deals get busted? How good are they at managing

buyers? How right there are all these questions about what a

good broker does, and a good broker does a lot more than

sweet talk the seller. A good broker has to understand the

business has to market. The business has to be able to

anticipate the kinds of questions that a buyer is going

to have. Is this really recurring revenue? Can we talk

about revenue quality? What's going to happen when I hire the

Q of E firm? Are they going to find out the accountings not as

it's represented? All those things, all those things a good

broker can help you with most first time sellers don't know

the questions to ask, and similarly, is when it comes time

to get legal advice, they often hire their estate attorney to

help sell their business, and so they don't have any

understanding of what terms and conditions are in a reasonable,

small firm sale, and the estate attorney feels like they've got

to earn their keep by being obstructionist. Oh no. We can't

do it that way. We have to do it this way. We need to have a

personal guarantee in the selling out. We need to do this.

We need to do that. We're not paying any working capital,

crazy stuff that are just not market terms. And all those lead

to bad outcomes.

Wonderful and well said, knowing the knowledge that

you have now, what is an 18 year old version of yourself get in

advice from who you are now?

Adam, that's a that's a very provocative

question you're asking, because what you can't possibly know is

that both one of Rick's sons and my son both have elected to

become entrepreneurs through acquisition, without any

solicitation on our parts at all. And so the idea of giving a

young person advice is not only our profession, but is very

personal. I think I would say that if you're a capable person,

this field is definitely accessible to you. You can do

what the people who are running small firms, does it takes grit

and energy, and you have to hang in there, even, you know when

you get bad news, but it is definitely achievable, and if

you have a taste for professional independence and

making decisions and having a lot of control over your life

and potentially building significant wealth, this is a

path you should examine very carefully.

A simpler way of saying that is that I would tell

my 18 year old self to hang out with some 40 year olds and see

how happy they are in their jobs and their families and have

dinner with them. And one of the things I think they're going to

discover is the 40 year olds and 50 year olds who own small

business are a lot happier.

Wow. Thank you for ending on that note. Thank

you both for your time. Please chime in. Chime into their

podcast. I know I will.

Thank you. Adam, it's been a pleasure.

Thank you.