Latest / The SmallBizChat with Melinda Emerson / What You Need to Know to Buy or Sell a Business with David C. Barnett

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What You Need to Know to Buy or Sell a Business with David C. Barnett · The SmallBizChat with Melinda Emerson

• 0:00
  If it's a highly, you know, a business with a lot of technical equipment and things, you
• 0:04
  might want some kind of technician, qualified repair person, etcetera, they can help you look
• 0:08
  at that sort of thing.
• 0:09
  If it's an industry you're not that familiar with, you might want a coach or a consultant
• 0:13
  specific to that industry, someone who may be used to run a business in that field who can
• 0:17
  help you take a look at it.
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  The way that I help people is by looking at the deals and helping to assess the business.
• 0:24
  You know, I I've looked at so many files over the years.
• 0:28
  That I I work through them very quickly, and I can show people where the potential problems
• 0:32
  are, what they need to investigate more, and give them an idea of what the value is.
• 0:37
  And that can save people a lot of time, especially when we're talking about one of
• 0:40
  those sellers who who grossly overestimates the value of their business.
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  10, 1, 0, ignition.
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  Lift off.
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  Ending small business failure.
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  Welcome to the small biz chat podcast with the number one small business expert, Melinda
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  Emerson.
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  Melinda's goal is to end small business failure, and she'll give you the information
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  you need to succeed and live the life you dream of.
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  Now here's your host, the small Biz chat lady herself, Melinda Emerson.
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  Hi everybody.
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  This is Melinda Emerson, the small biz lady.
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  America's number one small business expert, and it is my pleasure to welcome you to another
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  episode of the small biz chat podcast.
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  We have an amazing show in store for you today.
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  And if you're looking to buy or sell a business, I have an expert here who's gonna
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  talk about both sides of the equation and what you need to know so that you're prepared and
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  don't lose your shirt.
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  The goal of all of this is to help you with your long term business strategy.
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  Here on the small business chat podcast, we talk about how to start and grow a successful
• 1:58
  business.
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  Our mission is to end small business failure.
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  And we bring in guests with amazing expertise to give you advice from multiple angles to help
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  you take your business to the next level.
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  Now the small fish tap pockets is a peer to peer mentoring show were really about giving
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  small business owners invaluable business advice that they otherwise would have to pay
• 2:21
  for.
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  The small biz chat podcast can be seen on my small business lady YouTube channel and on my
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  Facebook page.
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  So please do me a favor and sub scribe to both and share it.
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  More people need to know about how to get great information to grow their business.
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  Now let me introduce my guest.
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  His name is David Burnett.
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  He loves to say that it took him 10 years to unlearn what he learned in business school.
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  After career in advertising sales, Barnett started several businesses, including a
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  commercial debt brokerage house.
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  Helping to finance small and medium sized businesses led to the field of business
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  brokerage over several years, Barnet sold dozens of businesses for others while also
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  managing his own portfolio of income properties and started him in the career as a local
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  private investor.
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  Run it regularly consults with professionals and banks on business and asset values.
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  Presently, he also worked with entrepreneurs and would be entrepreneurs around the world who
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  are buying, selling, or trying to improve their businesses.
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  You can get more information about him atdavcvarnet.com.
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  David, welcome to the Small Bishop podcast.
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  Oh my goodness.
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  I'm excited to be here.
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  It's great to be here.
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  This is an awesome show.
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  Well, I I gave just the snippet of your story, but why don't you tell us your backstory?
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  Like, what made you become so passionate about being a business broker and investor?
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  Well, Melinda, you forgot to use the f word there.
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  So I'm a former business broker and and the reason that I got into business brokerage is is
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  because I I was doing the the commercial debt brokerage back before the great financial
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  crisis.
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  And during the GS see a whole bunch of the companies that I was using as a source of
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  financing went under because of the events on Wall Street and everything.
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  And I realized during that time that I had been approached by a lot of people looking to get
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  money to buy existing businesses, and they were very poorly served in the marketplace.
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  And I realized there was an opportunity to become a business broker and to do things a
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  little bit better.
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  And so I joined up with 1 of the big, franchise brands in the business brokerage industry
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  because they gave me access to training.
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  I did that for 3 years and it was the most interesting thing I've ever done because you're
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  trying to figure out how solve monumental problems and get 2 parties that may be very far
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  apart to find a deal together that's also acceptable to a bunch of other people.
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  Accountants, attorneys, bankers, etcetera, and brokers get paid when the deals are done.
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  And so even though I did it was over 36 deals in 3 years.
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  It sounds like a lot, but in each one of those years, there was a period of 7 to 9 months with
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  no closings which meant I lived through an incredibly wild cash flow roller coaster, as
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  you might imagine, with with no money coming in for long periods, I eventually laughed and
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  became a banker.
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  But while I was working for the bank, the phone kept ringing, it was people coming to me
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  looking for help on these deals, Eventually, I got back into the world of helping people buy
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  and sell businesses as a consultant.
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  And so now I work with buyers and sellers.
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  I have no financial interest in whether a deal is done.
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  I just I I I borrowed the business model of attorneys and account, and so I basically work
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  with people build them for what I do, and it's good because sometimes my advice to people is
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  to not do a deal because it doesn't make sense.
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  And and there's a lot of those potential landmines out there.
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  Mhmm.
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  Mhmm.
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  So so let's just talk about buying a business first.
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  So Sure.
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  What is the best place to find a business to buy?
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  The the the best place Well, people often start with the easiest place, which is those websites
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  that advertise businesses for sale, and they're easy because it's all in one place and you can
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  look it up online.
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  The problem is that you're competing with all the other buyers when you're looking at those
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  websites.
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  And and the other thing is that 80% of deal happen without any kind of intermediary.
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  So buyers and sellers find each other through different means.
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  They come together and they do deals without the business ever being advertised for sale.
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  And so the best way to find a business is to figure out what you want because if you know
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  what kind of business it is you want to acquire, finding them is as easy as finding a
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  copy of the YellowPay or whatever the modern online version of that is because if you
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  decide, for example, I want a machine shop in upstate New York.
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  You can find them.
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  Then it's a matter of creating the relationships and meeting the people in that
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  industry to find out who is open to an opportunity to exit, which is what essentially
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  you're selling, you're selling an opportunity to exit.
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  And a lot of the times there's a mismatch where you'll meet someone who doesn't wanna sell, but
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  then because you're active in that market, maybe a year later, that person does.
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  So sometimes it takes a little bit of time.
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  Well, I that was actually gonna be my follow-up question.
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  So what is the time frame like.
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  Like, do you meet somebody in 6 months later?
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  They're leaving.
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  They're waving goodbye with their big old check-in their pocket, or does it take you
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  know, 1 to 2 years to build rapport so that someone would be willing to sell you their
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  business.
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  It's a great question.
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  And and and the the fact is that It's different for every person, and it's different by the
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  type and size of business that you might be looking at.
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  So I work with a lot of different people that are looking at buying businesses some people
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  find a business on one of those websites I mentioned.
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  And, you know, 2 months later, they're they're getting the keys to the new business.
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  Other people will spend years doing a search talking with people, sometimes talking with the
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  same people off and on over a period of time.
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  Sometimes, you know, this may be surprising to some, but sometimes people get into the market
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  and they believe their business is worth more than it really is.
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  And so sometimes so Sometimes a buyer and seller will talk, but they can't come to terms,
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  and that seller will believe that the business is worth more.
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  They'll they'll go out looking for someone else who's willing to pay more, and then a few
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  months later, they'll talk again and still may not come to terms.
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  I've got clients that I've worked with who've had on again again, conversations for over a
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  year with someone before they finally came to an agreement and actually did a deal.
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  And then once you involve the banks, you can then add further to timeline because of their
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  process.
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  So is it about when those things go on with this back and forth business for a year, Is
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  that because the seller finally gets the realization of what their business is really
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  worth, or they finally went out and had a professional valuation done and that's how they
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  know what their business is worth.
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  I mean, I know that it's always like some multiple of EBITDA.
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  Right?
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  But I think that you know, I really think that that I do think there's an issue out there.
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  People think their business is is worth more than it is.
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  And then I think there's a group of people who don't think their business is worth very much
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  when in fact it is.
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  And so I think there's I and you you could tell me better than I could tell you, but have you
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  seen a lot on both sides of this?
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  It's it's a question of compulsion.
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  And mod or motivation, if you will.
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  So, you know, businesses sell for a multiple of cash flow, as you just said, But in the world
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  of small businesses, that multiple is a pretty low multiple.
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  It's a very low number.
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  And so a lot of the times when I meet with business owners and we talk about selling, I'll
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  show them what other businesses like theirs have sold for, and they almost all have the
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  same responsibility, Melinda, they say, if I just stayed here for a couple years, I'd have
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  the same money.
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  And so it's it's difficult to get excited about that.
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  And so the reason businesses go up for sale is not so someone can cash out like Mark
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  Zuckerberg does when he sells his stock.
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  Right?
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  The reason these small businesses go up for sale is because somebody reaches a point in
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  their life when they realize can no longer carry on being the operator.
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  So this is a personal reason or retirement, and it's just a question of how big a reason, how
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  what does a timeline look like and how motivated do they have to be?
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  People who plan on retiring tend to be less motivated than someone who's been told by their
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  doctor maybe that they're suffering from an illness.
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  And so that motivation is one of the key things that's gonna make someone act more quickly or
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  not.
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  So how much money typically do you have need to buy a business?
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  Well, you know, most of your listeners are probably in the States.
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  And in in the US, you've got the SBA guarantee program for loans.
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  And so a good rule of thumb is that whatever the seller's discretionary earnings is going to
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  be of a business you wanna buy, and that is the money available to a full time owner operator
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  in the business.
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  So this is the pay of that manager and the profit of the business.
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  All that money that's available to a full time owner operator Let's say you wanna go out and
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  get a business that has a discretionary earnings of a $100,000.
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  You're gonna need about half of that in liquid cash or equity.
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  And with that amount of money, you can likely put together a deal if you're able to qualify
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  for some SBA financing and get the seller to maybe finance a portion of it as well.
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  So you do an earn out with the seller?
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  Is that how the seller finances it?
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  Well, you know, an earn out relates to the future activity of the business.
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  And there's there's all kinds of ways that you can pay a seller over time.
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  Most often, it's what we call a seller note where it's a fixed amount that the buyer has to
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  pay.
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  So it it's a debt instrument, but it's a debt instrument being financed or held by the
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  seller.
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  And it's really important for these small business deals because, you know, when you buy
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  a house, for example, or a car, You can have experts look at the house, look at the car,
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  inspect it, tell you if there are any kind of problems.
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  When it comes to a business, we've got so many moving parts and things that are really
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  difficult to measure, like the reputation of the business in the community, or how the
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  clients and customers in the community feel about the owner of the business for example.
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  Because when you buy a business, that owner is usually departing and you're taking their role.
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  And so there's so many of these unknowns that we need to rely on some kind of mechanism that
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  basically holds the seller to account to be accountable.
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  And so these seller notes are usually subject to offset in the case of a material
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  misrepresentation.
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  So if there was a lie or or an error or some kind of, untrue thing that the seller told you,
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  you have a mechanism for recourse against that note, but it also creates confidence.
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  You know, as a buyer, if you're gonna buy a business and the seller says, you know what?
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  You remind me of myself 20 years ago, and I really think you've got what it takes to make
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  this work.
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  And I believe in you, so I'm gonna finance part of this for you.
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  It gives the buyer confidence.
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  It also gives the banker confidence because the banker understands that this seller knows the
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  business better than anyone and the seller's willing to finance part of it.
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  It makes it easier for the banker to believe that the buyer's got what it takes as well.
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  Interesting.
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  So if you decide that you're gonna buy a business Who do you need on your team?
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  Well, it's it's usually a team effort and at a minimum, you're gonna need the help of an
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  attorney and an accountant.
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  And then there's a whole array of other kinds of specialists that you might have on your
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  team.
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  So if it's a highly, you know, a business with a lot of technical equipment and things, you
• 13:39
  might want some kind technician, qualified repair person, etcetera, they can help you look
• 13:44
  at that sort of thing.
• 13:45
  If it's an industry you're not that familiar with, you might want coach or a consultant
• 13:49
  specific to that industry, someone who maybe used to run a business in that field who can
• 13:53
  help you take a look at it.
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  The way that I help people is by looking at the deals and helping to assess the business.
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  You know, I I've looked at so many files over the years.
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  That I I work through them very quickly, and I can show people where the potential problems
• 14:07
  are, what they need to investigate more, and give them an idea of what the value is.
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  And that can save people a lot of time, especially when we're talking about one of
• 14:16
  those sellers who who grossly overestimates the value of their business.
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  So I have had people say that sometimes you need a bedside banker.
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  What is that?
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  A bedside banker?
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  I don't know.
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  I I don't trust any of them to let them near my bed.
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  Yeah.
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  Someone told me that you need a bedside banker involved in one of those deals too, but I guess
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  we'll skip over that.
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  So, you know, if you decide that you want to sell your business.
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  What is the best way to let people know that you're interested in selling your business?
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  Well, the first thing you wanna do is not let anyone know.
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  Confidentiality is one of the critical elements in preserving the value of a business.
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  If if the main stakeholders so think about your suppliers, your customers, your employees, your
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  current bankers, or other people lending you money.
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  If they find out the businesses for sale, they can make assumptions that there's something
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  wrong with the business.
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  Most people are not business people.
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  Most people are happy working in a job.
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  And, you know, for the average person that, you know, watches football and movies, when they
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  hear that a business is up for sale, it often means that there's something wrong with that
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  business.
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  And so we don't want people to know what's up for sale because we don't want people to worry
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  about the future.
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  All of your best employees always have job prospects.
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  With your competitors.
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  And so if word gets out that a business is for sale, you could lose employees.
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  Customers might worry that you know, your warranty offer isn't gonna be very good because
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  you're planning to close-up shop.
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  You could have bankers worried that there's something wrong with your business suppliers
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  might decide to pull trade credit from you, and they might wanna be paid cash on delivery for
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  different products.
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  So you wanna keep it secret and you need to come up with a plan.
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  So you can either ask yourself, who is the most likely buyer of my business and work to create
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  a network to get you in front of those people, or you can go to a professional like a business
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  broker.
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  Who's gonna help show you what your business may be worth and can help to promote it in a
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  confidential fashion.
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  So when positioning your business to sell, what do you think are the top 3 things that a a
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  seller, a business owner needs to keep in mind?
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  Yeah.
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  So number 1, we already talked about, which is confidentiality.
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  So you wanna keep it a secret because if word gets out, the business can be ruined.
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  Number 2 is cash flow.
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  The value of a business is always determined by the cash flow.
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  So the more cash flow there is, the better it is for the price, but also the consistency and
• 16:53
  regularity of the cash flow is key.
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  When I see a business that has, you know, performance that jumps and syncs by 30, 40
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  percent every year, it it causes a little bit of uneasiness because you don't really know
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  what the future's gonna hold for a business like that.
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  But if I see regular performance that's growing at an inflationary rate or maybe a little bit
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  better and it's an eddy, steady business that keeps going every year that gives me great
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  confidence.
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  It's likely to continue, for example.
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  The third thing is that every buyer who looks at that cash flow they're gonna say, wow.
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  This is a great cash flow.
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  They're then gonna be faced with this question.
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  Do I believe it will continue under my stewardship?
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  And so that's a big question because, you know, if I'm gonna invest in Coca Cola, if I buy the
• 17:38
  stock of that company, I get the benefit of all the leadership and management that's over there
• 17:42
  today.
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  They're gonna carry on if I become a shareholder, but when I buy a small business,
• 17:48
  the leader is often going to depart and I'm going to take their role, which means that I
• 17:53
  need to be certain that I'm gonna be able to pick up and learn how to run this business just
• 17:59
  as effectively as the current owner.
• 18:00
  And this is where things like operations manuals and business systems and checklists and
• 18:05
  other management tools become so critical because we're gonna have to show this buyer
• 18:11
  that, yeah, I'm gonna be able to teach you how to run this.
• 18:15
  Quick story.
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  I have sold a restaurant once.
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  The buyer was worried that the employees might leave, and he he had never run a restaurant
• 18:22
  before.
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  And he said, well, what how do I know these employees are gonna stick around?
• 18:26
  And the seller looked at him and said, it's a restaurant in a year that are all gonna be
• 18:30
  gone.
• 18:31
  And then explained the system he had developed for how to find great employees and determine
• 18:37
  whether they were motivated and responsible people very quickly and he then described all
• 18:41
  the ads he was using online and his methodology.
• 18:44
  And he said, I'm gonna teach you this whole system so that you're gonna be able to use that
• 18:48
  system to place these people as they turn over.
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  And that system is what allowed the buyer to have confidence and move forward with the deal
• 18:56
  even though those employees were likely gonna turn over.
• 18:59
  Now what about the kind of deals where people ask the the original owner to stay on for a
• 19:04
  year or 2 through a transition?
• 19:06
  Is that common?
• 19:07
  It it depends on the type of business.
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  And so the more complex a business is or the more tied the clientele is to that individual
• 19:17
  person, then the longer the transition period might be.
• 19:21
  So in some professional practices, for example, people are gonna be asked to stay on longer
• 19:26
  than in a business like, you know, a retail store, for example, where skills are gonna
• 19:30
  transfer transfer more readily.
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  Also, it's important not to just think about these transitions in a as a period of time.
• 19:38
  A lot of buyers will believe that there's a lot of secrets in a business that they're gonna
• 19:43
  take a long time to learn, they'll ask for, you know, oh, I want the seller referred 3 months
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  or 4 months, etcetera.
• 19:49
  And what I what I point out to people is that whenever they've had a new job in the past,
• 19:54
  they likely have, you know, learned quite a bit and been very functional after a few weeks but
• 20:00
  then they needed someone's guidance from time to time going forward to make sure they stayed
• 20:05
  on track.
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  And so I often advise buyers to look transition periods where there's a certain fixed period of
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  time, like 6 or 8 weeks in the beginning, but then they have the right to have the seller
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  come back maybe for 5 or 10 days in the following year to come and follow-up and to and
• 20:22
  to consult with them when certain events happen in the business that might require a little
• 20:25
  more guidance over the course of time.
• 20:28
  Oh, that's an interesting thought.
• 20:29
  That's an interesting thought.
• 20:31
  Alright, David.
• 20:32
  Let's talk about business valuation.
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  This is the big, big issue.
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  Like, that that people always seem to struggle with What is my business worth?
• 20:43
  And what do I need to do?
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  How do I figure it out?
• 20:46
  So how do you advise people on that?
• 20:48
  Well, the whole key is to get back to a number called discretionary earnings, which is the
• 20:54
  amount of money that would have been available to an owner operator that worked full time if
• 20:59
  they had taken over your business at some point in the past.
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  So that's the wages you paid yourself.
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  If you if you wrote yourself a w 2, it's the profit of the business, and it's the things
• 21:11
  that you chose to spend money on that weren't actually part of the business's need, like
• 21:16
  maybe your teenage daughter's cell phone.
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  So we go through and we add up those things to find out what is that cash flow.
• 21:23
  And then depending on the type of business that you're in, we then multiply that number by a
• 21:29
  factor that we can find is gonna have a lower multiplier than a machine shop because it's
• 21:41
  they would be considered a riskier business.
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  So we multiply out the cash flow, and that gives us something called an enterprise value,
• 21:48
  and that enterprise value includes everything required to make the business's cash flow flow.
• 21:55
  And this is where people get hung up and a little bit confused because part of what makes
• 22:00
  a business go is the operating capital.
• 22:03
  And depending on what kind of business you have, there there's different considerations
• 22:09
  that go into what part of operating capital needs to be included in that enterprise value.
• 22:13
  So one of the common mistakes that people make is they look at cash and receivables and the
• 22:19
  payables, and they exclude that from this conversation.
• 22:23
  But if I need money to finance my customer's purchases through receivables, then that money
• 22:30
  required is just as important to making the business function as a forklift I'm using to
• 22:34
  load my truck.
• 22:35
  And that's the way you need to think about it.
• 22:38
  Operating capital is just like any other piece of equipment.
• 22:41
  You need to figure that out, or you'll end up either over or undervaluing the business.
• 22:46
  So what are some of the common mistakes people make when they're buying a business?
• 22:51
  Well, there's a few.
• 22:52
  I, in fact, I wrote a called 21 stupid things people do when trying to buy a business,
• 22:56
  because I kept running into the same ones over and over again.
• 22:59
  And so the the here are some top ones.
• 23:01
  The the the biggest one is failing to understand the value of your own labor.
• 23:06
  So when I when I talk about discretionary earnings, that's the money available to a full
• 23:11
  time owner operator, which means you gotta work full time to get that money.
• 23:15
  So when you're looking at that cash flow, don't think of it all as profit, part of it has to be
• 23:20
  taken aside to actually represent the work you're doing, and that money's gotta come home
• 23:24
  to, you know, feed your family and pay your bills and all that kind of people consistently
• 23:29
  undervalue themselves in this.
• 23:31
  The other one is the value of capital.
• 23:33
  So if you put in some cash into this highly risky venture which is a small business, you
• 23:39
  need to earn a rate of return on the cash you put in people often forget about that.
• 23:43
  They'll put a down payment in.
• 23:45
  They'll never think about the rate of return on their own money, which should be far greater
• 23:49
  than the rate of interest you pay the bank because the bank is in a less risky position
• 23:53
  than you are.
• 23:54
  Another one would be, overcommitting cash flow.
• 23:58
  So I'll see people use that discretionary earnings, they'll undervalue their labor, then
• 24:03
  they'll commit too big a portion of the cash flow to their debt service payments, and
• 24:07
  they'll end up with what we call tight shoes.
• 24:10
  So all of a sudden, they don't have a lot of wiggle room.
• 24:12
  And if some minor problem happens in the business, suddenly they're in a position where
• 24:17
  they have trouble making a bank loan payment where they have to cut one of their own
• 24:21
  paychecks, for example.
• 24:22
  And so people will paint themselves into a corner sometimes because they are a little bit
• 24:29
  too optimistic, they think that they're going to improve the business right away.
• 24:34
  I always say to people If you're buying a successful business from someone who's been
• 24:38
  running it for a very long time, there is no doubt that person you're buying from is the
• 24:43
  expert.
• 24:44
  And so we should not assume that we're gonna do better than that person immediately.
• 24:49
  We may bring improvements to the business but we should give ourself time.
• 24:53
  And for the 1st couple of years, you should just assume that you're gonna do exactly the
• 24:58
  way the seller has done because you're gonna learn from that person And I don't recommend
• 25:01
  rocking the boat in a business until you fully understand why things are done the way they are
• 25:07
  because if there's a system in there, there's probably a reason why I was put there.
• 25:11
  I love it.
• 25:12
  I love it.
• 25:12
  Alright.
• 25:13
  Last question.
• 25:14
  What is the best business advice you've ever been given?
• 25:17
  Okay.
• 25:17
  So, often when things fail, we do a post mortem.
• 25:21
  And I was once advised, do a postmortem in advance.
• 25:25
  So if you are getting into any kind of business activity, just ask yourself If this doesn't
• 25:29
  work, what will likely have been the cause?
• 25:32
  And then you can consider some of the likely problems that may arise and maybe change your
• 25:38
  plan a little bit to address those things and try to give yourself a more resilient position.
• 25:43
  I love it.
• 25:44
  I love it.
• 25:44
  David, thank you so, so, so much.
• 25:47
  Your insight has been really refreshing and and interesting.
• 25:50
  And I feel like I learned some stuff.
• 25:52
  Maybe maybe one day I can sell my business.
• 25:54
  Who knows?
• 25:55
  Thank you to David Burnett.
• 25:56
  If you're looking to buy or sell a business, look him up at davidcbarnett.com.
• 26:02
  Now listen.
• 26:03
  If you're interested in starting your dream business in 2023, I wanna encourage you to
• 26:10
  check out my new course, become your own boss.
• 26:13
  It is a 10 week online course that is gonna give you everything you need to launch your
• 26:18
  dream business.
• 26:19
  It starts January 31st.
• 26:22
  I'm doing it in partnership with Drexel University.
• 26:24
  I can also get you some CEU credits if that's something that you need.
• 26:29
  I'm gonna help you build a business plan and a sales plan so that you're gonna be able to
• 26:34
  drive sales on day 1 of your business.
• 26:37
  If you're interested in checking out the course, head over to our URL
• 26:42
  tinyurl.comforward/byobdrexold.
• 26:48
  Now thank you so for joining us tonight on this episode of the Small Bishop podcast.
• 26:52
  The mission of the Small Bishop podcast is to end small business failure.
• 26:57
  I'm Melinda Emerson's small business lady, your host, and I will leave you with this.
• 27:00
  You never lose in business, either you win or you learn.
• 27:05
  God bless everybody.
• 27:08
  Thanks for listening to the Small Biz chat podcast with Melinda Emerson.
• 27:13
  Subscribe to this podcast wherever you listen to podcasts and join us next Wednesday for more
• 27:18
  fantastic information and interviews.
• 27:21
  You can find more sources and small business success by visiting Melinda's website succeed
• 27:27
  as your own boss dot com.
• 27:29
  Thanks again for listening, and we'll see you next week.