Financing

Key Takeaways

  • For business buyers, an accountant and CPA are the two most important people one needs in their team to help with buying and validation processes. A broker may not be necessary for someone who is looking to buy a business. 
  • Employees' reactions to the change in ownership of a business may be mixed. Those who provide the business's services, the ones in the field, tend to be less concerned about changes, especially changes in their roles. Others who hold management positions are more prone to worry, as there might be changes in their usual way of doing things. 
  • For a new business owner, building good working relationships with employees is important because doing so will motivate them to provide the best possible service to customers.
  • In buying a business, being thorough in due diligence is paramount, as this will enable the new business owner to run the business more easily and effectively.  Business sellers, in turn, should prepare in advance the data and documents that buyers usually request to save time during due diligence.

Read Full Interview

From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk", brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.


Jeff: Hello and welcome back to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk," we share real stories and information from business owners and industry experts that you and all small business owners can use to help you improve your company's value, sell your business successfully, and enjoy what life brings next.

On the program, we have talked in the past to a number of experts who are in the business of helping business owners transition, and in transition help them sell their companies. And they have given us a good taste for what buyers are looking for when they are out prospecting and seriously considering your company. But on today's edition of "Deal Talk," we're going to be speaking with one of the buyer's first-person perspective of what this particular buyer was looking for in the company that he ended up buying, what he has been able to do with his company in a short space of time, and just get a feel for what it is like from a buyer's perspective when they are going through the process of buying a business.

And what we hope to accomplish by doing this is so that obviously business owners can get a clearer understanding of what's going through a buyer's head. Number one, sellers understand what's going through a buyer's head, and number two, if you're considering buying a business yourself, maybe this will give you some sense of what it is like to go through the process before you've had a chance to go through it. That way, maybe you'll be able to form some questions on your own based on this conversation, some things that you should consider asking sellers eventually when you're in the market to buy a business. 

And to help us do all of this stuff today, we are talking with a gentleman who is the new and recent buyer of a business. As a matter of fact a Miracle Method franchisee now, and we've had a couple of folks from Miracle Method join us on this program. His name is Mike Rabinovich. Mike, I want to thank you for your time and welcome you to "Deal Talk," sir. It's good to have you.

Mike: Thank you for having me.


Jeff: Mike, you have purchased a business that we have featured on this program in the past. We spoke with a gentleman who is the former owner, in fact now, of the very location that you own and operate. That gentleman, Dan Ness, we spoke with him some time ago on "Deal Talk" and now you own that same location.

Mike: That's right. 

I think due diligence is extremely important, and both a CPA and a lawyer [are] the two primary people who would help with the process.

Jeff: I was wondering if you can share with us, Mike, what factors made you decide to buy this specific location from Dan Ness and this specific business, Miracle Method?

Mike: The location was pretty simple. We moved here to Portland, and I was looking to settle down, and I was looking for a business in Portland area. I was tied to a location. When I started looking for a business to buy, I initially started looking for manufacturing businesses because that's something that I was more comfortable with. 

But as I was looking, it's a fairly long and complex process looking for a business. There are not very many for sale, and the ones that are for sale I was looking for the right business. And as I was digging through a pile of businesses for sale, this one appeared on my screen. There are a few things that I really liked about it. I thought the buyer was selling it for the right reason. The business was well-established and well-known in the community, and I really like the product. So those are the main things that drove me eventually to purchase the business.


Jeff: How long was the process for you? Once you arrived in Portland, did you start looking for opportunities before you arrived in town, or was it after you arrived in Portland that you wanted to get a lay of the land and see what's available out there before you finally started to zero in on your target?

Mike: It was after I arrived. I came here and then within about three or four months, I started looking. I had a corporate job before that. I have plenty of time to look. I knew I wanted to buy a business, but I knew I could take my time looking for one. And once I started looking, I think it took about six to seven months until I stumbled upon Miracle Method.


Jeff: Mike, for those people who are tuning in for the very first time who may not know what Miracle Method is and what it does, tell us a little bit about your company and what you offer your customers?

Mike: What Miracle Method does is refinish surfaces. A lot of our work is tubs, showers, tile countertops, and recently a more advanced commercial project. We do refinish concrete countertops, concrete floors. But essentially, any hard surfaces, instead of doing a demolition and put new ones in, we'll refinish them and make them look and feel new.


Jeff: And the advantage here to a lot of people and I think many customers are interested in this is the cost savings over demoing an existing countertop or an existing tub and replacing with brand new. You provide a cost-effective option, correct?

Mike: Exactly. Not just cost but also convenience and time. A lot of people don't want to leave for a demolition process of their house or their business. They would rather have it refinished, done in two or three days, especially if the business, as we see it, is very attractive. They want to get back to doing business. They don't want to shut down for two weeks for a complete remodel.


Jeff: Mike, let me ask you. You had a choice. You could have purchased an independently owned business. You ended up though buying an existing franchise instead of an independent business. Why did you decide to select an existing franchise?

Mike: To be honest with you, initially I was a little apprehensive about the franchise. I did not know much about them, but my perception was that a franchise would dictate a lot of what I do and how I do it. And once I started investigating, I actually like the franchise model. And now, I like it even more that I have been a part of it. 

The reason I like it is it gives me a lot of the support network that otherwise I would not have. If I have a question about something, there are other franchisees I can go to and ask them. And somebody always has an answer for me. They help with purchasing. They negotiate national contracts, so I don't have to. There is a lot more negotiating power when you do the franchise. 

From the back-office support, anywhere between constructing a website and doing national promotions, all of those things become a lot easier and more cost-effective when you share the cross, 144 franchisees or however many we have right now.


Jeff: And we've heard similar explanations given from others who also elected to go the franchise route and simply because you have that tremendous support mechanism. You've got it not only in support from, the quality of support you get from corporate but also in the quantity of support, the number of individuals who are there to help you out along the way and in that chain.

When you were ready to get started with the buying process, which professionals did you consult during the process who ended up being most helpful to you?

Mike: I think when I started out, a lot of the background work I've done myself. Once I did not go through a broker directly, I kind of looked online. I contacted a couple of brokers initially, and none of them ended up being exceptionally useful. But when I found this franchise, the main thing was an accountant and a lawyer. Those are the two professionals who helped me go through the steps of the process as well as the validation process.


Jeff: Is that something that you would advise other potential business buyers to do in terms of taking the steps that you did in order to ensure a smooth process?

Mike: Absolutely. I think due diligence is extremely important, and both a CPA and a lawyer, the two primary people who would help with the process.


Jeff: Mike, how long did the process take, the entire buying process?

Mike: It took us about seven months, from the time that I found this business, which was in about April, and we ended up closing at the end of the year, which was more of a convenient thing because the calendar year and fiscal year align. So it was easier. We could probably close a little sooner.

I thought we could do it a little quicker. My expectation was probably three to four months to close, but it took longer. Due diligence took a little longer. Financing took a little longer. Basically, everything took a little longer than I thought it would, but it didn't take too much longer. 


Jeff: Did the people that you worked with and the seller of the company too, were there any concerns or was there anything that they thought could actually contribute to the length of time before things were done, maybe some things that were just entirely out of your control that nobody really expected?

Mike: No, I don't think so. I think everything was... And again, not that it was really delayed. Most things took about as long as they should take. From my perspective, I expected to see a lot more data. I'm a very mathematical person, so I kept asking for more data. 

The previous ownership I think they were running business more by the field than data-driven. And when I asked for data that seemed obvious to me, they just did not have it ready. So it took a little time for them to dig up the data when they could find it. And then it would take for me some more time to analyze what they actually provided.


Jeff: And by the way, Mike, one thing I should probably point to those people who have listened to "Deal Talk" for some time, we've mentioned this before, the fact that it is very common to run into the situation that you yourself found out in working with the previous owner that most business owners do kind of operate that way. 

To say it's “by the seat of your pants” is not accurate, but it is certainly one of those things where you said yourself, “more by feel.” Where the data is not always the most important thing, the analytics of it all. Those types of things oftentimes end up following well down the line, and they present themselves in that due diligence. 

And I'd like to camp out on that for just a second, talking about the due diligence, and we've already touched on that just a little bit. As far as the due diligence process itself, were there any significant challenges that you came across that maybe you didn't necessarily expect and that you feel now, as a business owner yourself, you will be better prepared for, so that when you get ready to sell, whenever that might be, that you'll be able to avoid those issues yourself in your next business transaction?

Mike: There was nothing very difficult, there was nothing critical; otherwise, we probably would not be able to close. But I feel like if our seller took a little longer to dig through data that they have and prepare it... For example, because this is a franchise and there are specific territories that I have to buy, one of the questions that I had, “how much business do you do in each one of your territories?” 

And to answer this question probably took about a month and a half because they did not have the data structured in a way that this was easy to calculate or easy to extract. Now that I own this business, because of the way I maintain my data, I can give you that answer probably within five minutes. 

And to them, it wasn't very important because the way their territories were, they've had it forever, and they probably did not care very much. But as a buyer, I care because I needed to figure out which territory I should assume, which territories I should not assume, does it make sense the way the territories I'm going to structure, do I need to negotiate something with the franchise master. That probably took the longest just because the data wasn't there and it wasn't available.


Jeff: We're talking with Mike Rabinovich. He is the new owner of the Miracle Method franchise in Portland, Oregon. And we're talking to him about his experience in purchasing this company. In fact, from a former "Deal Talk" guest who also ran it very successfully, by the way, Mr. Dan Ness. And we've heard that Dan has quite a name in that business and with that company. He'd been with them for such a long time. And now Mike, of course, doing very well there himself. Our conversation with Mike will continue when "Deal Talk" resumes right after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on the future edition of "Deal Talk." Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message, include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com. 
Selling your business may be the most important business transaction you'll ever undertake, so don't go it alone. Work with an organization that has made it their business to sell businesses, and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield, we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way, from helping you plan your exit strategy, to preparing a comprehensive appraisal and locating the right buyers. 

Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.

If you have any questions about any of the topics you've heard us discuss here on "Deal Talk," or if you would simply like to give us your feedback, we'd love to hear from you, all you have to do is send us an email to dealtalk@morganandwestfield.com. Once again that's dealtalk@morganandwestfield.com. You can also make a phone call and leave us a message at 888-693-7834. Again, that's 888-693-7834 extension 350.

My name is Jeff Allen, pleased to be joined on this edition of "Deal Talk" by Mr. Mike Rabinovich, and he is the owner of the Miracle Method franchise in Portland, Oregon. And we're talking a little bit about his experience buying a business. 

You've heard us talk on this show to a number of experts, people who are in the business of helping individuals buy companies, and they had been able to share with us what goes through a business owner's mind and what they're looking for. Well, now we're getting it from a truly first-person's perspective here, Mike as the business owner, what it was that he went through, what it was that he was thinking, what was important to him. And he's sharing with us the experience.

Right now, Mike, what I'd like to do is I'd really be interested in talking to you about the people, the human element, the folks in the background who do a lot of the work for the company. Those are the folks who get out into the trucks and the cars. They go out in their vehicles, they go out into the field, they do the work. You obviously had a chance to gauge the employees’ reactions when they found out that you were the new owner of the business. Just give us a glimpse into what that was like from your eyes, seeing their reactions, what those reactions were, and how you were able to deal with them.

Mike: I would say the reaction was definitely mixed. I would say from the technicians' perspective, the guys who actually go and do the work, they probably have a little bit less of a reaction because they knew that they were the ones delivering work, and there would probably not be a huge change for them.

Office personnel knew there would be a big change for them, and some of them were excited, and some of them were scared. So that was essentially the mix of people. We had a general manager who was here for, I think, 25 or 27 years with the previous owner, and she was probably the one that was the most nervous about changes because she had just been used to running the business in a specific way. The rest of the people in the office seemed more excited about the changes than were nervous about them.


Jeff: And that obviously makes you feel, I think and correct me if I'm wrong, Mike, a little bit more comfortable because you have to do a little bit less, say, coddling or maybe you don't need to provide as much assurance as some individuals might where they have an environment where all of the employees, all the staff members are really concerned and really feel badly about the changes that are taking place. And let's face it, sometimes you hear some of those stories. There is such a change in culture from one owner to the next. But here you are, you walk into a situation where you were able to take and you were able to bring people into the fold and make them feel comfortable.

Let me ask you then now, Mike, we've had a chance to go through, the business has changed hands, you've been at it now for several months and with this particular location. Let's find out how you're performing and how you're doing based on what you've been able to see so far from the numbers and from the business that you've been able to bring in. How is Miracle Method Portland performing now?

Mike: We've been doing extremely well. It's been just over a year, in fact, it's been 13 months since I bought it. Last year, our revenue increased by 47% compared with the year before. It was significant. Our net has basically doubled. 


Jeff: Wow, unbelievable. And so you've really got to be feeling tremendously confident about your operation, and the corporate office has got to be pleased with how everything's going as well.

Mike: Oh yeah, absolutely. I'm very happy with the way things worked out. It exceeded my expectations. I expected we would grow, and I expected we would find some cost savings. It just ended up being much better than I even projected.

When you own a small business, your employees or your team members really look up to you, and you need to be able to connect to them. You need to make sure that they're comfortable with you. That's the only way that they're going to perform well. That's the only way that they're going to give their best to work on your business.

Jeff: Do you essentially have the same number of people, the same number of personnel on board now that you had when you first started? Or have you been able to grow the team at all to this point, or is that still in the works?

Mike: We grew the team a little bit. We added a few people. When I took over, I have 13 employees and we're up to 17 right now. And we're always hiring. As we are growing, and I know this year I'm projecting another 20% to 25% growth. I need to hire more employees, both office employees as well as technicians.


Jeff: This is outstanding. Congratulations so far on the early returns. It just sounds like everything has been working very, very favorably for you, Mike Rabinovich. Would you consider that by now, it's been about 13 months, you say. Is this still a transition period for the business, or right now the business has its legs underneath it, you're in full control, and you consider this pretty much in its new evolutionary phase, and the transition period is all entirely over with?

Mike: I don't think the transition period is over yet. I think we have picked a lot of low-hanging fruits in the way of business improvement, but it's not fully running the way I like it to run. And there are quite a few changes that are forthcoming that will alter the business pretty significantly. So probably by the end of this year is when I would consider the transition phase complete.


Jeff: What are your goals, what are your objectives, what kinds of improvements are you looking to make?

Mike: Both from a sales perspective, I'm looking at essentially more growth and specifically targeting a few of the sectors that have been underdeveloped, specifically hospitals is one place where we haven't done as much work as we should, and so is universities. 

Then from a quality perspective, we're looking to improve our quality, which has been really good compared to our competition, but there are a few changes that need to be made operationally to make it even better. And as well as software, we are looking to replace our existing software system in the next couple of months. And that will give us quite a few tools for customer relationship management as well as cloud to track in as well as purchasing.


Jeff: Mike Rabinovich is the owner of the Portland area franchise of Miracle Method. Is there anything that you can offer in the form of advice to either business sellers or business buyers that would allow them with their transactions, no matter what kind of business or industries that they're involved in, to help them make the transition process go more smoothly? You've had a chance to participate in it. You've lived it. Is there anything at all that people can do to ensure that the transition moves as smoothly as it possibly can to help both the buyer and seller reach their goals?

Mike: I would say spend as much time as you need for due diligence. Bring in people who you trust to help you review documents, review numbers, review contracts, talk to customers, talk to suppliers. Spend time on that because the more time you spend doing that, the easier it is going to be to run the business once you actually take it over.


Jeff: Mike, I'd also like to ask you too, if you could, because you're such a down-to-earth-sounding guy. We haven't met face to face, but I can tell just by chatting with you that you're a pretty reasonable guy to deal with and easygoing as it can be for a business owner to be that way. 

Are there any characteristics or traits that you can think of, or any particular qualities in general terms, that a business buyer should have when they get ready to engage in the process of buying their own business? Maybe it's for the first time, as a matter of fact. What should business owners have inside them to help them get through the process smoothly and get to where they want to go?

Mike: I think a big part, from a personality perspective, is the ability to connect with your employees. Most business buyers, so this is their first business, they probably have been managers or organizational leaders of some sort before, but they were never the only ones making decisions. When you own a small business, your employees or your team members really look up to you, and you need to be able to connect to them. You need to make sure that they're comfortable with you. That's the only way that they're going to perform well. That's the only way that they're going to give their best to work on your business.


Jeff: This has just been an absolutely fascinating conversation. I've really enjoyed it a lot, Mike, and I appreciate you taking the time. And what I'd like to do now is offer you the opportunity to provide your contact information for those people who obviously would like to do some business with you and would like you to come on out and take a look at what they have, to find out about how Miracle Method can help resurface and bring back to life maybe a counter top, or a tub, or any other surfaces, maybe floor or whatever they have in their business or their residence, number one. 

And number two, if you don't mind also sharing your number for those business owners or those people who are looking to buy a business who might want to just tickle your brain a little bit to get some information from you, some of your input in terms of expertise that you now have as a business buyer to help them in case they might be looking for tips on how to buy a business themselves.

Mike: Absolutely. They can always call us at 503-256-3405. I'm mostly in the office, and if I'm not, the office staff will always relay a message to me. Or they can email at portland@miraclemethod.com.


Jeff: Very good. Again, Mike Rabinovich, I appreciate all of your time, really a great story, and I thank you so much for taking time out of your busy day today to talk with us a little bit about your experience and just share your expertise as a business buyer. And I do wish you much success with your location there in Miracle Method in Portland and continued success.

Mike: Thank you so much, Jeff. Thank you for having me.


Jeff: That's Mike Rabinovich. He is the owner/operator of Miracle Method, the franchise located in Portland, Oregon. Again, I hope that you enjoyed the conversation. It really is nice to talk to the business owners themselves, to learn about what it was that they went through, what they were thinking, and the process and how they saw it, and now how they're getting along and how their companies are doing. 

And speaking of how companies are doing, let us know how we're doing. Again, we'd love to hear from you and hear from you more often. Send us comments, compliments, and criticisms to dealtalk@morganandwestfield.com. 

"Deal Talk" is brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com or by calling 888-693-7834. I'm Jeff Allen, again, thanks so much for listening. Here's to your success.

While we take reasonable care to select recognized experts for our podcasts, please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • There are three types of intellectual property: patents, copyrights, trademarks and trade secrets.
  • Trademarks are different from patents and copyrights; you don't own a trademark — you own the right to use it in connection with your goods and services. 
  • Primary areas that business owners often overlook include tribal knowledge, digital assets and social media accounts.
  • To do determine the value of your intellectual property, you look at the market, how that intellectual property fits into your business and how you monetize your intellectual property.

Read Full Interview

Jeff: Protecting your intellectual property rights. If you want to know why this is important as it pertains to the sale of your company and what steps you need to take to get started, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk," brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.


Jeff: Hello and welcome back to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our vast, growing list of trusted experts worldwide that you and all small business owners can use to help you build your bottom line and improve your company's value. And I think our growing list of trusted experts worldwide has probably grown to about I think 125 experts. We're so glad that they've made us such an important part of what they do. We thank them so much.

Most of us know what intellectual property is. And we all have some of it ourselves. We all own some as part of our businesses. Some of us own way more than others. But not all of us may know exactly how much we have, or in some cases what it is, or why it's so critical, for that matter, to protect our rights to that property. 

If you're listening today to gain a fuller understanding of what your intellectual property rights are and why it's important to protect them when the value of your business is at stake, this show is for you. And to help us kind of understand the ins and outs and why this discussion of intellectual property and the protection of your IP rights is so important is Beverly Berneman, Intellectual Property Partner at Golan & Christie, LLP in Chicago. Beverly, welcome to "Deal Talk," so good to have you.

Beverly: Thank you. Thanks for asking me to be here.


Jeff: For those owners, Beverly, who are considering selling their companies at some point down the line, it doesn't necessarily matter when. Why is it necessary to take particular care to see that your intellectual assets are protected?

Beverly: In this day and age IP assets, intellectual property assets, tend to be the most valuable assets of a business. Let me give you some examples from my own clients. I have a manufacturing client who has unique technology. That technology allows it to stay ahead of its competitor. 

I have a client who's a microbrewery and they draw customers with their catchy names and their proprietary recipes that they keep secret. And another one, I have an author who wrote a book and she's now being courted by a producer who wants to adapt it for a stage play. In each of these cases it's the intellectual property that's the foundation of the business. 


Jeff: I think it's really important here that some of us can kind of see where you're going with this, and you kind of try to crystallize I think for us and very well in some of those examples. What some ideas or examples of intellectual property are. And some of us may already know and have an understanding of the basics here, understanding that you're not a valuation consultant, Beverly. How much might our intellectual property contribute to the value of our business?

Beverly: Value is really a combination of things. And as you pointed out I'm not a valuation expert, so I don't go in and tell you how much it's worth. But I can tell you that in terms of what it means to your business, in terms of that value first you look at the market. Is there a market for your great idea, for your invention, for your service. Because if customers aren't going to call, if nobody wants your services, your IP is not going to have any value.

The second is to look at how that intellectual property Fits into your business. You have to know what place it has, otherwise it's not going to have value. And the third is how you monetize your intellectual property. And for this I think I can come up with an example that will really show how this works. 

If you have a franchise, say your McDonald's, you're licensing trademarks, you're licensing recipes, you're licensing the process of how you run the restaurant, how it looks, and so on and so forth. And in return you receive royalties and licensees. So what McDonald's has done is taken all of its intellectual property and monetized it in terms of licensees. So you take all of these things and that's what creates the value.

Protecting your intellectual property assets should not be a matter of dollars and cents, because it's not cost-effective to allow your intellectual property assets to go unprotected.

Jeff: Talking with Beverly Berneman, she's the Intellectual Property Partner at Golan & Christie, LLP in Chicago. I'm so glad that she's managed to kind of carve out some time during her day to talk to us about intellectual property rights. When we talk about rights, Beverly, what are those rights actually? What does that mean to us? Is it different for everyone in terms of the rights that we have to our intellectual property? What kind of rights do we actually have?

Beverly: That's a really good question, and it can be confusing. Let me approach this by type of intellectual property. Let's first talk about patents. Patents are a right to exclude. So it's really more like a monopoly than a property right that we might be used to. You can own real estate, you can own a car, but you don't really own a patent. All you do is own the right to exclude others from using it. So let me give you an example.

If I patent the cure for say the Zika virus. I don't actually have to use it, but I can exclude other people from using it. The patent process warning here or caveat is it can be very time- and money-consuming, so we don't enter into it lightly. For instance, fees can, I'm not going to try to quote fees for other attorneys, but you could expect to spend anywhere from $10,000 to $150,000 for a patent. And it can take anywhere from three to five years.

By the way, speaking of chores, Jonas Salk refused to patent the cure for polio. He wanted to make sure it was available to everyone who needed it. Sometimes the altruistic business model can come into play as well. 

Going on to copyrights, copyrights are rights in the authorship of a work that sticks to an intangible means of expression. And copyrights come with what we call a bundle of rights or six primary rights. That's the right to reproduce the work, the right to prepare derivative works, the right to distribute copies of the work. In the case of some types of literary, musical, or dramatic works, the right to create audiovisual works, the right to perform the work. And in the case of sound recording, the right to perform the works digitally. 

All of these rights are exclusive to the author and these are more akin to the kind of property rights that we're used to. And one of the interesting things about copyrights is the owner can actually separate up the rights. So the owner of a copyright can license the right to copy and distribute the work to one licensee and the right to perform the work to a different licensee.

Trademarks, Jeff, you made a really good point about the “Golden Arches,” and the trademark, and the fact that it's a source or product identifier. Trademarks again are different from patents and copyrights because they are really a creature of consumer protection. You don't own a trademark, you own the right to use it in connection with your goods or services. 

Sometimes I get a call from a potential client saying, "I got the slogan I really like and I want to trademark it." And then I'll ask them what product or service is it connected with and they'll say, "Well, no product or service. I just like it and I want it to be mine." Trademarks don't work that way. You also can't adopt a trademark that's going to cause confusion as to the source of sponsorship of your goods or services.

And the fourth primary type of intellectual property are trade secrets. That's something that's not generally known or easily ascertainable, and that it is such a reasonable measure of secrecy. Trade secrets are sort of a late comer to the IP world. Patents and copyrights are actually covered in our Constitution. Trademarks have been around for hundreds of years, although the statute that protects them here in the U.S. wasn't passed until the 1940s, that's the Lanham Act. But trade secrets sort of came into their own in the mid- to late-20th century. And they are covered usually by state law. 

However, as of May of this year the Defend Trade Secrets Act was passed. Now there's a federal cause of action for protecting trade secrets. To give you an idea of what trade secrets are, I'm going to name some famous ones. The Coca-Cola recipe is one, although people say it's not really a protected trade secret. However, recently two employees of Coca-Cola tried to sell the formula to Pepsi, and you got to give Pepsi credit, they called Coke and said, "Guess what, somebody's trying to sell us your trade secret."

Some of the interesting ones are Google's proprietary search algorithm, WD40, some of my favorite comfort food: Mrs. Fields' Chocolate Chip Cookie recipe and the Twinkies recipe.


Jeff: That's actually some of my favorite comfort foods as well, Beverly. Well done.

Beverly: And my favorite one, because I didn't know those until I started doing research into trade secrets, The New York Times Best Seller List, the methodology for figuring out which are their best sellers for their list, that's a trade secret. Nobody knows exactly how they do that except for The New York Times.


Jeff: So what you're trying to say is that maybe The New York Times Best Seller List is actually not a list of best sellers based on volumes sold or number of books sold, but they could be best sellers, in fact, after The New York Times puts the fact that they are on The New York Times Best Seller List and make that public. Then the sales actually start to shoot up. I see how that works.

Beverly: That could be. And there could also be something else in there, evaluating who buys the book, how many libraries buy the book. There could be all kinds of variables that they use to create the list.


Jeff: That's why it's a trade secret. Exactly.

You can own real estate, you can own a car, but you don't really own a patent. All you do is own the right to exclude others from using it.

Beverly: Yeah, that's why it's a trade secret. Keep in mind that all of these types of protection I talked about are for the U.S. only. If your business has an international component there are ways to get cross boarder protection. But there's no system of protection that's going to give you global coverage.


Jeff: I'm just kind of wondering, many business owners have a trademark, or a logo perhaps, or a service mark that they have not registered, and we know this by the little R with a circle around it. It's kind of something that you have to do through a federal office. But how much protection if any do we have, Beverly, as business owners if we don't in fact register that trademark with the federal government?

Beverly: Certainly there are some famous trademarks that have not been federally registered. I think Scrabble is one. You just see a TM on there. But that just says that you're claiming common law rights. And to me this is sort of a last resort if you don't think you can get registration. Should someone begin using a confusingly similar mark and thereby confusing your customers or your clients, your remedies are going to be limited to adjunctive release and national damages. 

That's why wherever possible I recommend federally registering your trademark. Not only does it become  proof of your rights, it gives you an arsenal of remedies that you wouldn't have otherwise. So you'll get your adjunctive relief in damages but you can also get the defendant's profits. And in some cases you can even get your attorney's fees. So that's very valuable.

And there's one other advantage, and that is if you have registered your mark for more than five years, you can have the mark declared incontestable. And what that means is it limits a defendant's ability to challenge your trademark. For instance, somebody's using a confusingly similar trademark. You sue them and they say, "Your mark is merely descriptive so it shouldn't have been registered in the first place." If it is an incontestable trademark the defendant does not have that defense any longer. So that can be really, really valuable.


Jeff: What is that contingent on? You said five years.

Beverly: Right. You still have to be using it because, as I said, a trademark is based on you. There is a way to protect a trademark that is not already in use, but say you're in product development and you've come up with a very catchy logo design, and you're afraid your competitors knew about this logo design. They might to try to jump in and take it away from you, try to register it out from under you. While you're in development you can file something with the USPTO that's called an Intent to Use Application. And basically it's exactly what it sounds like, I intend to use this at some point in the future within three years, but I'm not ready to use it yet. I want to have that placeholder for it. 

So the trademark is going to go through the same vetting process with an examining attorney at the USPTO that a U.S.-based application would. But then they wait for you to file a statement of use. And then once you file the statement of use it relates back to your original date of application. So you've gotten priority in the use of that logo design and you've protected it. For the most part, however, getting your protection you have to use the mark. If you don't use it for three or more years, the law presumes that you've abandoned it. There are some exceptions and there are ways to prove to get around that. But that is a presumption and you got to be careful of it. 


Jeff: Fascinating stuff and very important. Beverly Berneman is joining us and she is an Intellectual Property Partner at Golan & Christie, LLP in Chicago. We're talking about intellectual property rights and really why it is so important that you get your arms around your intellectual property. You have an understanding of what it is, all that you own, and what you need to do to protect it, to protect yourself, protect your business, and protect your business's value. Why is that important? Well, because when you go on to sell your business, obviously, you want to get as much as you can out of it. But if there are any issues with your property, intellectual property that is, you could be leaving a lot of money on the table, and you could actually be costing yourself quite a bit of money down the line.

My name is Jeff Allen. Beverly Berneman will be back to join me once again as we continue our discussion on intellectual property rights when "Deal Talk" continues right after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on a future edition of "Deal Talk." Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com


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Jeff: Don't forget, you can listen to "Deal Talk" on any one of four channels. You can hear it on iTunes, Stitcher and Libsyn. Stitcher and Libsyn, two of the largest independent podcast hosting sites in the world. But by listening to "Deal Talk" on morganandwestfield.com's podcasting channel, the "Deal Talk" channel, you can also receive the full show notes right as you listen. And you can even download those and save them to your device so that you can review them later on. Once again, the show notes available on the "Deal Talk" podcast page at morganandwestfield.com.

My name is Jeff Allen with special guest Beverly Berneman, our expert today talking to us about the importance of protecting your intellectual property rights with your company. Beverly, we talked about some examples of intellectual property, many of them common and that we have seen throughout the course of our daily existence as consumers. But as business owners, give us some ideas of some other types of intellectual property that we may in fact own, or maybe we haven't given much thought to with respect to our own business.

Beverly: I want to go back to trade secrets, because I think that that's sort of an unsung hero of intellectual property. Just a short story, a client of mine long ago, a long-time client. When I first started with them I went for a site visit to their plant. They took me on a tour, they showed me their inventory of patents and trademarks. And what I realized as I was walking through the plant was that a lot of what my tour guide was telling me was about their tribal knowledge and their proprietary technology that didn't rise to the level of a patent. 

And then when I talked to the CFO and the CEO when I debriefed after my tour I said, "You guys have a lot trade secrets here. We’ve got to properly protect them." They were surprised. And what we did was we had a contest and let employees of the company identify trade secrets. And last count we came up with 28 separate secrets that are now being properly protected. You may not know that your tribal knowledge is protectable, is proprietary. And so that's an area that I think really every company, every organization should be looking at. 

Second is the digital assets, such as websites, how they look and feel. They can be protected perhaps as trade trust. And domain names, very important in terms of how they're properly protected. A third is your social media. Virtually every merger and acquisitions case matter that I worked on in the last several years we've had to look at and transfer social media accounts.

These are three primary areas that I think people don't often look at and understand that they have value and rights, and should pay attention to them.


Jeff: I appreciate you bringing those things up, very, very important. Now, I'm just kind of wondering then, let's say I am preparing to sell my business and I'm just kind of wondering if there is any difference in the way my company's intellectual property rights should be protected when considering an asset sale versus, for example, a stock sale.

Beverly: The most important issue is proper due diligence, always. You have to know who owns the intellectual property. For instance, I just recently had a situation. A company was selling its assets. When I did the due diligence I found out that the domain names were actually owned by an individual who used to work for the company. That individual was summarily fired years before for reasons that you would probably imagine, and was long gone. But now we have to trace that person down and we had to try to get past the bad blood to get an assignment from that person, and it wasn't pretty. That's an area where due diligence, it could've cost the company the whole sale if the domain name didn't go along with the company.

Another thing to look at is are your federal registrations up to date? Because both patents and trademarks require regular filings to maintain their status. Another thing to look at is are proper measures and secrecy in place for your trade secrets? Again, when somebody knows about your trade secret it's not a trade secret anymore and it can lose value, and it could taint the deal. Whether it's an asset sale, or a stock purchase, or venture capital, any of these sorts of things, it could be a real problem. 

And the final thing is to make sure that there are no liens on the assets. There are different ways to attach liens to different types of intellectual property, so the due diligence in this area you really need to have somebody who understands how they all work in order to make sure that there are no liens.


Jeff: And I would imagine that, Beverly, you would probably agree and state with a certain degree of authority on this that you really do have to contact an attorney who likely does specialize in this somehow, someway, or an attorney if you've got your own business attorney already and they may not necessarily specialize in this area, that you need to somehow try to find out if they can refer you to one. Is that correct?

Beverly: That's correct. Because the intellectual property practice has some really unique aspects. One of my partners always says that I make up the rules. Every time he comes and asks me a question it sounds like I'm making up the rules. But his practice doesn't touch this area, so he doesn't quite understand it, but he knows enough to know when his client has an intellectual property problem that I'm the one that should be talking to the client. As you could see from the things that we've been talking about, all of these different rules and how to navigate the protections and the proper registrations, and how to navigate the due diligence, all of those things, an intellectual expert … well, maybe not an expert but an attorney whose practice is emphasized in intellectual property is the proper person to talk to.


Jeff: Would that individual also be the first person that you would recommend that we get in touch with in order to simply identify all of the intellectual assets that we might have so that we don't forget any? Or is that something that we're capable of doing on our own before we call the attorney?

Beverly: An attorney can really hold your hand and walk you through the process of due diligence. When I was talking about due diligence I don't go into the client's headquarters or plant and do the leg work myself, but I ask the right questions and that can be done in-house, that actual leg work to answer my questions. 

But I as an intellectual property attorney, I know how to determine whether or not this particular asset is properly protected, whether there are any liens on it, whether you've gotten the assignments from the inventors, which is really important in patents, and all of those things. You really need an intellectual property attorney to help you. 


Jeff: In terms of cost on this, and I know it's different for every situation, I understand that, but it seems to me that maybe some business owners don't want to get involved with attorneys in protecting their intellectual property, because, number one, they don't have a clear grasp of what kind of intellectual property they own. Number two, they're not aware of their intellectual property rights. And number three, when they hear the word attorney they're thinking a bunch of money. Not only do I have to pay my attorney but I'm also going to have to pay for whatever kinds of filings are involved here.

In terms of cost and time that it takes to protect ourselves once we have a pretty clear understanding of all of the intellectual assets that we own, what are we looking at here? Are we looking at potentially hundreds of thousands of dollars, or is it something that is probably a little bit more manageable and somewhere kind of in between where we think we might be, and how much we'd love to pay if we knew that we could get away with it?

Beverly: There's two sides to this coin here. The first is protecting your intellectual property assets should not be a matter of dollars and cents because it's not cost-effective to allow your intellectual property assets to go unprotected.


Jeff: Boy, isn't that for sure. Yeah.

Wherever possible I recommend federally registering your trademark. Not only does it become proof of your rights, it gives you an arsenal of remedies that you wouldn't have otherwise.

Beverly: It's way more expensive to not protect it than it is to protect it. For instance, again just from my own practice, I had a client who was basically a software architect and he went into business with three other people. So there's four people altogether. He was the brains. He was the one who created the software and the other three were the money people. And they went into it without any attorneys helping them create their LLC and their operating agreement. And when they had a falling out, my client wanted to leave and they wanted to stop him from taking the software with him. 

And so they brought suit against him and we were in litigation about who owned the intellectual property as well as what was the deal, how people were going to get paid, and so on and so forth. It really affected the business because they were so focused on fighting with each other that they actually couldn't operate the business at all. 

And in the end the litigation costs were way higher than they would've been had they contacted counsel at the beginning, negotiated an operating agreement, because this was a limited liability company, negotiated an operating agreement that made it clear who owned what and how much people were entitled to. And in the end the business had to shut down and everybody had to go their separate ways.

There's a good example of how if it crossed your company, whereas if you had just started at the beginning with counsel these issues can come up but at least you have a road map for how to deal with them. And I should let you know, it's really important to me that my clients protect their IPSS, so I'm very flexible on my fee arrangements with my clients. I try to really help them with affording me. Because I don't want to be a drain on their resources; I want to help build their resources. And I know that there's a lot of other attorneys out there who are just like me.


Jeff: Beverly, I can't thank you enough for your candidness and really sharing that horror story in real life because it actually did happen and it's just an example right there that had certain conditions been met had they protected their intellectual property rights in the beginning. Maybe those friendships wouldn't have dissolved, maybe the company might still be in business. And look at all of the money, and all of the promise, and all the dreams that were broken that went along with that, and it's just not worth it. 

For so many of us our business is such an important part of our lives, it's almost like an appendage, it's part of us. It just doesn't make sense to take and put intellectual property rights and your protection of those rights on the back burner thinking that you're covered, thinking that nothing will happen. Because as soon as you develop that weak mindset stuff happens and it can really impact not just your ability to sell your company but your ability to continue to stay in business at all. And I want to thank you so much for all of your time today.

If someone should in our audience be interested in contacting you about their particular situation about looking into their intellectual property rights and helping them protect those rights, how can they contact you?

Beverly: They contact me by email. That's the best way, at baberneman@golanchristie.com. I'm always happy to field questions. Of course I can't give advice until I'm retained, but I can certainly field questions. I also have a weekly blog called IP News for Business. It's accessible under the knowledge tab on the Golan & Christie website. And you can follow me on Twitter @IPBevB.


Jeff: Beverly, just a wealth of information and so good to talk to you. It's been very, very pleasant. We sure do appreciate your time. Thank you so much for joining us today on "Deal Talk." 

Beverly: And thank you for having me.


Jeff: That's Beverly Berneman. There she goes. She is Intellectual Property Partner, Golan & Christie, LLP in Chicago, such a treat to have join us and really just a fount of information. I hope you got a lot out of it.

Let us know how we're doing, won't you? We'd love to hear more from you. Send us your comments, compliments and, yes, you can even send your criticisms to us at dealtalk@morganandwestfield.com. "Deal Talk" is brought to you by Morgan & Westfield, a nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. That's morganandwestfield.com, or by calling 888-693-7834. I'm Jeff Allen, until next time, here's to your success.

While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • With the financial collapse, small business owners have a more difficult time getting a loan from a bank, which makes alternative methods for lending necessary.
  • The top alternative for lending is ABL lending, asset-based lending, which uses the business’s inventory as collateral.
  • Factoring allows business owners to solve their cash flow problems and regain some traction so they can move forward and grow the business while waiting for receipts from customers to come in. 
  • When considering alternative sources of lending, a business owner should have thorough knowledge of stand-alone accounts receivable and purchase order funding in order to determine if factoring would be a good fit for their particular cash flow issues.  

Read Full Interview

Jeff: Still struggling with cash flow problems? Well, if you're looking for different ideas on how to deal with this global accounting epidemic, that's what I'd like to call it, then you've come to the right place.
 
From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk," brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.
 
Jeff: Hello and welcome to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.
 
Cash flow, we've talked about it on the program before. And cash flow as you know is something that you and many business owners, in fact, I would say probably most small business owners would have to deal with at some point in time. Today on the program I have somebody who is going to provide us with some different ideas on how to deal with your cash flow issues. And these are some things that we haven't talked about in the past. 
 
And to help us do that, I'd like to welcome in a gentleman by the name of Mr. Donald Jacobs. He is Senior Vice President of Business Development at Midland American Capital. Don Jacobs, welcome to the program. It's nice to have you on "Deal Talk," sir.
 
Donald: Thank you, Jeff. 
 

The easiest choice and the most traditional way for a small business to get capital is to go to a bank. The problem is that banks have gone through a dramatic change in the last 12 years since the financial collapse, and they don't necessarily have the ability at the present time to lend out as much money as they previously had in the past.


Jeff: Don, when I contacted you about joining us on this program, we spoke about ways to deal with cash flow that are kind of unique. But these, according to what you've told me, are not necessarily new ideas. Before we get into it I was wondering if you might be able to take just a minute though to kind of talk a little bit about yourself, who you are, and where Midland America Capital is, and what you guys do over there.
 
Donald: Midland Capital handles United States and Canada. We are a factoring alternative lending company, which means that we offer two core services. We offer accounts receivable funding. And then we do a combined purchase order/supplier funding, combined with accounts receivable so that if you needed help getting goods from China or across the street to pay for the supply for an order that you're fulfilling, we will be able to pay for 100% of those goods.
 


Jeff: We're going to get into the nitty gritty on these here in just a moment. But first of all I kind of want to hear from you, Don. Many businesses we've talked about on the program before deal with cash flow issues, regular basis, but business owners may decide not to seek funding through bank loans, etc. Instead they might opt to drive improved sales, get out there and pound the pavement. We just got to generate more sales, generate more revenue rather than incur more debt. Is this a sound approach to take, and if not why not?
 
Donald: In most situations what happens is a small business owner needs to grow his business and he needs capital to do it. So he has a relationship with the bank. He has a DDA account or a business checking account with the bank. And he goes to his business officer and he says, "Hey, I would like to get a loan." 
 
And the bank after the financial crisis has gone through some major changes where in the past he may have been able to get a $50,000, $100,000, $300,000 line of credit, or a term loan that he could use as collateral to grow his business. 
 
But with the world changing so dramatically after the World Trade Center and the financial collapse, banks have a very difficult time lending money now. You have reserved requirements have increased, their compliance requirements have increased, and it's very difficult for them to lend out money. So it may be that the business owner needed $100,000 and the bank is willing to give them $25,000. The $25,000 may not be enough for him to grow his business properly.
 


Jeff: I was just going to say, Don, I don't mean to jump in here and interrupt. But it would seem to me that this would be one of those things that for small business owners in particular this would be a particularly difficult problem for them to deal with when it comes to changed qualification procedures and processes in place with the banks, making it more difficult for them to get money. Would that be true?
 
Donald: What has happened is exactly that, Jeff. And that banks used to lend out X amount of money for loans. And they basically chop that into half so the amount of money that the bank is lending out is half the amount that they gave previous to the financial collapse. 
 
So, alternative lenders have come up to step in and say hey, the fact that it's not going to lend you money there are other alternatives out there so that you can get money to grow your business. The problem is is that a lot of small business owners aren't aware of the many alternatives that are out there.
 


Jeff: Let's talk about the different sources of funding that are available in most cases right now to most people. And all they would have to do is go to Google or make a couple of calls to their accountant, or maybe even possibly an attorney or another business consultant that they might know and they'd be turned on to all these different sources and maybe some key contacts at these sources. 
 
Let's talk about those first of all. If you will kind of a ranking order or a hierarchy, or maybe even call it a pecking order of those types of institutions or firms that provide capital. And maybe you could kind of tell us where they all kind of line up. 
 
Donald: The path of least resistance that you see for most business owners is to go to the local bank and see if they can get a business loan. So a bank would look at their financials, would look at the FICO Score for the business, the FICO Score of their owner. And based on historical records, the last two years the profitability of the company, they would decide whether that should be green-lighted or was a loan they couldn't do.
 
They couldn't go to the bank. There are SBA programs which is a hybrid loan. So 50% of it is a government loan, and 50% of it is through the bank. So there are certain requirements that are structured in order for it to qualify as an SBA loan. And then there are certain economic loans that are out there, but most of the economic development loans are geared up and how many people that you would hire. And a lot of it is geared up to real estate type loans.
 
So taking that type of loan structure aside then you would get into alternative lending. The top of the hierarchy for alternative lending is ABL Lending, asset-based lending. Asset-based lending is using your inventory as collateral so that if something were to happen they have your inventory that they could take to compensate and reduce the risk so they wouldn't take a total hit if the loan went bad.
 
Then there's factoring. Factoring uses the invoice as collateral. So it's a different kind of structure than the ABL lending, which takes the inventory. Then there would be ACH lending, which is automatic clearing house where they reduce their risk by taking the money out of your account automatically on a daily basis. It's electronically transferred so you make the payments on a daily basis as long as your account is operating. 
 
And then the last choice would be hard money. And hard money in many situations they would say, "Hey, make 12 payments, make 12 checks out, sign them, and pre-date them per month, and I'm going to cash those checks. If one of those checks bounce, you're going to be hearing from my lawyer." So those are basically all the terms that are out there.
 


Jeff: Donald Jacobs is Senior Vice President of Business Development at Midland American Capital. You're hearing his conversation with me, Jeff Allen, right here on "Deal Talk." We're talking about alternative ways to deal with the cash flow issue that you might be facing. 
 
Donald, in all of those scenarios or with all of those choices we just talked about, the traditional and the alternative choices, where do most business owners do you think tend to gravitate? Or to what do they gravitate toward to help them of all of those choices that we just talked about?
 
Donald: The easiest choice and the most traditional way for a small business to get capital is to go to a bank. The problem is that banks have gone through a dramatic change in the last 12 years since the financial collapse, and they don't necessarily have the ability at the present time to lend out as much money as they previously had in the past. 
 
But that's normally the path of least resistance. The problem is that in this economy that is so sluggish, lots of businesses don't show profitability. So if you don't show profitability, the bank is not going to say yes, so what do those businesses that are breaking even or making a small amount of money do? And when they get a big order that comes in and they can grow their business, do they have to pass it up, or are there other alternatives for them to gathering money?
 


Jeff: And that's where we're going to go ahead and we're going to now make that transition in this conversation Don, and we're going to talk about something that I know that you know a lot about. And we're going to key in on one particular source of alternative funding, or maybe it's a process of alternative funding that we'll be learning about for the first time. 
 
The alternative out there that many people may not be aware of but that could prove very fruitful to them does have to do with this factoring methodology that you've talked about. First of all, tell us what factoring is and how long it's been around, and why it's worked so well?
 
Donald: Factoring has been around for a very long time. It started really in the 18th century, ancient Roman times that merchants used it. It's a guaranteed trade credits. So Rome was shipping to Egypt, and they needed some type of funding for it to go on to the boat and to pay for it for that long passageway from Rome to Egypt. So factoring really started that way.
 
And then it really took over the medieval times and Europe. They really took hold and became a very popular form of lending. And currently if we're going to the time chart, the number one country when it comes to the most amount of factoring done in the world happens to be China. And the second country would be the United States. But if you combined all the European countries together, probably European block there's more than the United States. It's about a 3 trillion dollar industry. 
 
And in 2015, believe it or not, it was at an all-time high. So the most amount of factoring ever done was done last year. And I would imagine that this year we'll probably have 15%-20% growth from there. So it is gaining in popularity even though it's been around for a long time because it's tough to small businesses out there. And the way that the banks really stop lending has created a lot more popularity towards factoring.
 

So the beauty of factoring is that it has a tremendous amount of flexibility. But the biggest advantage of factoring is that there's no real dollar limit.


Jeff: Why do you think that factoring has not grown so much in this country and why is that it's kind of been slow to catch on here?
 
Donald: I don't know if it's slow, but in China there's a tremendous amount of businesses out there that are growing very rapidly. And I think that factoring, just because of the enormous amount of growth... GDP in the United States is somewhere around one- and three-quarters to two percent, where in China even though it has gone down dramatically it's still 4%-5% growth. So the GDP growth is much stronger in China than right now than the United States.
 
So I think it's just more common practice. If you see the amount of factories and the amount of orders that are coming in, many factories don't have enough money in order to fill their orders, so they use factoring instead of going to the bank. An order comes in from an importer in the United States for $300,000 and the factory needs $100,000 in order to produce those goods. It's very easy for them to show, "Hey, I got this purchase order coming in, can you lend me the $100,000? And then when the client pays me I'll pay you back.” It's a very easy way to conduct business.
 


Jeff: We're going to continue our conversation on factoring as a way to deal with your cash flow issues, as a way to solve those problems if only temporarily, but it'll really help you to regain some traction and continue to move forward with your company and grow your business all at the same time while you wait for those receipts from you customers to come in. 
 
My name is Jeff Allen. My guest today is Mr. Donald Jacobs from Midland American Capital. We'll continue our conversation when "Deal Talk" returns right after this.
 
If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on a future edition of "Deal Talk." Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com.


Selling your business may be the most important business transaction you'll ever undertake, so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way, from helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers. 
 
Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.


Are you a professional adviser, accountant, attorney or a wealth manager, or do you provide other professional services? Contact us today to see how our reliance program can help you increase your firm's revenues. Call Morgan & Westfield at 888-693-7834. That's 888-693-7834.
 


Jeff: If you'd like to listen to "Deal Talk" and have something that you can refer to with regard to the content over and over again as you need it, morganandwestfield.com, that's where you can find the complete transcript of this show. And don't forget also too when you're on the road or wherever you'll go, you can also hear this program "Deal Talk" available on iTunes, Stitcher and Libsyn as well.
 
My name is Jeff Allen with my guest today Mr. Donald Jacobs. He is Senior Vice President, Business Development at Midland American Capital. And we're talking about alternative solutions to help you deal with your cash flow issues. And we're talking about the idea of factoring. This is something that Donald knows quite a bit about.
 
Donald, we spoke a little bit. You kind of talked a little bit about what factoring is, how long it's been around, and that it is growing as far as the solution is available to many businesses all across the country through companies in fact like yours, Midland American Capital, for example. But what I'd like to talk to you now is about instances where in fact factoring can be used, the types of businesses or operations that could benefit by factoring, and how those companies actually use this to combat their own cash flow issues.
 
Donald: Thank you, Jeff. We offer basically to different services, which is rare in the industry. At Midland we offer both purchase order and accounts receivable funding. So what is accounts receivable funding based on the invoice amount that you have. So if you had an invoice for $100,000, we would advance you $80,000 at the time that your goods ship. So rather than waiting with 30, 60, 90 days with your client's pay, you get paid right away. 
 
And when the client pays what we call the getter. you get to 20% that we haven't paid you already minus our fee. So what does that do for you? What it really does is it increases your cash flow. So if you have an order that's going out, sometimes it could be very, very critical on your cash flow if you have that $100,000 ad on the street. 
 
And you have to pay your employees, you have to pay taxes and other types of expenses out there, you don't have the cash flow to do it so you get behind and it creates all different types of wrinkles to your business. So by us giving you that money we could basically improve your cash flow so you don't have those issues. 
 
The number one thing that that really does is it rebuilds your credit so that down the road you may be able to go to a bank and say, "Hey, look, I pay all my bills on time and therefore I should be able to get an increase on a distance revolving line of credit that I haven't been able to get into the past.” So many people use factoring in order to improve their credit. The increase in cash flow allows you to grow your business where before you had to pay off, you had no cash in order to pay for goods. So by the increase in cash flow you also have more goods to be able to build up your inventory and have a much stronger business.
 
We also do purchase order funding. And what is purchase order funding? Another term for it is called supplier funding. So say you got a big order in from a big box store for blankets, and you needed to buy a container load of blankets. And that container load of blankets is going to cost you $300,000. Many businesses don't have the $300,000 in order to pay for the goods to the factory because, especially if it's a new situation, the factory's not going to give you terms. If it's a situation where you're buying overseas it's very rare that the factory would give you terms. So you need to come up with that money.
 
A company like Midland or a factoring house with those purchase orders would be able to give you 100% of the cost in order for you to buy those goods. For example, I presently have a deal where it's tequila. And he is buying tequila and he got a huge distributor in the United States to carry his goods, which is a wonderful thing for the business. But the first order for the tequila is $200,000. And he doesn't have the $200,000 or he doesn't have the $125,000 that he needs to pay for the supplier to fulfill the order. 
 
By him going to a factoring house he can get those goods paid for, and we will pay directly to the factory so that he can fulfill that order and to grow his business. So it basically allows a business that if they needed funding from soup to nuts we could pay for the entire transaction. And the beauty of factoring is that it does it without incurring any other debt. So if you went to a bank and you borrowed money from a bank on your balance sheet, you would see that you borrowed $100,000 and $200,000, or whatever the amount of money that you borrow from the bank. 
 
When you go to a factoring house, instead of you making a dollar you may make 90 cents, but the debt never shows up on your balance sheet. So it looks like it was funded through the business. So you can use our money and we don't take any percentage of your business that an angel investor or an equity house will take with it. So you don't have a partner. You could do whatever you want with the money; it's an excellent alternative if you can't get traditional funding.
 

You can use our money and we don't take any percentage of your business that an angel investor or an equity house will take with it. So you don't have a partner. You could do whatever you want with the money; it's an excellent alternative if you can't get traditional funding.


Jeff: How do you get your money? In other words what slice, what percentage here do you kind of if you would extract. You mentioned that the invoiced amounts are actually kind of invoiced at a discount, which means that you get that percentages taken out, which is what?
 
Donald: The way that it works is that we don't get paid directly from our client. So if it's the case where it's combined purchase order and accounts receivable, and the factory needed $80,000 to complete their order, we would pay the money directly to the factory. Then the order would come in and an invoice will be generated to the client that’s ultimately going to buy the goods. At that time it would convert over to accounts receivable and there will be a bump up, so that it would be 80% of the invoice amounts with it.
 
Then the client would pay, the debtor, the one that's going to end up with the product, we'd pay to post off this box. And once we receive that check we would give the 20% we haven't given already minus our fee. And that's how it would be.
 


Jeff: OK. And as you mentioned, too, this is helpful toward the credit standing of the company as an added plus. Are there any companies that would just rather choose to continue to work with a company such as yours, for example, Don, on a regular, ongoing basis to handle their receivables or entirely for them? 
 
Or is that not the business that you provide? In other words, you're there for a specific purpose for such an occasion when cash flow is difficult. But you're not there to handle receivables at all times, 100% of the time for a company are you?
 
Donald: Most factoring houses do have a year annual contract because there is a certain amount of start-up cost for any factoring and fees to do it. So a normal account really does last for a year. 
 
But we also have accounts that you have for a long time. For example, the hospital industry is famous for paying very, very late. So many people that are on the hospital and supply hospitals cannot wait for 90 days that a hospital normally takes in order to pay. 
 
So we have many of those type of accounts that stay with us. We also have a lot of staffing companies. And staffing companies, they're the model of cash flow issues in that the more you grow, since you're hiring people in order to be used in other companies, your payroll. The more people that you hire the higher your payroll is, the tougher it is for you to manage your cash flow. 
 
So there's large numbers and a high percentage of staffing type companies that use factoring just as common center and others. So there are companies that basically really need factoring in order to survive and use factoring for long periods of time. Basically for the time that they're in business they will continue to use a factor. 
 
What has happened though, because it's a sluggish economy, is more mainstream companies are coming into the fold and also using factoring, saying, "Hey, I'm having a tough time. I can't get money from a bank so I'll use a factor.” And basically you're going to use factoring for a year or so, get through the difficult time, build up enough of a cushion where they may not use this. 
 
If they use this for specific transactions, so they get a big order from a big box store and they need to fulfill that order, or they get a big military contract, or they get a government contract, or they get a big order from Home Depot and they need money in order to fulfill that order, they would go to it. 
 
So the beauty of factoring is that there's no minimums and you can factor as much or as little as you want so you can use it for a specific transaction. And then not use it for a couple of months, and then get a big order in and use it. Or you can just use it for parts so that you could take four or five accounts and say, "Hey, these accounts will generate enough money, or if I get advances off of them, I'll have good cash flow and I won't have to worry about meeting payroll, or taxes, or having enough inventory, I'll only factor part.” 
 
So the beauty of factoring is that it has a tremendous amount of flexibility. But the biggest advantage of factoring is that there's no real dollar limit. So if you got an order in and you're lucky enough to get an order in from a big account, and it was a million dollar order. And say you were a half a million dollar business, how are you going to be able to fulfill that order? With factoring there really, really is no issue. The bigger the order is and it's a good getter, you have no issue fulfilling that order. 
 


Jeff: We kind of now have a really good lay of the land here, I think, Don. I guess my last question might be for this discussion is who would not be suited to factoring as far as a business is concerned that is in need of a solution to help them with their cash flow issues? Is this something that is appropriate for all businesses?
 
Donald: In order for it to work in the factoring type situation, you need an invoice. So retail is not good. It is online and customers are paying you, it's no good. So you need to be business to business, and it needs to be in a situation where you're waiting 30, 60, 90 days to collect your money so that there's an invoice.
 


Jeff: Don, let's go ahead and wrap up then by providing your contact information should anyone have any questions or be interested in obtaining that information you say that you have there.
 
Donald: The name of the company is Midland American Capital. My name is Donald Jacobs. I'm a Senior Vice President, Business Development Officer. And my direct telephone number is 516-393-2659. And my toll-free number is 800-753-3300. And my email address is donald.jacobs@midlandamericancapital.com. 
 
And I'd be happy to send out information about the industry, not necessarily specifically about Midland, but you should have a thorough understanding of what factoring can do for your company and a thorough knowledge of stand-alone accounts receivable and purchase order funding, and if it would be a good fit for your particular cash flow issues.
 


Jeff: The gentleman is not only knowledgeable but he's extremely sincere, and I want to thank you so much for joining us today.
 
Donald: Thank you very much, Jeff.
 


Jeff: That's Donald Jacobs. He's Senior Vice President, Business Development at Midland American Capital. I hope that you got a lot out of this discussion today, I know that I did. I try to learn something each and every time I step behind this microphone with our guest. Once again, we want to thank Don for joining us on this program.
 
"Deal Talk" is brought to you by Morgan & Westfield, a nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen, thanks so much for listening. We'll talk to you again soon.
 
While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • In order to avoid being surprised by the value of your company when beginning the process of selling your business, start the valuation process early and continue to have a business valuation every couple of years so.
  • A business is less desirable to buyers if it relies on one or two vendors, or one or two customers.
  • Reducing the areas of risk in a business will increase its value.
  • Ways to cut expenses, without jeopardizing revenue, and show the highest earnings possible include adjusting officer compensation to industry standards, putting a management team in place so that customers are not dependent upon one or two key employees and broadening your customer base. 

Read Full Interview

Jeff: The results of a business appraisal can be surprising, and sometimes even shocking. If you want to learn how to improve value after a less than desirable appraisal, or how to avoid shocking results in the first place, then you've come to the right place.
 
From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk." brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.
 

Jeff: Hello and welcome to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use that information to help you build your bottom line and improve your company's value.
 
What's all the big deal then about business appraisals and valuations? Well, sometimes we found out that oftentimes we get those calculations back and they are far less than we expect. At least they're different anyway. Sometimes they're maybe a few thousand or a few $10,000 off what we kind of expected in other times, for most of us anyway. Those folks who order valuations are often mystified by the gap, the difference between what you believe your business might be worth or might have been worth, and what your valuation consultant says. It actually is in fact worthwhile. 
 
I want you to stand up and take notice, or sit forward and take notice of this program, because it is in fact for you if you have had a valuation in the past that did not meet your expectations. And you're not exactly sure what you need to do to bridge the gap between the information that you got back and where you think your business needs to be. And this is particularly important if you have designs on selling your company sometime in the next few years.
 
Here to talk with us all about this particular subject, Matt Turpin. He's joined us in the past here on "Deal Talk." He's a CPA licensed in Florida and Alabama, and also a certified valuation analyst with Carr, Riggs & Ingram, LLC. Mr. Turpin carries additional designations, including certified mergers and acquisitions professional, and chartered global management accountant. Matt Turpin, welcome back to "Deal Talk." It's good to have you back on the program.
 
Matt: Great to be back, Jeff. Thank you for having me.
 

Jeff: Well, it's good to hear the gentleman with the Southern draw back amongst us here and providing his information that we have really been looking forward to you sharing, Matt. I get these numbers back, and the first question that pops to mind, well this can't be right. How do I know that these in fact are right? How do I as a business owner know, Matt, that the valuation that you've calculated for me and my business is in fact complete and accurate?
 
Matt: That's a great point, Jeff. The quickest way and probably one of the easiest ways is to look at the valuation report. Is the valuation report under the guidelines of a governing body such as the National Association of Certified Valuation Analysts, or NACVA? Or is it under the American Institute of Certified Public Accountant, the Accredited Business Valuator Designation, or the ABV Designation? Those are just two of the designations, but probably the most common when it comes to a CPA-backed valuation credential.
 
We have guidelines and standards that we have to follow in preparing a business valuation. You're right. A lot of business owners, particularly member-managed businesses, are not particularly thrilled when they see the results of their business valuation. So the best way to not be surprised is to start that process early and fairly regularly, or often, to have a business valuation every couple of years so that you are not surprised when you see the value of your business. 
 
I tell potential clients this almost every meeting. If you are a business owner that is relying upon your business for your retirement, if you had a retirement account with one of the large financial institutions, you would get a monthly if not an annual statement that shows the value of your retirement plan. If you're using the sale of your business more importantly as the indicator of when you can retire, or that money will be used for your retirement, it would be questionable not to have a valuation done every few years, so that you do know the value of your retirement.

There are no two businesses that are alike.

Jeff: Is it flawed thinking on a business owner's part, Matt, to believe that, OK , I get this calculated value here and I'm not exactly thrilled with it. But I'm inclined to believe that I can get more for my company than what these numbers are telling me I can get. Is that wrong for a business owner to think that way and would they in fact be making a mistake by listing their business at a figure that is much higher than that valuation that you've calculated for them?
 
Matt: The answer to that is probably yes and no. The business owner can list or can ask whatever price they think the business will cost it to for a sales transaction, much like a house. 
 

Jeff: OK.
 
Matt: The issue is if you have a strategic or a financial buyer, there are certain things called synergies. If a competitor wants to buy another competitor, there may be economy, the scale, where the two businesses combined can make more money than the two business separate. So that's your financial or your synergistic buyers. 
 
In those types of situations, yes, absolutely. There would be a situation where the business could sell for higher than the calculated value. In other situations where it would be a top lieutenant in the company that's buying out the majority shareholder, there could other factors or indicators that bring that value down. 
 
Say, for example, a dentist practice. If a dentist has the key relationships with his or her patients, that really does restrict the value in "handing the baton over." Any type of service industry has that risk of when you sell your business, the customers, patients, clients will not automatically transfer over to the new owner. So that is your risk in selling for less than what the value has arrived at.
 

Jeff: Joining me again today is Matt Turpin, if you're just kind of listening over someone's shoulder. He's a CPA and CVA, certified mergers and acquisition adviser at Carr, Riggs & Ingram, LLC. Joining us for the second time, today on "Deal Talk." My name is Jeff Allen. 
 
Matt, why is there such a gap between what I had estimated the value of my company to be and the number that you calculated? Where do most of those differences lie?
 
Matt: Jeff, most of the differences lie between the, it's what's called discounts. It could be a discount for lack of marketability, which, if you're a member-managed, or traditionally what we've known as a smaller business, you've got discounts for lack of marketability. This is not a business that can be bought and sold on a publicly traded market much like the NASDAQ or the New York Stock Exchange.
 
So you have a discount for lack of marketability, which can range anywhere from below 20% up into the high 30s, maybe even 40%. If you go along RS regulations in determining fair market value, that would reduce the value of the company. You also have a discount for lack of control. If you're selling less than a majority shareholder position or ownership position, which would be 50% or less, then there's a discount that needs to be applied because the buyer does not have control of the cash.
 
The biggest reason why there will be a gap between perceived value and what we could call actual value, which would be the value that's derived from a business valuation engagement, is going to be the capitalization rate. A capitalization rate is going to be the inverse of a multiple. A lot of people are very familiar with the multiple. 
 
Let's say if I have a company that's grossing a million dollars a year in revenue, I want to use a multiple of three to sell the business, I would put just a wild guess in the air saying that the business is worth $3 million. Capitalization rates build up to an actual indicator on what to take, the quality of earnings, which is going to be your income after true business expenses. 
 
There are a lot of situations where you get higher than industry average officer compensation. And you may be paying family members through the business that don't actually work day-to-day in the business. Those are normalizing adjustments to arrive at a quality of earnings from the business operations. You apply that number to a capitalization rate. And that capitalization rate is going to be built up at different risk factors. For example, somebody was going to spend a million dollars either putting it into a CD or some safe investment vehicle, it's a much lower risk than going out and buying an operating business. 
 
So you have different risk factors that's going to be just the general risk of buying the equity of a stock. You've got the general risk of buying a small company and you've got the specific company risk, meaning the company that a potential buyer is looking at for the subject company, and when I say subject company, I mean the business that an individual is looking at buying. 
 
Or if an individual selling their business, what is the risk associated with selling that business? Are there key employees that really produce a lot of the income or create a lot of the customer loyalty, that if those key employees were not there it would seriously affect the revenue of the company?
 
When you look at these factors that create the gap between a business owner's perceived value, a lot of times you talk to a business owner and they've already got an idea in their head of what the value of the business is, whether that's through talking to competitors, or talking with peers in the industry for multiples, or reading industry periodicals that tell you this is what the business should be worth. There are no two businesses that are alike.
 
That can go either in the positive or the negative for the business owner. If I'm a business owner, and actually, Jeff, this is what got me into business valuation, is I had a client that was very profitable, had a very well-oiled machine in his business. And he was offered, I can't remember the exact number … let's say three times his revenue as a multiple to sell his business. 
 
My first question was why not five as a multiple, why not six? Who made the rule that it's got to be three, particularly in this kind of business because he didn't have to work the business. It was just a residual cash flow to this individual. 
 
So when you talk about multiples and how much of my business work based upon a multiple there may be two businesses in the same industry, whether they're competitors or not, it doesn't matter in this example. But one business may be worth two and three times as much as the other one because there may be systems in place, you may have a better management team. You may have a better financial structure. You may have better financial margins. You may have, whether it's longer contracts, the options are limitless of why one business in the same industry values differently than another business in the same industry.

I tell potential clients this almost every meeting. If you are a business owner that is relying upon your business for your retirement, if you had a retirement account with one of the large financial institutions, you would get a monthly if not an annual statement that shows the value of your retirement plan.

Jeff: I'll cut you off there because you've thrown... I'm putting myself in the place of a business owner who doesn't have a CFO or an accountant who can really help them understand the weight of what you're talking about, because there's a lot of the terminology here and some things that I think a lot of people probably may not have a very strong understanding of. 
 
But really, who is the person, who is the professional that I would talk to who would be able to help me, or help my accountant, or CFO, or whoever? Actually assign the multiple that we believe would provide us with an accurate valuation for how much our business could be worth if in fact we have designs on selling this or becoming involved in maybe an M&A deal of some kind in the next three to five years?
 
Matt: Jeff, I'm a little bit biased, but it would be best to use an individual that has a designation in business valuation.
 

Jeff: OK.
 
Matt: Because they're going to have industry data across the board. Not just a few industries but data across the board that not only do you arrive at a value independently but we also have access to databases of what we call a sanity check. 
 
If I arrive at a value, just an example, of a dental practice and come up with $2 million as a value, based upon cash flow and earnings, I have access to a database that says either I'm on base or I am way out of my league based upon transactions that have happened in the past.
 
Again, no two companies are alike, but that's what we call a sanity check, like a rule of thumb that says, "This is my valuation. It is well within an industry norm based upon the transaction that'll happen." Or if the company is strong enough, whether that would be your management team's financial history earnings, then can this company require a higher sales price because they're stronger than the industry or stronger than actual transactions that have taken place?
 

Jeff: What have you found to be probably the most common range of multiples that might suggest that a company has performed well and is selling at or better than market value?
 
Matt: Jeff, you're going to see capitalization. It's going to be anywhere from 20% to maybe even 50%. The lower the capitalization rate the higher the price. In terms of multiple, a capitalization rate of 20% would mean a multiple of five. That's how many times it could fit into a hundred. 
 
A capitalization rate of 20 equals a multiple of five. A capitalization rate of 50 equals the multiple of two. So it's going to depend on the business itself. Largely it does depend on the industry, because that's the track record that an industry specialist is going to go off of.
 
Matt: Anywhere from 20 to 50, which is going to be a multiple of two to five.
 

Jeff: OK. Have you ever seen anything higher than that?
 
Matt: Oh yeah. In certain industries you may have a multiple of 10. 
 

Jeff: OK. And that's a nice pay day right there.
 
Matt: Yes. It really is a nice pay day. There's a lot of factors that built up into that, but most of the factors are built around risk. What is the risk of purchasing that company?
 

Jeff: Matt, I'm going to take a short break, but when we get back what I'd like to do is I'd like to start to get into over the part of the conversation where we start to talk about the types of things that we might be able to do to, kind of, get that valuation moving in a better direction to kind of close that gap between what we assumed our business might have been worth and what a professional such as yourself is telling us our business is actually worth based on his calculations and going through.
 
I'm going to continue my conversation with Matt Turpin on valuations and how you can now close the gap or start thinking about ways to close that gap between what your expectations for your company's value was and what it could be when "Deal Talk" resumes right after this.
 
If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on a future edition of "Deal Talk." Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com.


Selling your business may be the most important business transaction you'll ever undertake, so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way, from helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers. 
 
Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.


Are you a professional adviser, accountant, attorney or a wealth manager, or do you provide other professional services? Contact us today to see how our reliance program can help you increase your firm's revenues. Call Morgan & Westfield at 888-693-7834. That's 888-693-7834.
 
Jeff: You can listen to "Deal Talk" on Stitcher, Libsyn and iTunes. And we also have a fourth channel for you, morganandwestfield.com. That is the only place where you can listen to the show and get the complete show notes to go along with it. So of course you could read along with every word that you hear us talking about here on "Deal Talk" while you're on the morganandwestfield.com website. 
 
Or simply take and print hat PDF out, copy it to your machine, save it for later. You can come back later for easy reference. In that way you've got it all in writing. Some people think it's easier to take that writing with them depending on where they want to go or if they want to share certain key parts of our conversation with a friend or a colleague. 
 
Once again, that site is morganandwestfield.com for not only the podcast but the complete show notes. My name is Jeff Allen, joined once again today by Mr. Matt Turpin, and he's really an expert in the area of M&A but specifically having him on today to talk about valuations. 
 
We want to aspire, I think, really Matt, to reach a valuation that we're pleased with and one that would stand up during the sale of our business. So how do we start to bridge that gap and get from where we are, reality, to where we want to be, which is what we might consider ideal later on?
 
Matt: That's a great question, Jeff, and a question that we address quite often. Typically I suggest that business owners have a five-year plan to sell. Don't just decide that next year you're going to sell. Because there will be that shock of what the perceived value is and the price that the business could actually demand on the market. 
 
Of course this list is not all inclusive, but we've all heard the term “cash is king.” And that is true when it comes to most business valuations. You want to have the highest quality of earnings as possible that your business can earn. When Is say quality of earnings, meaning income minus your actual business expenses. If you've got a business that doesn't really require you to travel yet you've got some travel in there, of course that reduces your earnings. 
 
Taking a three-year, forward-looking approach on cutting expenses that can be cut without jeopardizing revenue and showing the highest earnings as possible. Of course, that's going to be the hardest thing to do but the easiest way to increase value. You could adjust officer compensation to industry standards. You can put a management team in place so that customers are not dependent upon one or two key employees. You can broaden your vendor base if that's applicable to your business. You can broaden your customer base. 
 
Nobody wants to buy a business that relies on one or two vendors, or one or two customers. Again, that goes all into the risk of buying the company. If I can cover it with an umbrella, the main objective in growing the business value would be to reduce the areas of risk in your business. Of course, that cannot be eliminated 100%, but reducing those risks of a potential buyer is going to be increasing the value of your business.
 

Jeff: I'm sure that you've probably gotten questions like this before. We're all human and some of us have some questions that quite frankly you might roll your eyes at from time-to-time after a while, Matt, someone in your position. 
 
When you have a chance to advise a company about maybe on plans that they have about moving forward with a sale or preparing their company for a sale and things have not been going well admittedly. The proof is in the numbers. And things have been tough the last couple of quarters, the last few quarters, and you've got someone, a CEO and his team have put in a lot of long hours into their business. 
 
Doesn't sweat equity account for something? When it comes to you going out and looking at this company and providing a comprehensive valuation. Is there any possibility that there's some kind of value that you can assign to effort? I don't know how else to put it.
 
Matt: That is a very popular item.
 

Jeff: I thought so.
 
Matt: When you talk about sweat equity, if that's what equity has generated, cash flow, yes, of course. But you're measuring the cash flow, you're not measuring the sweat equity, because that's when equity has turned into cash flow. If you look at sweat equity alone, somebody putting in long hours and is not producing any results, then there's no other answer than, no, the sweat equity does not generate value. But if that's what equity turns into, relationships, potential contacts, let's say a deeper vendor base, a wider potential customer base, another product, then, yes, that's when equity could be of value, and it could be of value to a specific buyer.
 
There is no flat line answer. No. Sweat equity does not generate and give value because sweat equity can’t generate value.
 

Jeff: I've got just a couple of moments left here, Matt, in the program today. What is wrong with the ideology that I can improve the value of my company by strictly going out and just working harder to generate greater revenue? If I go out and I increase my revenue by 25%-35%, doesn't that take and translate to something similar in terms of value later on?
 
Matt: It can. It depends on how much you've had to spend to generate that increase. If you've had to spend more on advertising, if you had to spend more in commissions. If the bottom line, so to say, is not increased, then there could be a situation where you're just spinning your wheels. If it does create a greater economy of scale, where an increase in revenue decreases the overall percentage of expenses or a certain expense classification, then absolutely it can help.
 

Jeff: Matt Turpin, I appreciate your time on the program today. No doubt there are business owners in your neighborhood, those listening to this program right now who might want to get in touch with you to talk about their particular situation, how can they reach you?

Typically I suggest that business owners have a five-year plan to sell. Don't just decide that next year you're going to sell. Because there will be that shock of what the perceived value is and the price that the business could actually demand on the market.

Matt: Sure. They can reach me through my email, which is mturpin@cricpa.com. They can reach me at 850-337-3241. They can also go to our website, cricpa.com, Carr, Riggs & Ingram. There are a number of ways. You can also find me through the National Association of Certified Valuation Analysts. I'm in their database there.
 

Jeff: And that means that you're pretty good, and we appreciate you, Matt, for making time for us in your schedule before you head on out for the day. It's been a pleasure, and we look forward to having you again on our program at some point in the future. Thank you.
 
Matt: Thank you, Jeff. I always enjoy talking with you.
 

Jeff: That's Matt Turpin, CPA, CVA and a certified mergers and acquisition adviser at Carr, Riggs & Ingram, LLC. 
 
Let us know how we're doing on "Deal Talk," won't you? We would love to hear more from you. Send us your comments, compliments and criticisms to dealtalk@morganandwestfield.com. Once again, that's dealtalk@morganandwestfield.com
 
"Deal Talk" is brought to you by Morgan & Westfield, a nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com or by calling 888-693-7834. Again, 888-693-7834. I'm Jeff Allen, here's to your success.
 
While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.


Key Takeaways

  • Crowdfunding is a private security transaction that is targeted at retail investors.
  • Development around digital finance is causing the cost of capital acquisition to go down.
  • The digital finance market essentially is a complement to the existing financial market.
  • Crowdfunding is an alternate source of obtaining financing for small-business owners. When soliciting financing through crowdfunding, you need to understand who your company is being presented to and tailor your presentation accordingly.

Read Full Interview

Jeff: Crowdfunding is changing the way entrepreneurs fund their businesses. If you want to learn more about how the business financing landscape has changed and what the future holds, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk," brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.


Jeff: Hello, and welcome to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.

The world has obviously changed a lot for us owners of small and mid-market businesses. And thanks to the explosive growth of all things digital, and I do mean all things, so has the way that people can fund or at least partially fund their startup businesses or the growth of their established businesses. What could that mean for any plans you may have for expanding your company and your quest to improve its overall value? We're going to try to get some answers from our guest on this edition of "Deal Talk." Markus Lampinen is the co-founder and CEO of Crowd Valley in San Francisco. Markus Lampinen, welcome to "Deal Talk," it's good to have you sir.

Markus: Thank you, Jeff. It's definitely a pleasure to be here.

I think it's good news for business owners in a couple of different ways. One is that the cost of capital acquisition is definitely going down. But the other one, very practically speaking, is that if investors can bring their cost of making a deal happen down that means that investors will be able to get into different types of asset classes and different positions in companies.

Jeff: Crowd Valley, familiarize our listeners about what you and your team do.

Markus: Like you said, we work with this changing landscape of online finance, or take essentially offline finance and how it's interacting with the online finance landscape. What we and the company at Crowd Valley do is really help these financiers, so lenders and investors, move their business processes into an online matter. What that means is essentially creating these types of online applications where a lender can essentially offer business loans through an online portal, or solicit essentially various different investors through an online portal, or essentially get these applications for financing, whether or not it's equity transactions or done through an online portal. 

So streamline the process for finding the sources of capital but also matching those sources of capital to the actual recipients of that capital, whether or not... It's like you said, early-stage company startups, growth state companies, but it is also other types of asset classes. Like, for example, we work a lot in real estate, but I think we can focus on the business side.  

But just myself as background, I'm born in Stockholm, I grew up in the Midwest in Kansas. Last eight years I've been working with this digital finance market starting out of Hong Kong, then London, then New York, and now here in San Francisco Bay Area for the last two years. So, definitely can expect me to have a little bit of an outlook on the market not just in terms of geography. I started in 2008, and I mean that's the fun times of finance. Everything was in a sense going downhill.



Jeff: That's right.

Markus: But that's really the emergence also for these markets, that a lot of the need for more efficient ways of essentially accessing capital and streamline the process, that's really where they emerge.



Jeff: How has crowdfunding, or the concepts of digital finance allowed business owners to grow their businesses? How advantageous has it been for them in terms of being able to procure capital?

Markus: You can think about it in very, very basic building blocks. What essentially this development around digital finance means is that the cost of capital acquisition is going down, which means that the process, and I'm talking time and money for actually getting access to the right investors. The right investors getting access to you as the business owner. That is getting shrunk essentially by a lot of these types of models. 

Practically speaking, what that means is for a business owner, actually looking for working capital or a debt solution, or a debt instrument. Then there are a lot of online options nowadays that are emerging. There are a lot of regional banks, a lot of institutions that are looking at alternative ways that maybe as a bank they can't offer you the loan that you're looking for, but they could have a community of various types of alternative lenders. That could then be private individuals, different types of maybe smaller funds, whatnot, that would essentially work through a non-conventional model where it's more of a peer-to-peer lending or a peer-to-business loans type of marketplace. 

I think the bottom line is that, obviously, the fundamentals of finance and financing, they're actually not changing. But it is the structure that by streamlining the process, by, for example, having a single point where you as a business you can go in into an online application, online marketplace, you can essentially submit your information there, you can get a quote back that this is the type of working capital solution that we could provide for you. Then that can speed up the process quite a bit. 

But I will say as a caveat that... Since 2008 I've kind of seen myself or heard myself say repeatedly each year that we are still very early on in the market. I still think that that's very, very true. If you look at the financing and the online finance space in the U.S., we're at a little bit under $10 billion a year, and certainly 10 billion is a huge number. But that being said, looking and comparing that to essentially small and medium-sized business financing from traditional institutions, which is in the hundreds of billions or trillions even depending on what you include in that, then it's still a very, very clear minority.

But I think as the education also develops, and as these institutions, lenders for example, or even the equity investors, they figure out how they can streamline their process. I think it's good news for business owners in a couple of different ways. One is that the cost of capital acquisition is definitely going down. But the other one, very practically speaking, is that if investors can bring their cost of making a deal happen down that means that investors will be able to get into different types of asset classes and different positions in companies. 

For example, maybe in the smaller deals or maybe in the sectors that have been hard to put structure around the deal. And that just opens up a few possibilities. But it is still very early in terms of looking at this market. And I think in the U.S., in particular, there's still a lot of opportunities on the table for both companies to push their lenders and investors to adopt more streamlined tools, but then also actually as an ecosystem to create more knowledge around what is digital finance, what is financial technology, how does it relate to the existing sector, how does it relate to business owners, and how you foster that entire communication.



Jeff: A part of the conversation has been that business owners are kind of limited to how much money they could actually obtain through these crowdfunding sources. Is that still true? Are the limitations such that it really only restricts a business owner to doing so much with these particular funds where they may not necessarily be able to obtain all that they need to start their business, if it's a brand-new startup, or capitalize an entire growth project. Tell me a little bit about the limits and how much money could actually be obtained through these online sources.

Markus: That's a good question, and it's also one that has various different dimensions to it. So let's just take a step back and look at the term crowdfunding. So typically crowdfunding will refer to essentially a private security transaction that is targeted at retail investors. And retail investors are the non-accredited investors. And in that world, there are certain limits, and there are also essentially, there's specific regulation, the Title III of the JOBS Act for you who are interested in looking at that. 

But just taking the basic concept to us, crowdfunding. There's a transparency, there is the efficiency, and then there is essentially the access that you're creating. So transparency in the process in terms of what's actually being done, the fees, efficiency in terms of time and capital that actually goes into this process, and then access in terms of access to new asset classes, access to new investment opportunities for different types of audiences. 

So taking that frame of mind that we are talking about something that is maybe a little bit more of a concept rather than anything set in stone at this point. And I often say there's various different types of crowdfunding. Like you can talk about crowdfunding with family office type of investors, investors that are qualified and accredited by a long stretch that are very sophisticated in their investment. But if you're able to approach not just three but for the cost of approaching three approach 30, for example. And that's the sort of crowdfunding in my head.

And then there's many different permutations for that. But if you look at the very, very basics. A lot of times for a growth company, then you will go into the venture capital space or the private equity space, and we work with some venture capital companies that are creating these types of online marketplaces where they will have their traditional investment model. Like their traditional venture capital financing structure, which they have a mandate for, which they have an LP that has given them money. 

But there are a lot of deals that they see that don't fit into that category. So it might be that they foster essentially a co-investment platform where people can sign up and they can essentially get access to these types of deals that are outside of the venture capital fund’s mandate. For example, in the private equity space we see that there are a lot of firms that are generating deal flow from online portals. 

So just to give you an example there that we work with a private equity firm that essentially raises capital from an online platform, or using an online platform that we power for essentially helping with the generational shifts in terms of small and medium-sized company. And they're not raising a million, they're raising typically between 10 and 30 million.

They will go into a healthy business, they will look at the business, the owner wants to retire. They want to foster essentially a continuity in the company. They will raise, let's say, $20 million for a company that's doing $20 million a year in terms of revenue. They will go and they will help with that generational shift, and they will just raise capital from the online finance, or online means. 

And this specific example that I'm giving, it's a company called Cobalt Funds out of the U.K., actually. And the reason that I'm giving it is I find that example was quite interesting in a way that you don't typically think about that as crowdfunding in terms of playing in that type of a niche. But that's what we see, that those types of applications, whether or not it's growth capital or startup capital, there is various different permutations of this model. It's about finding the right one.

And it also goes to this other point that if you are, for example, a company that has a solid business. You have revenues, you have recurring customers, you have good business, then there are different types of investments or different types of capital sources that might be more appropriate to you than the other sources. 

So just as an example for that is if you are a Silicon Valley startup. You probably want to raise equity capital because you probably don't have revenues and a loan isn't that attractive. But at the same time if you are a company that has revenues, a company that has an existing clientele in business, then equity capital might not make sense. And there's a couple of different reasons. 

Obviously, a loan might be cheaper for you, cheaper capital in terms of your cap table. But then also the other way around that aligning interests with somebody that expects their equity to grow but the company is structured in a different way that might be difficult. And I said at the start that these digital finance models, they don't necessarily change the dynamics of finance, and this very much goes back to that. That looking at the type of capital that you need for your company.

There are marketplaces that specialize in various different types of capital, I mean on the equity and debt side, but is also at various different stages of the capital ladder. If you're, for example, looking at raising equity capital, there are different platforms that focus on smaller equity injections, and those might be sourced from a network of credit investors or small funds. There's companies that look at essentially larger areas of capital financing. 

As with any business owner, it is all about the fit. Finding that fit in terms of what kind of capital you essentially take into your company, because taking the right capital can align your interests with essentially the capital source. It can be a great way for you to generate momentum for your company and essentially get a cost efficient source of capital that really aligns your interests with the investors. But then doing the other way around, not taking capital from the wrong source, then that can be a very detrimental idea. 

And again, it's nothing new, nothing revolutionary in that. And a lot of the time that we look at this market, then we encourage people to think about the digital finance market as essentially a complement to the existing financial market. So you're not necessarily seeing anything that hasn't been done before but it's the way that those services are being offered that hopefully they're more efficient, hopefully they're more transparent, and hopefully they are more accountable to all the parties in that life cycle. 



Jeff: We're talking with Markus Lampinen. He's the co-founder and CEO of Crowd Valley Incorporated at the San Francisco Bay Area, and we're really kind of diving in deeply here into this idea of crowdfunding and what the growth of this crowdfunding industry means for your company. And how easy it might make it for you to obtain perhaps capital that maybe you might not find someplace else, or at least it gives you the options out there that you might not have had maybe five, six, seven years ago, maybe even three years ago. But our conversation with Markus Lampinen will continue. 

We're going to talk about when we come back basically the process for obtaining funding through crowdfunding and kind of how that process works when "Deal Talk" resumes right after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on a future edition of "Deal Talk." Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com. 
Selling your business may be the most important business transaction you'll ever undertake, so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way, from helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers. 

Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.
Jeff: Welcome back to "Deal Talk," my name is Jeff Allen, and just to let you know, if you're listening to this program right now on iTunes, Stitcher or Libsyn, that's fantastic. That's exactly where we want you to be. However, as a bonus, on the morganandwestfield.com website you can also find the complete transcript to this program. In addition to finding the transcripts for all the programs that we have recorded to this point for you. 

Thanks very much once again for tuning in. Jeff Allen with Markus Lampinen, CEO of Crowd Valley Incorporated in the San Francisco Bay Area. We're talking about crowdfunding. Markus, real quick. I do want to talk about the process for obtaining crowdfunds, because many people already know how to go to a bank and fill out a loan application to contact the Small Business Administration or the representative there. Or any number of other sources, private equity firms, they may already be familiar with. 

But first of all, I did want to ask you about something you alluded to. This is something we've touched on very, very briefly in our previous edition of "Deal Talk," and that is the JOBS Act Title III. Can you please explain to us, once again, and for those people who may be listening for the first time, what that is?

Markus: Absolutely. The JOBS Act is a provision that was essentially put forth in 2012 and it's been implemented in various different stages. It has six titles to it, so six different specific components of the regulation. And they've been implemented at different stages of the process. Like Title II introduced the 506(c) offering, which essentially means that for a private security transaction, you can now conduct general solicitation, so market it freely. But at the same time you can only sell it to accredited investors which are then accredited by their net worth or their assets. 

But Title III, specifically, Title III is what's referred too often as a true crowdfunding provision in the JOBS Act. What that specifically means is that you could through these online portals that Crowd Valley work with, then you could through them essentially solicit investors publicly through an online portal and essentially raise up to a million dollars in finances from a retail investor crowd. 

Now, it doesn't have to be just a retail investor crowd, it can be accredited investors too. But for Title III of the JOBS Act, the retail, the non-accredited investor is the key component. This means that specifically for the first time in American history in a public financing market in private transactions you could actually invest in the startups without having pre-existing relationships.

There are some caveats, and we have great material on that on our Crowd Valley blog, for example, on the specifics of the actual regulation. But the key components are essentially for a non-accredited investor than the amount that you can actually invest in startups. It's then linked to essentially your income, and then for the companies, how much they can raise. It has different tiers. So for essentially being able to provide audited financials and you get a higher tier, and ultimately you can raise up to a million dollars.



Jeff: What you're saying is basically is much like the way that investors could invest in publicly traded companies today, private investors, those are non-accredited investors, folks like me, for example, would be able to invest in and perhaps somewhat limited depending on their income would be able to invest in private companies.
Markus: That's right. Hopefully in a secure and a very efficient process.

As with any business owner, it is all about the fit. Finding that fit in terms of what kind of capital you essentially take into your company, because taking the right capital can align your interests with essentially the capital source. It can be a great way for you to generate momentum for your company and essentially get a cost-efficient source of capital that really aligns your interests with the investors.

Jeff: Exciting times. And once more, just the number of opportunities that continue to grow out of this, just unbelievable. The process of obtaining crowdfunds, for those business owners who may be really interested in looking at this and researching this, and thinking about this as a possibility for obtaining capital to grow their companies, perhaps finish a construction project, add new equipment, whatever the case may be, tell us how it works. How do we get this money?

Markus: You mentioned the reference earlier that you know how you go to your bank you fill out the loan application, the SBA in that process. And the process I would argue is not that far removed from that. So you have to find essentially the portal or the platform which has its entry, the investors or the lenders that you're looking for. And you have to find one that actually fits your needs. And I'm not saying that once you see cash then you go all in, but rather research the portals, research the actors, research what they've been doing, what their diligence process is, how they handle the process, what fees they take, and kind of the process from there. 

But really, once you find a platform and you can just search on Google and you can find a lot of press around these portals and your specific niche for example. Let's say that you are working in agriculture, then just start by looking at agriculture innovation and online financing. And you can find probably various different platforms that are focused on that specific niche. But then you just read about them, you get familiar with their process. Typically it goes pretty much like essentially the banking process. 

You essentially have to present your company, of course. They have to do certain diligence on your company, make sure that everything is in check. The amount of diligence that they do, it does really depends on their model and essentially on who they are, but that should be explained to you by them quite clearly. And that's certainly important for you to understand because, that will have an impact on how your company is presented.

And then you need to understand also that who is your company being presented to. Is it going to be these types of investors that fall into this non-accredited crowd? And then your expectations should be in line with that, that you can't expect to raise $10 million if the restriction on the platform says that it's a million tops or even half a million based on different types of statements that you can provide. So understanding the platform and the party that will arrange the financing or broker the financing, that's incredibly important. Because that's essentially who will oversee the process end to end and that's who will also help you in that. 

Their success rate is also important for you to figure out, that, have they been able to help companies like yours before? Because there are specialists all around. But essentially you need to make sure that you have the basic things in place for your company in terms of how to present and create this narrative around your company. 

And it's a little bit different depending on who you talk to. For example, the bank loan application. And certainly if you're working with an online lender that has a similar process and it's going to be quite similar. But if you're talking to a group of ultimately private individuals, maybe some family offices, some wealth individuals that invest essentially into smaller or medium-sized companies for their own personal reasons or out of their own personal cash. 

And it's going to require you to tailor your presentation a little bit. The financials of the company are these types of things, they are what they are, so those are quite factual. But once you actually get to the presentation, and you probably want to emphasize certain things. Let's say that, for example, you are a mission-driven company that seeks to empower, for example, agriculture in certain states. Then that could be something that resonates very strongly with certain types of individuals. So it's all about kind of honing that value prop and that key massage that your company actually promotes.

Like, for example, if I take it back to Crowd Valley, then we are working on essentially this democratization of the financial market, and that's something that we as a company really believe in. And that's certainly something that some other people believe in as well. But finding those people out of these marketplaces, that's important. 

But oftentimes these marketplaces and these operators, these online platforms, they are quite often, meaning that you should be able to have a conversation with them, get information about their process, hopefully also already from their website or the representatives. But certainly you should be able to get somebody on the phone and just talk through these things. Because one of their key roles in this market is education, investor education, but certainly business owner education, and just market education in general. 

Because ultimately, if you're able to be smart about who you approach, and how, and through what process, then that's in their very selfish self-interest as well, which is a good thing. Because ultimately you want the same thing as them, and you want to make sure that those things are aligned as far as possible. That you find the right investors through a structured and efficient process for the right company.



Jeff: And so at the end of the day it really is about educating yourself, taking the time to see what's out there. Learn all about online financing as much as you can. And we know that folks are busy. There will always be probably resources online that people can connect with, and no doubt people that they can speak with, that they can actually call up and get their questions answered. And that's kind of where we've come to in this part of the program, Markus. 

I know that you're so fixed, right in the middle of all of these tremendous developments and certainly it’s grown beyond just a cottage industry anymore, crowdfunding has really become front and center. A true option for business owners to consider when it comes to deciding how they are going to finance their next move, whether that means to grow their company or to start up a brand-new venture. 

Markus, if we have folks in the audience who may be interested in reaching out to you, should they have any questions that were unanswered in this program today, how can they reach you?

Markus: Absolutely. And I'd be very, very glad to continue the discussion. You can find our website at crowdvalley.com. On our website you will find a lot of research that we published, white papers, different case studies, different tutorials, which is our commitment for essentially generating educational material in this market, but also providing statistics on some of the activity that we've got. My own details, you can reach me at markus@crowdvalley.com. It doesn't matter how you spell it, it will all reach me anyway. Or then just get in touch with our team at info@crowdvalley.com.

And really, a lot of the work that we do is fostering this discussion around how these online financing marketplaces, both equity and debt, and cross various different asset classes, how those are changing the very practical things that business owners, but also different types of investors and lenders, go through. So in that discussion, if there's anything that I can do to be of service or helpful in, then I'm very happy to have that conversation.



Jeff: We appreciate that, Markus, very much, that offer to do that. And I hope that I can have you back on the program soon because I know that there is a lot of information we have yet really to cover. And because of the developments in crowdfunding as a financial resource for so many business owners out there, regardless of your stage of business ownership, there are more and more developments coming along, practically on a regular basis now. And so I'd like to be able to have you back on the program again.

Markus: Thank you, Jeff, and I’d definitely love to be back here.

And I'm not saying that once you see cash then you go all in, but rather research the portals, research the actors, research what they've been doing, what their diligence process is, how they handle the process, what fees they take.


Jeff: Thank you, sir. That's Markus Lampinen, he is co-founder and CEO of Crowd Valley Incorporated in the San Francisco Bay Area. I hope that you enjoyed this program. I know that I did. And I hope that you tell a friend about "Deal Talk." In addition to morganandwestfield.com you can find us on iTunes, Stitcher and Libsyn. "Deal Talk" has been brought to you by Morgan & Westfield, the nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen, until next time. Thanks for listening.

While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.
 
 
Resources (All references mentioned in the show)

Key Takeaways

  • A company’s intangible assets are critical in the appraisal of startups or early-stage businesses. The most important intangible asset is the management. You can have the best idea in the world, but “without proper execution, you're absolutely nowhere.”
  • The most important value driver in a startup or early-stage business is traction – the momentum or progress your business has made.
  • When seeking business financing, entrepreneurs should consider private equity or venture capitalists more than banks.  Unlike private equities, banks don’t necessarily add value to your startup or early-stage business.   

Read Full Interview

Jeff: Evaluation may be the last thing on your mind if you've been in business for a short time. But my guest is here to explain why it's important even for the youngest companies. If you're the least bit curious about how a professional valuation might help your new business, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk," brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.



Jeff: Hello and welcome back to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.

We know that many listeners to this program "Deal Talk" have their own businesses that are just getting off the ground or starting to show their first signs of their measurable growth. If that's you, congratulations. And since we're all about helping you raise the value of your company, we wanted to have someone join us who can talk about working with young businesses, startups or at least age ventures etc., to help them establish their values at an early stage. And to do this I'm happy to be joined by Mr. Pieter Stam, a professional business appraiser who specializes in valuations for newer companies. And he joins us from his office near Amsterdam in the Netherlands. Pieter Stam, welcome to "Deal Talk," sir, it's good to have you.

Pieter: Thank you very much. Thank you.



Jeff: Pieter, let's start by talking a little bit about you. There in the Netherlands we don't have a lot of contacts from the program. We've interviewed a couple of valuation consultants and also professionals in the M&A space from your country recently on the program, but let's learn a little bit more about you and what your area of specialty is, and the companies that you help as well.

Pieter: My background is basically I used to consult companies in turn around management and how to recover or restructure assets. After my masters I was basically headhunted to value companies in all stages of their life cycle. Particularly what I do is I try to simulate in a way the future. For that you need to have some of course … the normal … this kind of cash flow modeling. But also you have to put in strategic knowledge. Where do you think the company can be in a certain amount of time, and what is a normal horizon?

If you take a look at the whole value of a company, you subtract the debt and the assets, you're basically stuck with the intangibles.


Jeff: Why should the owner of a startup venture or an early stage business have their business appraised at such an early point in its existence?

Pieter: The most straightforward answer is probably to seek financing. But that is not nearly the most important thing. There are two things that I think that are really important. If you're at the very early stage, you have to make huge decisions. How will I enter the market, what is the market, who are my customers, etc. No valuation behind it. It will give you support with the strategic choices you have to make basically. 
And on the other hand, if you're still in the early stage but you already invested a lot of effort and resources, it's a way to value these efforts. And sometimes you want to take off shares from the other shareholders and you have to have a point in time to know what is it worth. And I think those things are really important because, for instance, what I tend to do is a majority of the time I do just discounted cash flow models. And sometimes enrich it with a Monte Carlo simulation.



Jeff: Tell us what that Monte Carlo simulation is. We've heard it discussed here before, but if you could provide us with some information as to why that's important.

Pieter: The Monte Carlo is a place in Monaco and they're famous for their big casinos, and that's where the name is coming from. It's like rolling the dice. If you have two dice in your hand the biggest chance that you throw is seven. But what happens if you throw a five or an eight? If you have a large cash flow model with a lot of uncertainties, you can simulate them.

So you can say, "Probably my market is growing with X rate, or my customers I will penetrate a new market so I expect." But what happens if those things aren't playing out? So you can say, "This is the bad case and this is the best case." So you know the bandwidth of the value of your decision making. And of course it's not like a hardcore science, but it gives you the idea and some know-how, which are good decisions and what's the impact of it.



Jeff: Pieter, can you tell me if the act of having a business valuation itself, the process of having a business valuation, that first one, is that something that can actually not just result in improved value but can that actually improve the value of a company itself if a company has taken the time to have their business appraised right from the start?

Pieter: Yes, definitely, because if you know the choices that you can make, all the possibilities, and you get consoled about those options in an early stage. And that's very difficult, because in that early stage businesses don't have money. But if they seek finance, and what we see here if you want finance you want to get finance from a bank, for instance, which I don't recommend for any early venture by the way. They want to have something more than just idea. The banks they need to have value. 

So in that whole process of putting a value on their intangible assets, in a way it's just an idea or it's just a group of people that are very intelligent. Even though they're probably very skilled, they still have to know what the result will be in a way from their decision making.



Jeff: So the intangible assets that really you're measuring in terms of value and providing that valuation to them, these are even more important aren't they when we're talking about appraising new, young, early stage businesses or startups. The intangible assets are probably more important in this particular case than they would be for an established company that has been in business for 10, 15, 25 years is that right?

Pieter: Yes, that's definitely right. When I appraise the business I tend to appraise the asset. I'm not interested in their depth structure or their... I tend to first take a look at, all right, what are just the assets worth, besides the whole structure having access to grapple the market or whatever. Because the assets itself and particularly the intangible assets, that is the real value of a company.



Jeff: We've been told that valuations are not necessarily just a measure of past performance and of the value of a company to the present date, but rather also forward looking as well, and can include potential... Is that true? Explain how that works.

Pieter: A lot of people that tend to look at a company, this is their track record. I expect the track record to be the same. And if the GDP is growing it will grow at the same rate. For instance, that's what you see with more mature companies, but with a startup or even an early stage venture you see that you have to anticipate on the future because you don't have that much history. And a majority of the time they're not making a profit. You can simulate what happened to see... For instance, we see when do they have enough mass to start making a profit. And you can use basically a multi-current simulation for that. 

Sometimes I have to tell people, "I don't think your idea's good enough. Or your business model is just broken. Maybe you should do something different. Be surprising. Enter the market in a different way." Sometimes I see businesses, they reinvent something but they don't do it better. They think they could do it better but the customer isn't thinking that way. So for me one of the most important factors is probably for early stage ventures that they have already traction, like the first customers. If it's a really early stage you can still tweak the product or the service. I think that is definitely important if you want to...



Jeff: Let me ask you this, Pieter Stam, what kind of reaction do you get from those individuals that you speak with, and you have to meet with these people and discuss what's driving their business, or discuss their product like you talked about or their service. And you tell them, "You know what, this isn't really working, or the potential here for failure certainly does exist if certain things aren't corrected." 

What kind of response do you get from them? Are people generally disappointed? Are they genuinely interested in hearing what you have to say? Just kind of give us some kind of indication of what reactions you've had to deal with in the past.

Pieter: Of course people are a bit disappointed, because they put a lot of effort in it and a majority of the time they're really passionate about the product. But if you report in such a fashion that they understand every step of a simulation of the valuation process you can point out the weaknesses. And of course they're not only weaknesses, sometimes the idea is great but the management team, for instance, is not good enough. There's always a way that they can stir it a bit. But sometimes they put in a lot of effort and it's worth basically nothing.

A good plan needs good execution. But along the way you find things that you have to change, or the market is changing, or you are changing. So you always have to keep in mind what is the dot on the horizon where I'm going.


Jeff: And it's what it is. And they continue to move forward with their original plans whether or not their plans would be able to result in anything tangible in terms of success. This is a great place to stop for just a moment because I want to take a break. And when we come back, Pieter, I want to be able to chat with you about value drivers and about these intangible assets in a little bit more detail to kind of get your take on some of the drivers and intangibles that you actually talk with these companies about and how they can start to make efforts to improve the value of their company and steer the ship in the right direction. My name is Jeff Allen, and I'll be back with Pieter Stam. He is a valuation professional based in the Amsterdam area in the Netherlands, and we'll continue our conversation when "Deal Talk" continues in just a moment.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on the future edition of Deal Talk.

Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com. 

Selling your business may be the most important business transaction you'll ever undertake so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834.

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That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. Morgan & Westfield will help you every step of the way. From helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers.

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Jeff: My name is Jeff Allen with Pieter Stam. He's a professional valuation consultant coming to us from Amsterdam today. And we're talking about the importance of valuations, business appraisals for new, young companies. We talk about oftentimes valuations, the importance of value drivers and we're going to start this second segment of this program by talking about that right now. 

Pieter, you've mentioned that when you're called in to appraise these businesses you're going to visit with these clients and then you will sit down with them oftentimes and provide your feedback, and let them know about ways that they can approve some things that they need to do in order to gain the growth, to get on the path, the trajectory to growth in the future. Let's talk about some of these important value drivers right now for young companies. I know that all businesses are different, but are there some value drivers that you come back to again and again to discuss with these companies and things they really need to focus on in the beginning?

Pieter: Yeah, definitely. And it's not that special. The most important value driver I guess is traction. Do you have first customers, do you have first feedback on your product and services? The whole idea... Can you keep on improving what you're doing? The majority of them that's the most important thing. 
And of course you have things like patterns, you have maybe brand names, or like proper social media exposure. Those things are important to create a buzz around you. But the most important thing is probably traction. You just need to have your first customers and have your first starting up the whole business. Because you go from an idea to have them serving and resolving problems. That is probably the most important thing.



Jeff: One of your specialties is obviously it's appraising intangible assets and you explained why that is very, very clearly in the first segment of the program. What are some examples of intangible assets that you can describe for us?

Pieter: I think the most important intangible asset is probably the management. And it sounds really strange because you can have a great idea but without proper execution you have nothing, really have nothing. And there is a famous quote and it's called betting on the horse or the jockey. The horse is the starter basically and the jockey is management. You can have the best horse in the world, you have the best idea, but without proper execution you're absolutely nowhere. 

That's probably the most important intangible asset. But of course you have the whole process of R&D or the whole being able to attract new challenge. Those things are really things that you don't see on your balance sheets basically. If you take a look at the whole value of a company, you subtract the debt and the assets, you're basically stuck with the intangibles. And from there on you see that the whole things like the know-how, the good will, the brand name, the reputation. And when someone wants to buy a company or you want to have new shareholder, or getting equity financing, those things matter a lot.



Jeff: Let's go back to what you'd mentioned a short time ago about new companies and that they should not seek financing from a bank in the beginning. Can you tell us why that is?

Pieter: That's because banks they don't add any other value, and a majority of the time they're just money. And money by itself is not interesting at all. It's like if you have a venture capitalist, or private equity, or whatever, if they invest you can access their networks. Maybe they will be able to give you the first traction. It becomes easier to enter the market. And there's scientific evidence that companies that get funded by private equities they probably enter the market quicker, they are more successful. Because private equities, when they do their due diligence and they think, "We can make a profit out of it," that is by itself already a value a driver. Because if private equity doesn't want to invest in it, probably it's not a good company.



Jeff: This conversation with Pieter Stam has really been very interesting and very eye-opening indeed from someone who obviously, a former new startup business owner myself, it's been many years in the making now. But had I known then what I know now I probably would've been a much smarter individual from the beginning. Pieter, I want to wrap up this segment of "Deal Talk" by asking you if you can leave us with a few parting words, some final thoughts, recommendations that you have for new business owners, new entrepreneurs. Maybe they've just launched their companies, maybe they've been in business for a year or two. What can new businesses do now, young businesses do right now to work toward improving the value of their companies at the very early stages?

Pieter: The thing with the valuation of a company, in a sense it's very subjective because, like I mentioned before, if you get backed by private equity they provide more value than just money. They help you in other ways if they're the proper investor. 

That's a thing that probably you have to always keep in mind. So if someone gives you a value of your startup, or your early stage venture, or whatever, you always have to take a look at how they made the valuation. Because in my case I make a forecast. And if you take a look at the forecast you have to make a lot of assumptions. And if he or she is doing a good job the assumptions make sense, you can learn a lot from a valuation in such a fashion. 

If you do it at an early stage, which is quite funny if you're an early staged venture. You can still pull some strings to redirect your venture and do maybe some bit of difference to teaching decision making. And I just think that a good plan needs good execution. But along the way you find things that you have to change, or the market is changing, or you are changing. So you always have to keep in mind what is the dot on the horizon where I'm going. And I think that's probably the most important thing.



Jeff: Pieter Stam, this has been, like I said, an eye-opening conversation. We appreciate your time. We really enjoyed it. And hopefully in the near future we can have you back on the program again. Thank you so much once again for joining us today.

Pieter: Thank you.

If someone gives you a value of your startup, or your early stage venture, or whatever, you always have to take a look at how they made the valuation.


Jeff: Tell a friend about "Deal Talk," won't you? In addition to morganandwestfield.com you can find us on iTunes, Stitcher and Libsyn. "Deal Talk" has been brought to you by Morgan & Westfield, a nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen. Thank you so much for listening. We'll talk to you again soon.

While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • Businesses can benefit greatly by taking a systematic and critical approach to negotiating their contracts.
  • It’s important to understand that the relationships that business owners have with their supply chain members are in fact partnerships, they go both ways.
  • When evaluating your supply chain, first look at the performance of your current suppliers then look at agreements with the suppliers.
  • Talk to other companies and find out who they're working with, what they liked about them and what's effective.

Read Full Interview

Jeff: Is your supply chain working for you or is it holding you back and costing you serious money? If you're looking for answers to help you fix potential supply chain issues, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world, this is "Deal Talk," brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.



Jeff: Welcome to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.

Joining us back here on the program to talk all about supply chain management and how to heal those relationships, or if they're not broken at least improve them, is Mr. Tim Van Mieghem. He is a partner at the ProAction Group in Chicago, Illinois. Tim, good to have you back on the program, sir. How are you?

Tim: I'm doing well, Jeff. It's good to be here with you. Thank you.

When I negotiate every dollar of benefit that I negotiate for myself is a dollar out of your pocket and vice versa, there's no value created. When we're negotiating between two companies to provide a product, we can negotiate many items beyond price. … We can negotiate those issues and develop a contract where we actually create value.


Jeff: Thank you. Today we're talking about supply chain logistics. When we think of supply chain, many of us immediately consider manufacturers first and foremost. But might this discussion that we have today, Tim, also be helpful to other types of businesses and industries as well?

Tim: Yeah, absolutely, Jeff. And certainly when you think about cost of goods sold for a manufacturing company the cost of direct materials can be 60% to 80% of the cost of goods sold. So clearly for manufacturing companies negotiating good contracts with our suppliers is absolutely critical.

Distribution is the same. And one thing that I would add to it there's a complication with distribution companies. Oftentimes they're selling products that are branded and their customers are committed to buying a certain brand. And a lot of distributors we work with think that if their hands are tied because of that pull-through, and that perhaps their ability to negotiate a better deal is limited. 

Health care is another great example of a company that can benefit greatly by negotiating contracts. And to some degree as well it may not be the largest item on the income statement, but even professional services and service-based companies are still spending money every month that can be improved, sometimes dramatically, by taking a systematic approach and critical approach to negotiating their contracts. 



Jeff: So we're really talking about supply chain as far as... This is part of a company is doing business every single day. A portion of your supply chain is affected by what you do and your business is in turn affected a little bit by what they do, by the amount that they charge you by delays in service, by breakdowns. Whether any number of things that could influence the cost that you pay both in the short run and in the long-term because these costs that you end up paying, these expenses could really mount up, Tim, I think that you would agree.

Why is that, do you think, just kind of based on your travels and dealing with your clients, that so many business owners fail to take note of issues in their supply chain that could be holding them back from continuing to grow as an organization, and continuing to improve that value over the long run?

Tim: That's a great question, Jeff. And I think there's a couple of really important pieces here that prevent people from really evaluating it, knowing what's possible. The first one is I think it's the basic tendency that many of us have to look at price as the primary issue when negotiating with our suppliers and looking at our supply chain. And that is such a limiter. 

And actually one thing I will tell you that's kind of counterintuitive is that when we do an assessment and we talk to the people who negotiate purchasing contracts in a company, the more hardcore they are in terms of talking about getting the best price the more we find that we can help them dramatically improve the cost structure. 

And when we sit down and we work to become a good customer to a supplier, and we sit down and we have a rational, thoughtful conversation about who should do what to minimize the total cost of the supply chain, we can create a ton of value for our collective supply chain and how we serve our collective customers.


Jeff: Interesting.

Tim: Yes. When people talk about how they have a really hardcore negotiator it's often an indicator that they've been focusing on price and that there's great opportunities to improve. There's a second one too which is, it's that old comfort zone issue. 

And here's what I'm talking about here. Our biggest dollars when we're looking at what we buy in our supply chain are what I would call direct materials. It's the items that go into our product. So for a manufacturing company it's our raw materials, our ingredients, our purchased goods and services. If we're a distribution, it's the products that we sell to our customers. 

These are oftentimes they're strategic relationships. And what I found is that people get comfortable with their existing supplier and they do not like having a difficult conversation periodically that we're going to be putting it out to bid. And in fact they're concerned that they could disrupt their supply chain if they go down that path. And so there's a certain level of fear of change and of unknown that kind of prevents people from taking a deeper dive.



Jeff: And also, too, I think that there could be a comfort factor with the fact that you might believe that, "Hey, I've been with this guy for years. He's given me the best possible deal I could possibly get from anyone," when in fact that deal may be on price but there may be certain limitations that you don't understand that exist that maybe the guy down the road or someone across town may not necessarily be limited to providing you. And it may be better deliver time, shorter delivery times, maybe more trucks on the ground. It could be any number of things, right?

Tim: I'll give you an example. We just completed an assessment of a client spend for labels. It's a healthy spend, $2 million a year. And they've been buying from the same company for almost 20 years. And we put it out to bid and have looked at and received bids from alternative suppliers and here's what we found. There are suppliers who have different technology than the supplier we're using today. 

We also have different locations. You can serve in a different way the different plants and factories that our customer has. And in fact what we found is that the alternative suppliers that we're talking to can provide the same or higher quality product. And I'm talking about a 25% to 28% cost reduction. So this is something that occurred over time. We had a supplier that worked for us when we were a certain size, and a certain area, and a certain location. And over time they became less relevant and we never looked at it until very recently. And now when we look at it we find a tremendous opportunity, and you hit on a really important topic.

Back in the old days, it was the good old boys club. One of the primary methods that people use to select their suppliers was who they have a good relationship with. And then they then worked with that supplier and do the best they can. What we're doing today, it seems a little cold, but it's so much more effective, is you find the company with the right infrastructure that has the ability to serve you and your customers in the lowest cost and in the best, highest quality methodology possible. And then you build a relationship with that company. It's completely flipping the model on its head, and it works.



Jeff: And so really though, one of the keys I would think though is you've always got to have added value in mind, what is it that this next company over here can provide me that I'm not getting over here? Maybe it's for the same price, maybe it's for slightly more. But this is all business, this isn't personal here. We're trying to do things to help us get that ... 

I've got a plan to sell my company about 10-15 years and obviously I want to get as much for it as I can. But if I'm losing money here, and all of it seems to be invisible to me, I've got a guy, Jerry here has been great to me. He's fantastic. We've been working together for many years, that doesn't make any difference at the end of the day really because ...

Tim: Here's another quick story for you, Jeff, that tells this pretty well. We negotiated for a company a whole bunch of different things but including their outbound freight, their truckload shipping. And it wasn't a big spend. It was about half a million dollars a year, and the person who was doing it currently was a personal friend. And in fact their kids stood up at each other's weddings. And they had a long-term relationship. As it turned out we found an alternative that would save him $100,000 a year. And you know what the conversation was between the CEO of the two companies?



Jeff: What's that?

Tim: He said, "I love you, man, but I'm not going to write you a check for $100,000 a year."



Jeff: How did that go?

Tim: I'm sure it doesn't always end this well, but in this case the guy said, "That's the right choice. They're a different company, they're set up to serve you, and I understand." And it was truly the right decision. There are many times where companies decide to stay with the current supplier, but here's what I want it to be is a conscious choice with the facts on the table.



Jeff: Tim Van Mieghem is with us and he's been with us before here on “Deal Talk.” He's a partner at the ProAction Group, and we're talking about supply chain. We're talking about improving those relationships in your supply chain. And in fact Tim Van Mieghem is the author of a book, textbook, “Implementing Supplier Partnerships.” And this is really important because we don't tend to think of our partnerships and our relationships as partnerships with the suppliers and our vendors so much I think as much as we need to because really it's a two-way street, we're helping each other here, right, Tim?

And so you've got this book, “Implementing Supplier Partnerships.” Tell me, Tim, in your studies of kind of the improvements that are required, the relationship building that is necessary, in order to get the best value out of the partnerships that you should have with your suppliers and all of those vendors and people along the supply chain, what are two or three of the areas within that supply chain where businesses tend to lose the most money whether due to high cost or losses resulting from inefficiencies?

Tim: Sure. Another good question. Let me provide a little bit of a thought background on this, too, because we talked about price before. Here's the one big aha that really helps to paint a picture of why this is so effective. When we negotiate, for example, for a used car and it's a one-time deal it's a zero sum gain negotiation. 

When I negotiate every dollar of benefit that I negotiate for myself is a dollar out of your pocket and vice versa, there's no value created. When we're negotiating between two companies to provide a product we can negotiate many items beyond price. We can negotiate inventory programs, hedging programs, pricing terms, quality, new product development, when does title pass, how do we ship the product, and 20 other issues. Here's what's wonderful about it, is that we can negotiate those issues and develop a contract where we actually create value.

One of my favorite examples comes back to a tour I took of a forklift factory. One of the stories that came up was a supplier was coming through a factory that provided the wheels for the forklift company, the steel wheels. And they noticed that when they brought the wheels in the first thing that happened is they went over to a drilling station. And the representative from the supplier asked them, "What was going on here? Because once we receive your wheels we bring it over here and we've changed our drawings and we've added some things that we needed to put a couple of additional holes in these areas for this new application that we have." And the supplier said, "If you let me know, I can do that and I can actually design it into our computer, design our CNC machines and have it done automatically." 

This might seem like an obvious example, but, Jeff, I'll tell you, one, it happens all the time because people don't have time to review every process and have these kind of aha's. But what this exemplifies is that if you move a step to the right part of the supply chain you can dramatically change cost structure. And when we sit down and we work to become a good customer to a supplier, and we sit down and we have a rational, thoughtful conversation about who should do what to minimize the total cost of the supply chain, we can create a ton of value for our collective supply chain and how we serve our collective customers. 

And that's the first half of our negotiation. Our negotiation process is set up to understand that dynamic and to negotiate to provide the best cost structure and service to our collective customers. Then the second part of our negotiation is how do we divide up that value, and that's where we have the negotiation about things like price and what terms do we get and what do we give to the supplier. That process is where a lot of the value to the company can come from sourcing.



Jeff: This is a really important conversation we're having here, Tim, and I hope that our business owner audience, our listeners do take note of some of the things we're talking about because I think so much of it can't be taken for granted, particularly when you might think that you've already got some very, very strong relationships that are built on trust over the years. But there are always things you needed to do and take some time to re-evaluate particularly if you own a business where the supply chain plays such a vital role and such a vital part of your being able to satisfy your own clients.

My name is Jeff Allen. I'm going to be back with Tim Van Mieghem. He's partner at the ProAction Group in Chicago. We're talking about supply chain management or supply chain rather partnerships and your relationships with your supply chain members. And we're going to do more of this when we return on "Deal Talk" right after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on the future edition of Deal Talk.

Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com. 

Selling your business may be the most important business transaction you'll ever undertake so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834.

At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process.

That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. Morgan & Westfield will help you every step of the way. From helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers.

Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance.
Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.

If you have any questions about any of the topics you've heard us discuss here on "Deal Talk" all you have to do is ask. After all, this show is committed to bringing you answers and finding solutions. Simply call our Ask Deal Talk info line at 888-693-7834 extension 350. Follow the instructions to leave your question and we'll reach out to one of our guest experts so we can feature your question and their response on a future edition of "Deal Talk." Once again, that's Ask Deal Talk, 888-693-7834 extension 350. We're also interested to know your thoughts about the program in general. All you have to do is simply send us a quick email to dealtalk@morganandwestfield.com. 

Jeff: I'm Jeff Allen with my guest Tim Van Mieghem, partner at the ProAction Group. We're talking about your supply chain and how you should work toward kind of bolstering those relationships with your supply chain partners. And really it's trying to have that mindset, maybe change the mindset that you might already have to understanding how these relationships that you have with your supply chain members are in fact partnerships, they go both ways, OK. But you need to really think first of all about your own business first. Are you really getting the value that you need to get from these partnerships, from these relationships to keep cost manageable while continuing to bring that value of your company up and delivering to your clients in an efficient way that helps them get what they want, you get what you want, your supply chain members they get what they want? Everybody is a winner across the board. I think, Tim, at the end of the day that's what we all want.



Jeff: I would like to ask you about the process. I'm a business owner and I am re-evaluating my supply chain from top to bottom. Walk us through the process. How do we start to take stock of things where a supply chain is concerned in order to start to make some improvements that are going to get us the results that really we're looking for?

Tim: Sure, good question. Here's what we do. If somebody asks us to look at their company, here's what we look for to find the smoke that tells us there's fire, the indicators that there's opportunities to perhaps get more value out of our supply chain.

The first place to start is to look at the performance of our current suppliers. Here, I'm going to start with things like inequality issues and returns. What kind of support are we getting from our suppliers for new product development? And I'm going to talk to the people in my company in each of the different departments and I'm going to ask them questions about which suppliers are your favorite, why are they your favorite, which suppliers make it more difficult for you to do your work, which ones would you prefer to not work with again, which ones would you like to work with more? 

It's amazing what you learn. It's like that old Yogi Berra quote, it's amazing what you see when you look. And by looking at this and asking questions we find out so much where there's pain that we may not have known about it before.

The second thing we like to do is actually look at our agreements with our suppliers. And this first assumes that there are documented agreements. If there are not documented agreements, then that is a meaningful sign that there's an opportunity. If we are not measuring something, then it's difficult to know that we're doing it well. So that would be the next piece. 

And here's a real important tip when we look at our agreements. There's two kinds of agreements that we consider to be technical and ineffective. One, our agreements that are less than a year where we're essentially negotiating each need as we go. And the other one is what I consider evergreen contracts which are ones that essentially just go on infinitum. Neither of those provide value. 

A supplier, what they want is commitment. They want to know that they're going to have your volume over a period of time. That is how they can evaluate their ability to invest in you as a customer. So if we're simply negotiating for the next order or for one year, that's a very short period of time that they are getting a return on any investment they make in you as a customer. 

If it's a very long term contract where it continues to just get renewed, then in a sense it's never being reviewed. And it becomes a cash cow for the supplier. It becomes something that they assume. What we want, what typically makes sense in many cases a 3-to-5-year contract that provides a real window for the supplier to get a return on their investments in us as a customer. And it gives us a real window to go back to the market and test our agreement, and see is this still the best supplier, is this still the hungriest supplier, is there someone out there who's better for us, and for our customers, and for our shareholders? And many times we end up staying with the incumbent and we simply improve our contract, and there are other times that we change.

Another step that we take is we talk to our suppliers. And we ask them how good are we as a customer to you, what could make us better, what are your best customers doing, and what do we have to do to be a better customer? What do we have to do to get the best deal that you offer? And it's amazing what we learn by asking these questions. 

Here's the basic premise, Jeff, on this line of thinking, is that if we want to get more value out of a supplier relationship, we want to be the customer that we can. We want to be easy to work with, we want to be dependable, we want them to be able to count on us and to have good transparency. And to be flexible in allowing them to solve our issues in the most efficient way possible. We could tell stories all day long about examples of this but having those conversations is a great place to start. 

And the final one I'll mention is talking to peers. Talk to other companies and find out who they're working with, what they liked about them, and what's effective.



Jeff: Tim, do you have any other maybe examples or stories for us of maybe some clients that you've worked with who had some what you might consider somewhat common or... I won't necessarily say every day, but maybe a situation with the members of their supply chain regardless of exactly what function that they perform where they had this issue. It was something that was longstanding, they couldn't see it, but they were able to make a small change, or maybe even just through conversations or something, able to turn their situation around and save them a lot of money.

Tim: Here's a great example. This is a food client that manufactured a retail item that people would consume and eat, and their negotiations with their packaging suppliers. So suppliers have provided labels and the cardboard packages with graphics, and the boxes that you use to ship. 

What was happening is that, and this is one of the examples of a client that had a really tough negotiator, negotiating with suppliers and prices all the time. And one of the things that ended up that they did to negotiate a good price is that they would commit to buying an entire season's worth of packaging at a time. 

So they would commit to... Let's say the next three months they would commit to a volume and they would have three months to take it over time. What ended up happening is we looked at their inventory, they had inventory left over from last year, very often. And here's the problem with that, is labeling requirements change every year. Products change every year.

So they're getting a good price. And actually in their income statement, based on what they actually sell, they're able to show a good profit margin. But for a company as a whole they've got this balance sheet with items on it that they can never use, that they're going to have to write off at some point, and it's going to hit their income statement anyway. But it doesn't hit the regular cost of goods for the items that they're selling. 

Here's the reality. Packaging suppliers today, many of them have gone through the lean manufacturing transformation. And they have improved their processes, they've changed over times, and now there are suppliers out there who offer the good pricing without requiring that you buy a whole year's worth of product at one time, or a whole season's worth at one time. 

Here's what we're able to negotiate. Their inventory levels went down by 80%. Every single week they would simply let the supplier know what they used, and that supplier would replenish that and send out a shipment every week. So their inventories fell through the floor. And their cost per unit was down by 20%. So we negotiated a 20% improvement and we eliminated this obsolescence issue and excess inventory issue that we were fighting with the whole time. 

This was a great example of stepping back and looking at the market to find a supplier who had the actual capabilities to supply what we needed.

And what I found is that people get comfortable with their existing supplier and they do not like having a difficult conversation periodically that we're going to be putting it out to bid. And in fact they're concerned that they could disrupt their supply chain if they go down that path. And so there's a certain level of fear of change and of unknown that kind of prevents people from taking a deeper dive.


Jeff: There are cases, Tim, where it's just not always really that obvious, right? You could be losing some money and you could be scratching your head thinking, "I'm not exactly sure where this is going or why this has become such a problem?" But it's true that you sometimes kind of have to step outside yourself and have a third party come in and kind of take a look at the environment, don't you?

Tim: I think that's a very good example. I always would start with our internal pain, what pains do we feel and let's make sure we address those. But the other piece of this that's so easy to forget is good companies can get to become great companies by challenging even the things where they're not obvious, where they don't have pain, and just by simply talking to their peers.

And of course I love the idea of bringing in external consultants who can help identify areas that may not have been obvious for other reasons.



Jeff: Tim, we've no doubt got people out there in the audience who will probably taking a look now at their own particular situations with regard to their supply chains trying to get on top of any issues that potentially they could be facing right now or determine whether or not that there any concerns they might have. But if someone wanted to kind of pick your brain and maybe potentially talk to you about their particular situation and having your company help them deal with issues that they might be having, how can they reach you?

Tim: Well, they can certainly go to our website, which is www.proactiongroup.com. They can send me an email at any time, which is tvm@proactiogroup.com, or call our company at 312-726-6111.



Jeff: Tim Van Mieghem, once again I appreciate your time and you taking just kind of a moment out of your schedule to chat with us a little bit about a very important topic indeed. And we hope that at some point we'll able to revisit with you one more time.

Tim: Thank you, Jeff. It was such a pleasure to be here with you today and I look forward to talking to you soon.



Jeff: There he goes, Tim Van Mieghem, partner at the ProAction Group has been my guest and we hope you enjoyed this discussion. 

Tell a friend about this show, won't you? You can always find us at morganandwestfield.com. Remember the name of the show, it's "Deal Talk," and if not morganandwestfield.com, iTunes and Stitcher also carry the program.

"Deal Talk" is presented by Morgan & Westfield, a nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen. Thanks so much for listening and we'll talk to you again soon.

While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • Increase customer diversification. You are decreasing the value of your company if your business depends entirely on certain contracts.  With a diversified customer base, you are able to lower the risk involved in buying your business. 
  • Develop recurring revenue streams. An appraiser will typically put higher value on a recurring revenue stream than on non-recurring.
  • Include assignment clauses on all key contracts. There should be an assignment clause in your key contracts specifying that in cases you sell the majority of your company’s assets, you can assign those contracts to the buyer.
  • Reduce discretionary earnings. Buyers expect a minimum amount of discretionary earnings in your business.
  • Increase profit margins. Profitability tends to be more important than revenue.
  • Get organized and stage the business. Just like when selling a home, it is essential that your business is organized and staged for the sale. As what Anja emphasized, “You never get a second chance for a first impression.”
  • Clean up pending lawsuits. Always consult an attorney whenever you make legal decisions because “every situation is unique.”
  • Be a big fish in a small pond. Position your company as a leader in any aspect of the business – you could be the best service provider or maybe the one with the best technology.
  • Spread know-how. When thinking of exiting your business, it’s important to spread the “know-how” to key empoyees. Potential buyers want to be assured that the business can continue to run without you at the helm.
  • Create golden handcuffs for key employees. You may structure the sale in a way that you allot a certain amount of the sale proceeds to your key employees.  That way, you get the support of key employees and at the same time, you “alleviate” the fear of the buyer about key people leaving when you walk out the door.

Read Full Interview

Jeff: They say the best things in life are free. So if you're interested in 10 free tips to help you increase the value of your business from a highly successful certified business appraiser, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world this is "Deal Talk," brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.

Jeff: Hello, and welcome back to the web's number one content source for small business owners committed to building a business for eventual sale. Here on "Deal Talk" it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.

Whether you have recently had your business appraised or not, you've picked a great show to listen to, because if you're like most of us, you want to know concrete ideas that would help you to lift the value of your business. On this edition of "Deal Talk" we have not one, not two, but 10 ways to increase the value of your company. And to explain what these ideas are, I'm joined by the certified business appraiser who put this list together, Ms. Anja Bernier, the managing director of Efficient Evolutions LLC in Boston. Anja Bernier, welcome to "Deal Talk," good to have you.

Anja: Thank you very much.

The idea here truly is that you try to build a customer base that's not specific to a particular industry, so that you have more of a cushion to any events that hit particular industries very hard. 


Jeff: You have written a document here called “10 Ways to Increase the Value of Your Company.” And I would like to go over that with you today and give our listeners a chance to understand what it is that they can do or what they need to be thinking about. Let's go ahead and we'll take these one by one if we could.

Anja: OK.



Jeff: Item number one in your list, increase customer diversification. Now, if I'm a business owner and I've had my business for many years, I may be happy with my customer base or kind of what I'm doing, but why is that important?

Anja: Customer diversification is really one of the factors that play a crucial role in the value of a business. And also when it comes to the perspective of a buyer on what the perspective is on how much risk is involved in buying your company. And obviously risk is a major factor in any valuation. The reason for that is that a high customer concentration typically obviously means that your business is entirely dependent on certain contracts. So as a buyer and an appraiser will have the same perspective, the question always is what happens if this contract goes away? 

And you have to keep in mind that as a buyer the perspective or the suspicion, I should say, will always be that a lot of these contracts that are focused on just one customer entail a very close personal relationship between this customer and you. And since you as part of the exit planning will be leaving the company, a potential buyer would be very concerned that that specific customer will leave because you are leaving, because they're really with you because of you. So that is the major factor, a major issue.

And the idea here is that the more customers you have the less likely it is that they're all going to leave at the same time. Think about it, what are the chances if you have 50 or 100 different customers that they all decide within the first 12 months of the acquisition to leave? However, if your business really mostly consists of two, three customers, chances of one or two of them making that decision, therefore in a sense ruining the business, are quite high, so that would significantly decrease the value of your company.



Jeff: I think it's a very, very important point to make, and one too that it goes beyond making every effort possible to keep your happy, satisfied customers, long-term customers with you, keep them in the fold. But you talk about increasing the diversification. Can you give us an example maybe to crystallize more the idea of diversified customers, what it exactly means as far as diversifying? We're talking about obtaining new customers through different industries or product offerings that you might have. Is this talking about maybe trying to work sales channels by increasing your customers maybe in a certain part of the country, for example?

Anja: Yeah, sure. The answer here really is all of the above. I use the example of 9/11 and what happened to companies that primarily sold to the airline industry. If you were a business at that time that was entirely focused on that industry, with the airline industry going into a tailspin after 9/11 you really had no option. A lot of them went out of business. So the idea here truly is that you try to build a customer base that's not specific to a particular industry so that you have more of a cushion to any events that hit particular industries very hard. 

The other ideas, today, it's a global world and few recessions hit worldwide with the same intensity. Sometimes it's even possible America might be in a recession and Europe might not be. Oftentimes, obviously, they coincide, but the severity is not necessarily the same. So there's another thing, if you have a product or service that can be sold worldwide it certainly would be a good idea to be looking at worldwide diversification.

And also, coming back to having high customer concentration, were the slow ones. Obviously some businesses will find themselves in this situation where that sort of just, it is the way it is. That is their business and it's very hard for them to change that with short notice.

That said, if you are in a situation where you do have high customer concentration, what you should try to do that you mitigate the risks associated with that, but at least tying these people to you either contractually or by certain services. I had a customer a few years ago, it was a printing company. And what they would do, they were offering their customers free printing plates in exchange for the customers to agreeing to a multi-year contract. Without that offer they would not have agreed to that. But by having them locked in into a multi-year contract that made them more attractive in a sales situation.

Or another customer developed an inventory management software that they sold to their clients at a very low price, essentially at break even. And just to make sure that by using this software the customer became more tied to them and make it more difficult for them to leave, because they would lose access to the inventory management software. And I should add, inventory management software was not the main business that this customer had. They just developed this as a tool to tie people to them. 

So there are many ideas out there that you can implement. You have to think about what industry are you in, what can you offer to your customers to entice them to either sign a multi-year contract with you, and or to tie them to you by other means with the example of the inventory management software. They simply can't leave because they really need access to that inventory software program.



Jeff: So really talking about value added services there to help in retaining those customers. We're talking about the 10 things that you can do, 10 ways to increase the value of your company as you are preparing to sell it, whether that be three years, five years down the line, whatever the case may be. And Anja Bernier is our guest today here on "Deal Talk." Number two, develop recurring revenue streams.

Anja: Sure. That's a perfect example. Buyers love recurring revenue streams. And when it comes to valuation, I can tell you an appraiser will put higher value on a recurring revenue stream typically than on non-recurring. Non-recurring meaning it's the type of revenue stream, it's generally one. And each year you sort of have to go out and win new customers again. Recurring revenue stream really means that you have an existing customer base that you can count on. 

Giving you an example. Hewlett-Packard sells you that printer for next to nothing, but by doing that they sort of know you're locked in and buying their ink. And where they're really making their money is the ink. So by knowing how many printers they've sold there's sort of a recurring revenue stream coming from the ink. Same is true with Gillette, with razor blades. Given the certain amount of razors being out there in the world, there's an expected revenue stream from the blades. 

For example, I had a client a few years ago in the home automation field. And at some point the owner of that company realized that it made more sense for him to install alarm systems at below or break even pricing, because that would allow him to then sign them up for alarm monitoring subscriptions. And that said, if you could think about it, installing an alarm system is a one-time thing when a house is built, and then there's no more revenue from it. It's a perfect example of having to go out again and find a new customer once you finished the installation. 

However, getting a subscription to allow monitoring means you have a recurring revenue stream. Every month you can build these customers. And in this case he was even able to then turn around and sell these contracts to some of the large national alarm monitoring companies who pay a lot of money for buying up these kind of contracts. That definitely increases the value of your company significantly if you can think of ways of creating recurring revenue stream. 

For example, if you have more on the manufacturing field, think about, for example, adding maintenance service plans to your portfolio. A good example is I recently bought a new QuickBooks subscription and they make you sign up for signing where you get support every month so they can bill you. Or maybe it's not QuickBooks. There are many examples like that where you can think of something where you really get access to a revenue stream that comes every month instead of just being a one-time deal. Buyers love that.



Jeff: That'll take us to number three. We were talking about contracts just a moment ago, so we'll segue into the next one: have assignment clauses on all key contracts. What do you mean by this exactly, Anja?

Anja: This is really crucial, particularly for smaller businesses. And with smaller business, I really mean businesses realistically that have a value in a sale of less than about $10 million. Because about 90% of these will be sold in so-called asset-based sales, meaning technically you're not selling the company, the legal sale, whatever it might be, an LLC or an S-Corp. What you're really selling is the assets of the company, your tangible and intangible property. It could be customer contacts, it could be actual machinery, whatever it is. But you retain the legal shell of the company.

This causes an issue, because if you have contracts with your customers, or any other material contracts that can be assigned, the buyer of the company has to go out and ask these customers to re-sign contracts, which many times they just simply probably won't do. However, if you have an assignment clause in all of your material contracts specifically say that in cases where you sell the majority of the assets of your company you can assign these contracts to the buyer, that'll make the process much easier, much smoother, and again, it will have an impact on the value of your company.



Jeff: That's huge. And just think about it again. Any time you can make the situation easier on the buyer, and there is less to do or less for them to worry about in this process, and they know that once the business transitions over it's going to, number one, of course, it's going to elevate the value of your company, but it is going to create for a much smoother process. There's going to be fewer headaches down the line, and less of a chance that's someone's going to come back to you later on and say, "Hey look, we need your help doing this. This is something we can't figure out."

I've got Anja Bernier on the line with me, president of Efficient Evolutions LLC. She's a certified business appraiser and CVA as well. You're listening to "Deal Talk." My name is Jeff Allen. We're talking about 10 ways to increase the value of your company, and this is really giving you some things to think about as you prepare to sell your business down the line. It doesn't matter whether that's going to be in three years or maybe even 23 years from now. Number four on your list of the top 10 things to do here: reduce discretionary earnings, Anja.

Anja: Yeah. That is, obviously, once again, one of the ones that apply to almost any company. And because we're obviously talking here about privately held companies. As we all know the typical privately held company has a certain amount of what I would call most people in the industry called discretionary earnings, which means it's the kind of expenses and thus earnings because they really create a benefit to you as the owner of the company that are maybe technically speaking are not 100% business-related. Let's just leave it at that euphemism. 

It could be travel expenses where you may or may not have gone to a conference and stayed a few more days. It might have been a meal that you may have spent with a client but you may have also taken out your wife, who knows. Those are just some of the examples. Or you may employ a family member who doesn't actually work there, or you're paying a family member above market rate. So those are the typical examples of discretionary earnings to an owner. 

And what it really means is if you have a lot of discretionary earnings, any buyer will sort of expect there is the minimum amount of discretionary earnings in there, and would probably during the sale process, the opening, sort of indicating this and that areas of expenses that would go away if you leave the company. However, if you really put that to an excess, especially if you have a cash-based business and you go even further that you don't record all the cash that comes in, something I certainly don't recommend to begin with. But if that's something or a practice that you have been using, think about it this way: 

If you're selling your company, on average you'd probably get about $3 to $5 for every dollar in earnings that you generate. That's a very rough ballpark. Of course, it could be more or less depending on the specifics, but let's just stay with three to five. So for every $3 to $5 you show on your tax return you then only have to pay, if you show it on your tax return for two years given the maximum tax rate being 40%, which means 40 cents on every dollar. So even if for two years on every dollar you pay suddenly 40 cents taxes, which is unlikely. Most companies don't even pay the maximum tax rate, you would end up paying 80 cents over two years for every dollar. But you get during the sales process between three and five for every dollar that you can prove exists. 

And those are just some numbers that are important to keep in mind. And this is actually where in many ways I have to say blows my mind on how difficult it is for a lot of business owners to just go ahead and do it. Put it in the tax return, prove that it exists, because again, it's 80 cents in expenses whether it's a potential gain of several dollars. It just really makes sense to do that. 

If, for whatever reason, you can't clean up legal issues before you put the company up for sale, at least be open and upfront about it. Disclose all these issues right away. Have the paperwork ready. Very few issues truly will derail a deal as long as you're open honest about them. 


Jeff: Ten ways to increase the value of your company. My name is Jeff Allen. I'm going to continue my conversation with Anja Bernier, President of Efficient Evolutions LLC when “Deal Talk” returns after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on the future edition of Deal Talk.

Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty, and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com. 

Selling your business may be the most important business transaction you'll ever undertake so don't do it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834.

At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process.

That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. Morgan & Westfield will help you every step of the way. From helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers.

Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance.
Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.

If you have any questions about any of the topics you hear us discuss here on "Deal Talk," all you need to do is ask. That's it. This show is committed to bringing you answers and finding solutions. This is your program, after all. Simply call our Ask Deal Talk info line at 888-693-7834 extension 350 with your question. 

We're also interested to know your thoughts about "Deal Talk," what you like, and your suggestions on how we can improve our program for you. And to do that all you have to do is send us a quick and easy email to dealtalk@morganandwestfield.com. Once again, dealtalk@morganandwestfield.com. 

Jeff: Jeff Allen with you today. Anja Bernier is my guest, and we're talking about the 10 things that you can do as a business owner to improve the value of your company. And that's kind of with your eye on selling your business, and all of us kind of look forward to doing that at some point one day. And Anja Bernier, we really appreciate you joining us today on this program.

This list is something that you came up with a few years ago, and we're kind of going by each one by one. And we've left off on number five. We still have a total of six steps to talk about too, six things here to talk about. Number five, increase profit margins. This sounds simple enough, and it sounds like something we should all be mindful of all the time.

Anja: Absolutely. It seems like a no-brainer, but the reality of the situation is that oftentimes what I see is that business owners lose sight of the fact that driving sales while at the same time recording decreasing profit margins will not do you any good. And that's really the sum of it all. Oftentimes what I see is that business owners will go after contracts just to record the additional revenue without really thinking through how profitable is this additional contract.

And what you should keep in mind is that from a buyer's perspective, profitability tends to be more important than revenue. Meaning that for a typical buyer, a company with $6 million in revenue and $1.2 million in profits, so 20% profit margin, is more attractive than a company with $7.5 million in revenue and $900,000 in profit, so 12% margin. So just because you increase revenue does not mean you're necessarily increasing the attractiveness of your company. 

So what you should really be doing is think very hard and long about how do you monitor additional revenue. You should also make sure that, for example, if you have a sales force, that you have incentives plans in place that reward your sales force for getting contracts with higher profit margins and vice versa. In a sense, penalize them for bringing in low margin revenue. So you shouldn't be basically instructing the sales force go out and sell, you should be really more specific about this and say, "Go out and try to get highly profitable business for us."



Jeff: This is something we've talked about on the program before, really apples and oranges when you get right down to it, revenue versus profit margins. Increase those profit margins and work at it. And I really like the idea, too, of incentivizing the sales force in order to help you accomplish that mission. 

Number six, get organized and stage the business. This sounds like something that many people might do in their own homes when they're getting ready to sell their home and put it on the market. You're going to stage that home. Is it the same thing with staging the business as well, Anja?

Anja: Absolutely. It really is always true, you never get a second chance for a first impression. And the point is I had walked into many businesses where the office of the owner literally looks like a bomb just exploded there. Or you walk into the cafeteria, it's kind of dirty, it's worn down. It just leaves a very poor first impression for any buyer to walk through. It feels like half the wire is hanging down from the ceiling, the floor hasn't been swept in a while. 

Another factor is please do make sure that you've posted all information required by the Department of Labor. Make sure there are no offensive posters, whether that's posters or screensavers. Because the one thing you have to keep in mind, it is the 21st century. Even though you in the past may have thought, "You know what, what's the big deal with having posters of half nude women hanging on the wall? The employees have that." That is unprofessional in today's world. 

First of all, it's illegal. It's considered a hostile work environment. But secondly you do have to keep in mind, and I'm not saying this because I'm a woman, because quite frankly when I represent the seller I don't have to work there. But what I can tell you that the buyers and even if they're male they'll look at it like saying you're not running a tight ship. You're allowing things to happen in your company that are illegal. And so do make sure that you pay attention to these kind of things.



Jeff: And it seems, again, like a no-brainer, but really it is true and I've been in these types of businesses before, Anja, as well. And you're absolutely correct; it is very surprising in this day and age when you walk into an environment that is unkempt that looks like it's quite frankly fallen into a state of disrepair regardless of what the numbers show.

Cleaning up the office and staging it or your workplace is not the only thing that really needs spritzing up. But you also need to clean up pending lawsuits. This seems to be a no-brainer, but it's possible that so many people can leave their dirty laundry behind. This is a real big problem that can really quite frankly pose a tremendous hurdle to a sale going through.

Anja: That is very true. Obviously there are many reasons why people may drag their feet on solving legal issues. It can be a lawsuit, it could be any other issue. And I should also say that before making any decisions about legal matters you should obviously always consult with the attorney because every situation is unique. 

But that said, in general broad terms buyers really do not like open litigation, open legal issues. It's going to be a major turnoff, it's going to decrease the value of your company. At minimum what it's going to do is drag out the due diligence period. And if any business intermediary like myself will tell you, dragging out the due diligence period is never a good thing. Time is the enemy of every deal. So you want to be hopefully in a position where you have resolved any major issues. 

That said, if for whatever reason it might be you can't clean up legal issues before you put the company up for sale, at least be open and upfront about it. Disclose all these issues right away. Have the paperwork ready. Very few issues truly will derail a deal as long as you're open honest about them. And also, if you can, present a path on how to resolve them. So do get your attorney involved. Be ready for this. And do not try to hide any issues like that.



Jeff: Talking about the top 10 things that you can do to improve the value of your company prior to sale. Number eight, be a big fish in a small pond. That's something that I feel comfortable doing. I don't know about you, Anja, but exactly what do you mean by this?

Anja: What I mean is that typically speaking when you're being acquired, the preference typically is that you find a strategic acquirer who would buy you out. Because strategic value is typically the highest value that you can achieve for you company. And what strategic usually do when they do so called roll-ups, meaning they look around and see the companies that we want to add to our portfolio. They usually go after the well-known entities first. So you do want to be a known entity, a big fish in your small pond.

The problem is if you get into a bigger pond, because if you're privately held, smaller abilities, smaller scale. It's very hard to be a noticeable entity. So do find yourself a pond in which you can get well-known, where you can build yourself a position where you are the known leader in something, the known expert, whether that's the best service provider, the best technology, whatever it might be. 

And, ideally, also build up a portfolio of proprietary know-how or intellectual property, whether that's patents or something like that. Because that will also be something that will make you more attractive. I give a very concrete example. You might be a manufacturer of ozone monitoring and then controlling equipment. That's a narrow field, so a small pond compared to the large pond of scientist and instrument manufacturing. 

Ideally you would become the known expert in manufacturing or zone manufacturing and controlling equipment. And then you try to expand your customer base, either geographical or industry diversification. So that would really be an ideal strategy where you address this point of being a big fish in a small pond. And also the very first point we've discussed today about that you should always try to broaden your customer diversification.



Jeff: And you can do that by virtue of being this go-to expert, someone in your field I think is very important indeed. We got two left here. Number nine, spread know-how.

Anja: That is something that also applies to most privately held businesses. The issue with the typical privately held company is that most of the know-how and expertise is concentrated in the owner. But think about it, you as the owner, you're trying to sell the company. So realistically you will be leaving the company soon. So the more of a concentration of customer contacts, then their contacts and know-how is on you, the more of an issue you're creating, and this, again, decreasing the value of the company because the buyer will perceive that as a risk. 

The way you may look at it is like, "Well, it's not a big deal. I'm willing to stay on for a certain amount of time to transfer all these contacts.” The buyer will look at it and say, "Well, what if I buy the company next month and the next day this guy gets hit by a bus? Or this person isn't cooperative during the transition process?” So a buyer isn't just going to look at it and say, "It's not a big deal; we'll just do that in the transition period." A buyer is going to look at you and say, "You know what, that's high risk. All of it is really concentrated into this one person.” So in the years leading up to the sale, do yourself a favor, start spreading know-how to your employees. 

It comes back to, again, like we were saying before, if you have 50-100 customers, it's unlikely they're all going to leave at the same time. The same is true with employees. Obviously, you don't need to spread your know-how to 50 different people. 

But let's say even if it's three to five, it's very unlikely from the perspective of a buyer that three to five employees will all leave within a few months after they take over the company. So that's much less risk than having all the know-how concentrated in one or two people. So you should definitely start spreading it and make sure that the company can literally run without you, even probably before you sell the company. 

The ideal company to be sold is one that if as of the day of the sale you would literally disappear, it would still more or less work the same way it did before. 



Jeff: And we've come down to the end of our list here, item number 10. We'll review the previous nine here, Anja, real quickly. Number one, increase customer diversification. Number two, develop recurring revenue streams. Number three, have assignment clauses in all three contracts. Number four, reduce discretionary earnings. Number five, increase profit margins. Six, get organized and stage the business. Number seven, clean up pending lawsuits. Number eight, be a big fish in a small pond. Number nine, spread know-how. And number 10, the last item here on our list that you can do as a business owner to increase the value of your company, create golden handcuffs for key employees.

Anja: Yes. This goes hand in hand with the topic we had just talked about about spreading know-how. Typically speaking it's always a good idea to structure a sale in a manner that you set aside a certain amount of the sale proceeds, whatever you feel is adequate. Again, that's very situation-specific. Let's say 5%-10% of the proceeds. And you basically give your key employees incentives, bonuses, that state that they are eligible to receive this share of the set aside amount if they're still with the company 12-18 months after the sale of the company. 

This will very much alleviate the fears of a buyer, of key people leaving. And will basically make sure also that these employees are committed to the sale of the company, say the right things at the right time because they have a vested financial interest in the acquisition going through. Just think about it. For employees a sale of a company and such, or we see acquisition by a new buyer, that's a time of change, a time of uncertainty. They might be afraid for their job. 

So this is a time where you can expect that they may actually try even to, whether it's subconsciously or consciously, sabotage the sale. Because for them it's really better if things stay the way they are. That's safety. That's what people like.

So you want to excite them about the sale. You want to have their commitment. You want to have their support. And by giving them an incentive like that you achieve two goals. First of all, they get a vested interest, like I said, in having the sale go through. And then secondly you alleviate the fears of the buyer that they may leave. So you're basically just achieving two things with one action.


Jeff: You're creating some assurances on both sides that there is going to be a tomorrow, and that there will be a reward essentially for those who stay on board, those among your employees. And at the same time you're providing some assurance to the new buyer that things are going to continue to operate normally with these world-class employees that you have on board.

Anja Bernier, I really enjoyed this discussion. We've run out of time. But what I'd like to do right now is give you an opportunity to just say a little something about your company and let people know how they can reach you. We've got business owner listeners to "Deal Talk" all across the country and in your particular neighborhood as well. How can they connect with you?

Anja: That's very easy. As you mentioned before we're actually located just outside of Boston, Massachusetts. Our company that is focused on buy and sell set representation and business valuation. Typically, the transactions that we handle have a value between $1 million and $20 million. That's our specialty across many industries.

The best way to reach us is either our website, which is efficientevolutions.com. And/or, obviously, by giving us a call, and the number would be 781-806-0880. But again, you know, all of the contact information is on the website, and that is efficientevolutions.com.



Jeff: There you have it. Anja Bernier, president of Efficient Evolutions LLC. Thank you so much for agreeing to join us. We enjoyed having you on this edition of Deal Talk.

Anja: You're very welcome. 

Buyers love recurring revenue streams. And when it comes to valuation, I can tell you an appraiser will put higher value on a recurring revenue stream typically than on non-recurring.


Jeff: Make sure you tell a friend about "Deal Talk." In addition to morganandwestfield.com, you can find us on iTunes, Stitcher and Libsyn. "Deal Talk" has been presented by Morgan & Westfield, the nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen. Thanks so much for listening. We'll talk to you again soon.

While we take reasonable care to select recognized experts for our podcasts please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee, or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • How to better deal with debt and ways to secure financing so that you can move forward with the company.
  • There are a few special people who do smaller type loans. But you have to search for them.
  • It’s best to look at your debt as if it were new debt today, which typically reduces your monthly payments.
  • The guidelines say an SBA loan cannot be used to reduce equity in the business, but it can be used to repay third parties.

Read Full Interview


Jeff: Feeling the tightening noose of debt? If you want to know how to deal with it so you can regain control of your business and just focus on running your company, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world, this is “Deal Talk,” brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.

Jeff: Hello and welcome to the web's number one content source for small business owners committed to building a business for eventual sale. Here on “Deal Talk” it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value. 

If your cash is tied up in loan and lease payments, and you're just trying to keep your creditors off your back and at bay, we have someone on the program today that you want to listen to. His name is Mr. Steve Mariani. He's founder and president of Diamond Financial Services. This is his second visit with us here on “Deal Talk.” Steve Mariani, welcome back to the program. It's good to have you, sir.

Steve: Thank you, Jeff. 

The majority of the refinances we see, we're reducing your payments by 40%, 50%, even 60%.

Jeff: Steve, last time we had you on we talked a little bit about Small Business Administration loans. This time we're talking about something a little bit different here. We're talking about companies that are having problems with cash flow. And cash flow issues more often than not can be attributed to, quite honestly, and you kind of educated us on this when we're talking a couple of weeks ago in preparation for the program, debt concerns and problems with owners trying to pay off their lease payments and other debts that they might incur. How big a problem is this cash flow situation? How many business owners are impacted by this? You see this all the time, right?

Steve: We see it all the time. And on an established business when we're looking at it and evaluating that for a possible loan, the first thing we're going to look at is their balance sheet, which is typically in the country, 76% of new businesses, they're started off of personal credit either lines or credit cards. And once they do get that business up and running and established, it's a few years down the road where they are financed and they don't know how to then at that point restructure their debt and start moving that company forward. What they do and settle themselves within the beginning is a lot of larger payments and higher interest rates, and all the unfavorable type things, because that's what's available to them and that's how entrepreneurs in the country start companies for the most part. So those are the people that we're going to look at that balance sheet and we're going to determine if, first of all, we can add immediately to their cash flow by correcting those. Not correcting so much but refinancing those current debts that they've incurred in those first few years, or even down the road, depending upon how equipment intensive or inventory intensive their company has become.

 

Jeff: My question might be, "Steve, I had to start on credit cards or maybe I've dipped into my retirement fund, my IRA account. Is it possible for me to be just way too small to take advantage of some of the tools that are out there now? I've still only been at this two or three years, maybe four, five years down the line. I'm not a company that does millions of dollars in revenue every year. Is there any kind of a minimum qualifier that you look at?

Steve: Typically, the lenders we bring to the market start out at about $350,000 and up. But there are still options for those companies that require less funding. They are basically a community express program that goes up to about $150,000, that has a different guarantee, and that is offered through the local banks. I say explore all those local banks if they're one of those small companies. You can also go to the sba.gov website and try and find local micro lenders, is what they're referred to in the SBA world, that are in your area and would do it. There are a special few people that just do those smaller type loans. You have to find them, and they're out there.

 

Jeff: Good. That makes me feel good. That makes me feel that there's going to be a light at the end of my tunnel. I know that there are folks out there, ways that I can obtain this money, there are firms and banks that are going to lend me this money, chances are. But I'm kind of wondering how established my company might have to be in order to secure a refinance type of loan.

Steve: Sure. If you're talking to a conventional lender, the majority of the lenders are going to say, "We want two or three years of established business," not so much in an SBA product. In an SBA product it's more about the historical cash flow and the ability to pay debt service. Now, if one of those factors, including refinancing three or four of your pieces and lowering your monthly debt to be able to make the debt payments, that's going to be considered when they're looking at a refinance. So you may be struggling right now and you may be under a cash flow constraint at this point, but you have to look at it as if we had the new debt to today, which typically would be on a much longer term and reducing your payments by ... the majority of the refinances we see we're reducing your payments by 40%, 50%, even 60%. If that helps your cash flow support the new debt by refinancing that, that's how a refinance is going to be considered. So I hope that makes sense.

The majority of the true SBA lenders are not going to be on your local street, they're not going to be down the block. You have to look for them.

Jeff: It makes perfect sense and it almost seems like a no-brainer, Steve. Can we include our initial start-up capital though? Remember that money that I took off that credit card, or that I've borrowed from my retirement account, or that I've taken from relatives to borrow from them and then I wanted to pay them back?

Steve: Absolutely. Here's what the actual guidelines say. The actual guidelines say an SBA loan cannot be used to reduce your equity in the business, meaning the money that you put in. But moms, dads, Uncle Steve is absolutely eligible because they are not owner of the company and they're an outside third party. So we can possibly, even if you've been making no payments on their loan, if your company can now support the debt service required for our typically 10-year loan, we can include Uncle Steve, Cousin Steve, mom, and anybody else that you originally used for that start-up capital. Absolutely, Jeff. The big thing is not reducing your own equity and your own money put into the business, which is typically not the main concern of the majority of the business owners that we meet.

 

Jeff: What about operating capital or inventory, can that be included as well?

Steve: Absolutely. Not only that, we can include additional working capital. Again, we're going to look at the cash through post-closing to determine how much of a loan the business can support. But if it can support it, we can absolutely include working capital to grow the company. We can include additional equipment or anything new that they need to add to the company. We can include additional inventory. We can increase your inventory if that's what's required to operate your business. Any of those things can be included in a refinance loan all for that 10-year term. In addition to those, we can include some of your payrolls to maybe pay down some of the vendors that have been working with you and doing the right thing for the last couple of years. Wouldn't it be great to pay off a vendor and get to those favorable vendor payment terms where you're paying them on either a COD or within their discounted period? We see that a lot.

 

Jeff: What are the caps on some of these products out there, those loan products that we're talking about, or limits, in other words, that I can possibly borrow when it comes to trying to eliminate my debt as much as I can? And in also, too, you just talked about perhaps capital improvements on top of it.

Steve: The 7(a) Program, which is really what we specialize in 90% of the time, which is the best product for the majority of our clients, it caps out at $5 million. There isn't a collateral requirement on that $5 million. What is the requirement is that we have the ability to service the debt at probably a 25% coverage ratio, which means 25% more than our payment. But if we can prove historically that had we had those payments, we could make that, that service coverage, then it doesn't matter. The sky's the limit, up to $5 million, and we do them all the time. 

It could also include, are you ready for this, adding on to a building. We talked about capital improvements. "Do we need the new AC unit? Do we need new forklifts? Do we need to add a couple of new offices to the building?" And it doesn't necessarily have to be your own building. It could be physical space upgrades, which is considered leasehold improvements. Those are also eligible under the SBA 7(a) Program. So when I'm looking at a refinance, it's not only looking at the actual debt and how much we can save you and add to your cash flow, we're going to explore, are there other avenues that can help now really launch your business into the future?

 

Jeff: That's really huge. So that there is no need to really be concerned where this particular program is concerned 7(a) that you have to keep everything in isolation. The debt first of all needs to be addressed alone. And so once that's been addressed, then we can look at this program over here. But essentially you're saying that 7(a) can essentially, not only address the situation with the debt and making sure that we can make those payments back to our creditors and take care of some of those old issues that we have, but also too in terms of growing business provide a capital injection that we might need for that as well. It sounds fantastic, it sounds almost as if it's a loan they can really do it all. Just out of curiosity, you make it sound like it's pretty simple, but the process itself in terms of securing this financing from the 7(a) Program, let's talk about that. How does the process work? What's involved?

Steve: That's a great question, Jeff. And here's really what's given the SBA such a horrible reputation all these years. Typically, your local business owner thinks of their local banks as their funding options. And a lot of times they'll go to their number one banker where they bank now and there again, they're not a big 7(a) lender, so they're not really aggressively going after him or trying and help him, so he goes down the block and talks to them. Local community banks aren't set up to do the larger 7(a) transactions. Finding those lenders is a whole other job that most business owners don't have the time or even know that they're out there. So that's half the battle is finding the correct lender. If I had a dollar for every time a client came in here and said, "Nobody's going to do this all, and I can't imagine that you could even consider it." When I found out you've been in the wrong ball park. Not only have you been in the wrong ball park, you haven't even been on the field. You've been out in the parking lot because all the people you've been talking to are the wrong people. Once you get a decline or we can't do it from a true SBA lender, that's what changes the game. But the majority of the true SBA lenders are not going to be on your local street, they're not going to be down the block. You have to look for them. You have to check the sba.gov website, whose volume level is high. It's a little behind the scenes time and niche that people don't really understand because they're not out advertising, they're not going to get a postcard from them, they're not going to get a flyer from them or anything like that. It's bringing those true SBA lenders to your business, that's where you have to spend some time if this is a product that you're really in need of.

In the beginning we want to understand the debt that you have out there. We're not going to go for a full, entire package until we understand the cash flow of the business and the business debt schedule as a whole.

Jeff: Why do you suppose that it's so difficult then for business owners to track these lenders down, Steve? Is it just that these lenders, they don't gain too much public exposure only because they don't want everybody coming in who believes that they are owed a loan by SBA to come in and apply? Is that what it's all about? Basically, they're kind of trying to keep the wheat separate from the chaff, so to speak out there?

Steve: That is probably 75% of the concern. They know if they go out and start advertising business loans, the phone's going to ring off the hook. And their niche is in a specific industry either, or loan amount size, or even geographic territory. And they don't want that information out there because they don't want to staff all the phones to just try and find that one true loan or that... They want a screening process in place where they're not going to the general public. You won't see them on the TV, you won't see them, like said, in postcards or anything like that. It's a very specific industry, business, financing. And to get to that higher level of talent, the higher level of talent comes with even more stringent guidelines. They don't want to talk to anyone between a certain amount level, or there's a lot of different, specific criteria that the higher... A lot of the people that we deal with have been in the industry 15 or 20 years. They're not going to talk to a $125,000 startup business owner. And that's why they're not out selling to the general public, because those are the calls that will happen constantly. 

So their names are kind of behind the scenes. But it doesn't mean you can't get to them. SBA.gov and every one of the local district offices puts out a newsletter quarterly, and it shows the lender volume in your area. I encourage everyone to monitor that. If they're seriously looking for a loan, you can find out who the real players are. You can get to their names through the SBA district office. They are out there, you have to do a little searching, but they're not going to come to you.

 

Jeff: That's Steve Mariani, founder and president of Diamond Financial Services. We're talking about how to eliminated your debt, if not eliminate it certainly how to deal with it better by making sure that you have the right financing to take care of it while allowing you to free up the cash to allow your company to grow. My name is Jeff Allen and you're listening to “Deal Talk” brought to you by Morgan & Westfield. We'll be back with Steve Mariani right after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on the future edition of “Deal Talk.” Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com.


Selling your business may be the most important business transaction you'll ever undertake, so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield, we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way. From helping you plan your exit strategy, to preparing a comprehensive appraisal, and locating the right buyers. Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.


If you have any questions about today's topic or any of the topics you've heard us discuss here on “Deal Talk,” all you have to do is ask, after all, this show is committed to bringing you answers and finding solutions. Simply call our Ask Deal Talk info line at 888-693-7834, extension 350. Follow the instructions to leave your questions and we'll reach out to one of our guest experts so we can feature your question and their response on a future edition of “Deal Talk.” Ask Deal Talk at 888-693-7834, extension 350.

 

Jeff: My name is Jeff Allen, back again with Steve Mariani, his second visit on our program. Steve is founder and president of Diamond Financial Services. Steve, we appreciate you being in our program. Again, really an interesting conversation talking about how to better deal with our debt and ways that we can secure financing to help us deal with that problem. But also really not just that but to help us move forward with our companies. We don't want to be held hostage, obviously, and you've got some great suggestions. Of course we talked a little bit about the 7(a) Program from SBA. If I were to come into your office, Steve, and I'd like to say, "Steve, very interested. I've been doing a little research on the 7(a) Program and I think I'd like to sit down and talk to you about doing that." How long is it going to take from the time I sit down with you to the time that I finally start to see some money rolling in and we can take care of this situation we have?

Steve: We do a high level of volume here. Our average from start to finish is about 48 days. But here's the actual timeline. The way we describe it to our clients is typically it's going to take us just two to three days to know if we have a deal and produce a lender term sheet from a bona fide lender. From that point forward it's about 10 days to two weeks to secure a complete commitment letter, and then our work begins. After the commitment letter, from commitment letter to close, when we'll be giving things like the actual notes for refinancing and things of that sort, that's usually a four to five-week process. So the entire process there from start to finish is some place between 45 and 60 days. Our average here at Diamond is about 48 days, so that fits right into that timeline. Don't let anyone tell you it could happen much faster than that. Sometimes it happens a week or two faster, but give or take it's going to be right in that time frame for the most part. So I hope that answers the question.

 

Jeff: Not too awfully bad. It does answer the question. What are you going to need from me, Steve, in order to make sure I can get approval for this financing? What is necessary? What do you look for?

Steve: The first thing we're going to look for within the established business that comes to us at financing is going to be a current business debt schedule. Let's look at your balance sheet and your debt schedule and see what you have and what makes sense to refinance. If there's going to be something that's paid off in the next four to five months, it's probably not a good candidate for a refinance scenario. But if you have some equipment leases and payables, and some other items that are on your business debt schedule that you make since, that's what we're going to look at, because our ultimate goal, me and you as a business owner, is reducing that monthly payment. I have one right now that we're going to go from about $18,000 a month to just over $9,000. That's adding a considerable amount of cash to his bottom line on an annual basis. 

So those are things that are going to help him move forward. But in the beginning we want to understand the debt that you have out there. We're not going to go for a full, entire package until we understand the cash flow of the business and the business debt schedule as a whole.

 

Jeff: Our company, Steve, produces some large invoices that we factored during busier seasons. Will this loan that we want to take out, 7(a) we're talking about now, allow us to continue factoring when we need to?

Steve: Excellent question and I'll tell you why, because if I know that upfront and address it in the beginning, it's not going to affect your ability to factor. If I'm not made aware of it, or you go to a less experienced lender that doesn't recognize that fact right up front, then it could be in jeopardy, and here's why. The SBA requires a UCC filing on every business asset, which includes your accounts receivable. Now, it isn't difficult to justify to the lender to leave it out and make sure that that happens. But if that's overlooked, and we see it many times, if that's overlooked in the beginning, you're going to find out that you can't factor because that lender has those receivables as collateral. Now, on a collateral position, the lenders, if they can justify the reason for leaving them out, they don't give a lot of weight to receivables anyway. So it isn't like they're losing a big piece of collateral. It just has to be documented in the file because the SBA is ultimately looking out for the good of the business. If you need to factor, we need to be able to make sure that you have the ability to do that. But it does have to be addressed in the beginning and not overlooked if there's a factor and capability there. Specific industries will raise a flag to me and I will explore that in the very beginning. But I know after all these years what industries will need a factoring arrangement. We've built a factor that sells to Wal-Mart, while their invoices are $1 million, $2 million dollars, and the company we built couldn't afford that. So we knew at that point based on his industry that he was going to need that at least as an option, even if he didn't need it that day. So we had to justify, write that up, and make sure that that lender documented all that in the file to be able to leave those receivables out of the UCC filing. But it can be done, and do not let any lender tell you that it can't be.

So it seems that with this particular program, 7(a), it does help us to do a couple of different things. It helps us to relieve our debt burden and can really cut the amount that we pay each and every month on our debt. And at the same time it allows us to have that freedom that only cash flow can provide.

Jeff: Are there some industries that SBA show a certain degree of favor on, or is this really a loan program that is for everybody? Is this one of those types of programs that pretty much anyone, any business in any particular industry could benefit from?

Steve: For the majority it's any business. There are specific criteria. It can't be discrimination type business, and I'll give you a quick example of that: A health club that will only cater to women. If they prohibit men from joining, they are excluded from using an SBA product. Some of the other ones, lenders don't like to do used car lots. They won't finance cars or vehicles, so we try and stay away from those. But as far as ineligible businesses, that list is pretty short. Like I said, unless they discriminate against a religion or something like that, SBA is pretty much open to everyone. You might not get that impression from initially talking to a lender because they have their own criteria and their own industries that they blacklist, or on the watch list, or whatever else. But they'll try and convince you it's the SBA that doesn't want to finance this industry, which is typically never the case.

 

Jeff: So, Steve, it seems that with this particular program, 7(a), it does help us to do a couple of different things. It helps us to relieve our debt burden and can really cut the amount that we pay each and every month on our debt. And at the same time it allows us to have that freedom that only cash flow can provide. It allows us to move our companies forward and perhaps in some cases accelerate our progress by allowing us to build into the loan additional funding for capital expenditures, maybe new equipment leases, or perhaps adding additional personnel. Anything else at all that we should know about the 7(a) program, any other advantages or benefits that you can think of that you might want to leave us with? And it’s kind of another reason to consider the program as opposed to maybe some of the other choices that are out there?

Steve: Absolutely. And this is where I have to give kudos to all those entrepreneurs and the people that are starting and growing companies. If you go into the second, third, fourth year in business and you bootstrap it from the beginning, now's the time to let an experienced, correct financing program take over and understand your business, understand where you need to go. Those are the people I surround myself with and you should too as an entrepreneur and get somebody really on board, who looks after your well-being. You've gotten it to this point, you've done a great job. We're all proud of you. Now it's time to really, correctly finance the company and take you forward. It's one of the things that's near and dear to my heart having owned seven different companies in my life and started many of them from scratch. You've done all the work. You've gotten it to the point where you have a successful business. So now to really correct it and move it forward, refinance it correctly. What happens is the first couple of years you're kicked by everybody. No one wants to help you, no one wants to give you any money. You might get money from Cousin Steve, or Mom, or Dad, or whatever else. But there is a point where you become a true, viable business that can't get financed. And by then a lot of times I see and meet entrepreneurs that have been just through the mill and beat up so much they never think anyone's ever really going to help them, and that's not the case.

My goal is to give them hope and to understand where their company has been, is now, and is going in the future. And truly correct their financing needs and help them move forward. There's a lot more options than the majority of the entrepreneurs out there understand and are exposed to. It takes a little work and it takes some effort there. It's not going to be your local community bank, and that's really the key thing is to not give up. Nothing makes me happier than when I see a borrower say, "I'm going to get there with or without you," because it's that spirit that builds America, and that's what we're all behind. And that's what the people I surround myself are focused on, is helping those people that you can see the effort there. I hope that helps give hope to all those entrepreneurs that are out there starting businesses, and growing companies, and really moving America forward. That's my bottom line.

 

Jeff: Very, very good, Steve. You will work with clients all across the country, don't you?

Steve: Yes, sir, all across the country.

But there is a point where you become a true, viable business that can't get financed. And by then a lot of times I see and meet entrepreneurs that have been just through the mill and beat up so much they never think anyone's ever really going to help them, and that's not the case.

Jeff: How can people get in touch with you if they've got a question for you and they said, "Steve, I liked what you had to say. I'd like to talk to you a little bit about my particular situation."

Steve: We can always be emailed at askdiamond@ezsba.com. That is an email box where we typically respond within 24 hours. One of the staff members here will get that answer back. We help people whether they're our clients or not our clients. We field questions from all over the country from brokers, to entrepreneurs, and businesses just from everywhere because, like I said before, our goal is to help the entrepreneurs across the country move forward. Or we can always be reached at our toll-free number, which is 888-238-0952. That comes to our corporate headquarters here in Raleigh, North Carolina. You'll either be directed to a local office if you're looking for help or we can help you right out of our corporate headquarters. But we are always happy to answer questions and provide information, whether they're our clients or not. It's about moving America forward.

 

Jeff: Steve Mariani, I appreciate all the time that you've given us once again today, and this is your second visit with us on “Deal Talk” today. Really enjoyed what you had to tell us about the 7(a) Program. Thank you so much. Hopefully we can have you back on again soon.

Steve: Absolutely, Jeff, it's always my pleasure helping get the information out there. I support not only your organization but all the entrepreneurs in America.

 

Jeff: That's Steve Mariani. He's the president of Diamond Financial Services.

I hope that you enjoyed our conversation. Tell a friend, won't you, about “Deal Talk.” In addition to morganandwestfield.com, you can find us on iTunes, Stitcher and Libsyn. “Deal Talk” has been brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen. Until next time, thanks so much for listening. We'll talk to you again soon.

While we take reasonable care to select recognized experts for our podcasts, please note that each podcast presents the independent opinions of such experts only and not of Morgan & Westfield. We make no warranty, guarantee or representation as to the accuracy or sufficiency of the information provided. Any reliance on the podcast information is at your own risk. The podcast is for general information only and cannot be considered professional advice.

Key Takeaways

  • Representations and warranties are statements made by the seller, providing the buyer with a view into the operations as well as the ownership and title of the company they're selling.
  • In most cases, the buyer will take the insurance policy to cover the seller's representations that are being made, thereby allowing the seller to exit more cleanly and with more proceeds.
  • There is no such thing as an off-the-shelf type of policy; these policies have to be negotiated.
  • Most of the terms and conditions under the standard reps and warranties insurance policy will attempt to track and mirror the purchase agreement as much as possible.

Read Full Interview

Jeff: Representations and warranties, what they are, why they're important, and why both buyers and sellers of businesses need to protect their interest when doing a deal. For answers to questions about reps and warranties, you've come to the right place.

From our studio in Southern California, with guest experts from across the country and around the world, this is “Deal Talk,” brought to you by Morgan & Westfield, nationwide leader in business sales and appraisals. Now, here's your host, Jeff Allen.

Jeff: Welcome to the web's number one content source for small business owners committed to building a business for eventual sale. Here on “Deal Talk” it's our mission to provide information and guidance from our growing list of trusted experts that you and all small business owners can use to help you build your bottom line and improve your company's value.

My guest is Mr. Kirk Sanderson, vice president of Equity Risk Partners in New York. He oversees the transactional risk practice at the organization. Kirk Sanderson, welcome to “Deal Talk.” Good to have you.

Kirk: Great. Thank you very much.

The insurance companies obviously want to make sure that they are not taking the first dollars of losses, and that both buyers and sellers are appropriately negotiating the purchase agreement and the language there, as well as the disclosure schedules provided by sellers.

Jeff: Representations and warranties, what are these exactly?

Kirk: Representations and warranties are statements made by the seller and purchase agreements, for the most part, providing the buyers with a view into the operations as well as the ownership and title of the company they're selling.

 

Jeff: OK, very good. It seems to me that these would be the types of things that would be pretty much, I guess, you might say, items that are in plain view. But as I understand it, that sometimes there can be a breach of these representations and warranties, really not necessarily through any abject fault of the seller, but in fact these types of things can present themselves during the M&A process, is that correct?

Kirk: That's correct. Sellers are trying to divest of their assets. They're obviously making these factual statements to buyers with as much information as they have at the time. Those facts and circumstances may change post-closing to the extent that previous to closing would make the facts they made as of closing incorrect unbeknownst to them. And the buyers clearly would want to see recourse for any statements that end up being incorrect post-closing, and therefore any loss that they may occur under such incorrect statements being made.

In the event that you as a seller are unable to convince a buyer to take an insurance policy, there is a sell-side policy that exists that covers you as a seller and the indemnification that you are now having to provide to the buyer and as well as the escrow that the buyer will more than likely expect you to post.

Jeff: OK. Can you give us an example, maybe by chance, Kirk, of something that would be considered a representation or a warranty kind of statement, anything that might present itself, maybe something that you've seen in real life that the buy-side had to make sure that they were protected against, and maybe they weren't?

Kirk: Sure. I think the most common representations that have issues post-closing or breached post-closing, if you would, are related to financial statements. Obviously the individual selling the company has a good handle and a good grasp on inventory levels and things of that nature. But if it turns out to be the case that any of the numbers within the financial statements are incorrect, to some degree that would be breach of those reps, the financial statements reps. And as you can imagine, that could have a material impact on the buyers and their ability to receive returns and valuation based upon the assets that they're purchasing.

 

Jeff: OK. The breaches, I guess we're talking, really occur post-closing then. Is that right in every single case?

Kirk: For all intents and purposes, yes.

The ability for a seller to walk away cleanly without lingering liabilities and indemnification, as well as the escrow, which is idle funds sitting around with a potential clawback risk associated after closing, the seller should really be considering this.

Jeff: OK. Very, very good. Typically, who is on the hook in terms of dollars and cents for all of this stuff? Can the seller be sued for failing to disclose these things?

Kirk: Only if there was fraud, in the event of fraud, or willful misconduct. So again, the representations and warranties that are made are within the purchase agreement, which is the seller providing to the buyers as much information as they possibly can about the company. All that information may not always end up being true, in which case there's a breach of the representations and warranties. Under the purchase agreement, there's indemnification, which handles how any of those breaches would be settled should the seller knowingly or unknowingly breach any of those representations and warranties. That indemnification is what provides the buyers with the ability to seek recourse from the sellers should that be the case.

 

Jeff: OK. Let's say, for example, I think it was, I think kind of interest on both parts to kind of protect themselves against any legal recourse and certainly financial issues that might arise as a result of all of this. There is, it seems, there's insurance for everything, right? And there is insurance for representations and warranties, just quite simply representations and warranties insurance. So let's talk a little bit about that. How does it work exactly and how much money can it save potentially either side?

Kirk: It's not necessarily about saving money but ultimately it does increase the returns a seller would otherwise be looking at under a standard purchase agreement. So the answer to that question goes and dovetails into the last comment that was made as it relates to the indemnification provided to buyers within a standard purchase agreement, which is meant to back the reps and warranties made by that seller. In which case the indemnification is often also backed by escrow or a seller holdback, in which case for any given $50 million transaction roughly 10% of that may be put aside in escrow at closing for a period of 12-18 months where by the sellers would not have access to that $5 million, in this case, 10% of 50 million. And that escrow would sit aside for 12-18 months to support any claims post-closing where a loss was experienced by the buyer. So technically there is this "clawback risk" that the sellers are now facing for 12-18 months. And it's that clawback risk, that $5 million escrow and/or indemnity cap that the insurance effectively seeks to replace. So if you can replace this $5 million of escrow you can eliminate the need for the escrow, and therefore the sellers will effectively close with $50 million roughly in proceeds minus the cost of insurance, versus 45 at closing.

 

Jeff: OK. Really it protects both sides. And when you say 12-18 months escrow for holdback, that's really something ... you can kind of equate that essentially to a term, which I think would probably make sense to most people who have insurance and that it protects both sides for that 12-18 month period. Can that be extended in case of any unforeseen circumstances by either side?

Kirk: Yeah. It's not by either side first. The policy is meant to cover the seller’s representations and warranties, not the buyers. 

 

Jeff: I got it. OK.

Kirk: But the buyer holds the policy. In most cases the buyer will hold the insurance policy. And so what the seller has effectively done is transferred this clawback risk for post-closing indemnification from the buyer instead of providing them that indemnification under the purchase agreement. The seller will give them a policy and the buyer will hold the policy. And of course they pay a premium for that policy, but at least the seller is now off the hook for much of that indemnification.

 

Jeff: How much is that premium typically? Is that a percentage?

Kirk: Yeah. It's anywhere from 3%-4% of the total limits sought. So if we are speaking in regards to a $50 million transaction with a 10% escrow or holdback that you are seeking to replace with a policy, you're talking about a $5 million policy at roughly 3%-4% or $150,000 to $200,000. 

 

Jeff: At what point in the M&A process do we take out that policy?

Kirk: These days it’s being done very early on in the process, especially whereby a financial sponsor is selling the company, and within an auction scenario the sellers will actually line up the reps and warranties insurance policy with the potential insures, and provide an overview of what that policy will look like to the buyers with the expectation in writing or in the offering memo to the potential bidders that the expectation would be that the eventual successful buyer would purchase a reps and warranties insurance policy to replace the seller’s traditional indemnification. So as early as possible.

 

Jeff: You're listening to “Deal Talk,” my name is Jeff Allen. We're talking about reps and warranties insurance today with Mr. Kirk Sanderson. He's vice president at Equity Risk Partners in New York. He oversees the transactional risk practice at the organization, and we do appreciate him for being here. This is really something that if you don't have any prior experience selling a business or certainly you don't have any experience selling your business, yet this is some information that you could find really useful, and if you're a buyer as well. This is some information that you'll find useful as well particularly if this is a first time process for you getting involved in any kind of a deal or transaction that would require the purchase of a business. And the requirement also to having that reps and warranties insurance could in fact offer you some protection where indemnification is concerned and really what could be significant financial loss when really there were certain things that may have been disclosed to you and then all of a sudden it seems like the wheels come off at the wrong time in the process of transitioning that business from one owner to another. We've got more to talk about reps and warranties with Kirk Sanderson. We're going to take a quick break and then when we come back we're going to talk about the different kinds of reps and warranties insurance policies that exist, why you need to know the difference of those. And that's all when “Deal Talk” returns after this.

If you'd like to share your knowledge and expertise on any subject related to selling businesses or helping business owners improve the value of their companies, we'd like to talk with you about joining us as a guest on a future edition of “Deal Talk.” Interested? Contact our host Jeff Allen directly. Just send a brief email with "I'd like to be a guest" in the subject line. In a brief message include your name, title, area of specialty and contact information, and send it to jeff@morganandwestfield.com, that's jeff@morganandwestfield.com.


Selling your business may be the most important business transaction you'll ever undertake, so don't go it alone. Work with an organization that has made it their business to sell businesses and that's all they do. Morgan & Westfield at 888-693-7834. At Morgan & Westfield we know that selling your company is not something you should take lightly. It can be a stressful, difficult, even emotional process. That's why it's important to work with a team whose one and only specialty is selling businesses throughout the United States. And Morgan & Westfield will help you every step of the way. From helping you plan your exit strategy to preparing a comprehensive appraisal and locating the right buyers. Without the right team behind you, you could be leaving money on the table. So don't leave your most important business transaction to chance. Call Morgan & Westfield for a free consultation at 888-693-7834, 888-693-7834, or visit morganandwestfield.com.


If you have any questions about today's topic or any of the topics you've heard us discuss here on “Deal Talk,” whether it be this program or one of our shows, all you have to do is ask, after all, this show is committed to bringing you answers and finding solutions. Simply call our Ask Deal Talk info line at 888-693-7834, extension 350. Follow the instructions to leave your question, and we'll reach out to one of our guest experts so we can feature your question and their response on a future edition of “Deal Talk.” Ask Deal Talk at 888-693-7834, extension 350.

We're also interested to know your thoughts about “Deal Talk,” what you like, and your suggestions for how we can make this show even better for you. So send us an email to dealtalk@morganandwestfield.com. That's dealtalk@morganandwestfield.com. Jeff Allen with you, and also with you our guest Mr. Kirk Sanderson, vice president at Equity Risk Partners in New York. We're talking about representations and warranties. And, Kirk, what I'd like to ask you, representations and warranties, is this something that is necessary to have in any M&A transactions? And if so, which party, which side usually requests to have this policy taken out?

Kirk: Yeah, so representations and warranties are made in practically all M&A transactions. But again, the indemnification is there under the purchase agreement as well to cover the seller's representations that are being made. In most cases, the buyer will take the insurance policy to cover the seller's representations that are being made, thereby allowing the seller to exit more cleanly with more proceeds at closing by transferring the risk associated with their representations they've made to the buyers, transferring that to a third party, the insurance companies.

 

Jeff: Very good. Really this is done, it's mutually agreed upon, and it's really agreed upon by both sides for very important reasons. And there are also additional ... apparently there is more than one type of policy. We're going to talk about that in a minute, by the way, here, Kirk. But I'd like to first of all talk about maybe some additional reasons or strategic considerations on the sell-side for representations and warranty insurance. And I was wondering if you might be able to kind of enlighten us to that. For example, why would there be a special consideration for a company that may have minority investors involved?

Kirk: Yeah, oftentimes a minority investor may not be part of the day-to-day operations and therefore part of what's called joint several liability under a purchase agreement, which ultimately means that the representations that are being made by the "company" under the purchase agreement regarding the operations. And those are the minority interest would be on the hook for making those representations. And if those representations end up being incorrect and there's a loss experienced by the buyer, ultimately this clawback risk we discussed earlier, the minority interests would have this clawback risk associated with representations that they themselves do not have direct line of sight into the accuracy of or not. In which case the minority investor themselves could actually purchase a policy to cover their portion of what would ultimately be that clawback risk, and ultimately be the payment of any future losses post-closing.

 

Jeff: What about those companies that have distressed assets that are part of a deal, does this also help them as well?

Kirk: Distressed assets are a little bit more difficult to cover, but certainly in instances where individuals are trying to divest distressed assets there are ways to "ring fence” or “box in" certain liabilities that are through the course of an M&A transaction or at least driving heightened concern with potential buyers to make sure that those deal items, specifically those liabilities, are taken off the table, and allowing a seller to gain more interest from a subset of buyers and/or ultimately increase potential valuation of those assets knowing the exact quantum of valuation applied to any such liabilities.

 

Jeff: OK. Like most insurance policies, different types of insurances, there are different types, I guess you could say, of representations and warranties insurance policies out there, and it's important to select the right one. There is no such thing I would assume, Kirk Sanderson, of an off-the-shelf type of policy that you could just simply go slap your names on it both sell-side, buy-side you agree to it, but these things have to be negotiated pretty tightly, isn't that correct?

Kirk: That's exactly correct. Most of the terms and conditions under the standard reps and warranties insurance policy will attempt to track and mirror the purchase agreement as much as possible. The policies are meant to cover all the reps from start to finish under a purchase agreement, or all of the sellers reps, anyways, pre-underwriting, I should mention. The result of full underwriting by the insurers, which is a process that takes about 7-10 days, may come out with additional exclusions, i.e. certain reps or a sentence or two within a particular rep that would otherwise be excluded from the insurance policy for reasons such as known issues or highlighted exposures provided in certain buyer’s diligence reports.

That's exactly correct. Most of the terms and conditions under the standard reps and warranties insurance policy will attempt to track and mirror the purchase agreement as much as possible. 

Jeff: What about things like deductibles, as we're all used to paying on our, whether that be homeowner's insurance policy, automotive, whatever the case may be. Are there also deductibles that apply in this particular case?

Kirk: Yeah, absolutely. The insurance companies obviously want to make sure that they are not taking the first dollars of losses, and that both buyers and sellers are appropriately negotiating the purchase agreement and the language there as well as the disclosure schedules provided by sellers, which are basically exceptions to all of the representations that the sellers are making. And in order to do that, they want to make sure that both buyers and sellers have a little bit of what they call “skin in the game” in order to make sure that those negotiations are being appropriately handled. And so the retention that, generally speaking, most insurers are looking for is anywhere from 1%-2%. The retention is what you are referring to as a deductible. The insurers in this space call it a retention. The reason for the definition as a retention is, generally speaking, this retention, this 1%-2% of enterprise value, is going to be shared between both the buyer and the seller through what most individuals would recognize as a buyer basket, which is that the buyer is generally on the hook for the first dollar of losses under the purchase agreement itself before they can go against the seller for recourse for any breaches. 

And then the seller next has what's called an indemnity cap in most cases, or an escrow indemnity whereby they then agree to pay out up to a certain amount, the cap of losses. And so ultimately what you do is you back in and now you are able to match the basket plus the indemnity cap to equal the retention under the insurance policy, therefore having back-to-back coverage of losses. First loss is to the buyer under the basket. The second loss is to the seller under the indemnity cap. And then once that escrow indemnity cap has been exhausted, then the insurance policy will kick in.

 

Jeff: Now, I just want to make sure that I let our listeners understand that there is information about this available online. So if you were taking notes, for some strange reason you may have derailed... the train came off the rails, there's a lot to remember. Obviously there's some details here that you can probably learn about, there's information on the website there at Kirk Sanderson's company, and we'll tell you how you can get that information at Equity Risk Partners. There is a very, very good publication there that you can take a look at. And we'll tell you more about that coming up in just a few minutes. I'm assuming that really depending on where you go, your market size, that reps and warranties insurance could cost different amounts at different places, really, depending on your business and the industry and what areas you're located in, is that correct?

Kirk: The pricing is fairly flat. It really comes down to the size of transaction and some of the other mechanics. But pricing very rarely is outside of the parameters of 3%-4%, very rarely higher than 4%. If you're looking at a billion dollar transaction, which most people wouldn't be through the normal course, you can certainly get rates down to closer to 2%, but otherwise pricing is quite flat and fairly predictable.

 

Jeff: OK. Talk to us a little bit if you can, Kirk, now because so many of our listening audience are business owners who themselves are considering selling their business at some point in the future. It could be 3, 5, 10, 15 years from now, whatever the case may be. Tell us a little bit about these seller policies that are available, and the coverage in terms. If you can kind of lay it out there, we just really need kind of a summary. But if you can tell us a little bit about how these are used and why the seller needs to look into these specifically when they're considering reps and warranties insurance for those occasions when the M&A deal is imminent.

Kirk: Sure, absolutely. As I mentioned before, the most prevalent policy is the buy-side policy, which the buyer is the insured and therefore any claims that they can make against the policy they go directly to the insurance company versus going toward the seller. If you're a seller, obviously you want to do your best in order to convince the buyer to take a policy, which it allows you to walk away cleanly with 99.5% of your proceeds, if not more, at closing, as well as eliminating that tail risk. In the event that you as a seller are unable to convince a buyer to take an insurance policy, there is a sell-side policy that exists that covers you as a seller and the indemnification that you are now having to provide to the buyer and as well as the escrow that the buyer will more than likely expect you to post. The insurance policy will cover you as the named insurer, you being the seller and the company, where a buyer will make a claim against the seller. The seller will either pay that claim directly or will turn around and hand that claim directly to the insurance company. And the insurance company will either reimburse or pay the buyer directly for covered losses under the insurance policy. 

If you're a seller, obviously you want to do your best in order to convince the buyer to take a policy, which it allows you to walk away cleanly with 99.5% of your proceeds, if not more, at closing, as well as eliminating that tail risk. 

Jeff: And where exactly can the business owner or the representative for the business owner find out more about these policies? Are these pretty much readily available through most business insurance companies, or are there certain intermediaries or representatives that one has to contact in order to get more information about reps and warranties policies?

Kirk: Yeah, and maybe that was a good place for us to start. I am an insurance broker, representations and warranties insurance broker, it's all I do 100%. There are roughly four other brokers out there that have the expertise to the extent that myself and my firm does. So it's a very small universe of individuals, but certainly that is our job, is to be a broker, to be an advisor, to consult both buyers and sellers. And that's half of the work we do, is spending the day on the phone with individuals to help get them up to speed, and explain to them and their outside counsel, as well as their bankers, "How does this work? What does it look like? What are the economic benefits and what is the process generally?" Obviously the process here is highly intensive. However, again, the value that is derived by replacing and eliminating certain escrow and liability is significant, so well worth the 3%-4% that individuals are paying in today's market.

 

Jeff: Kirk Sanderson, this has been a great conversation, and we have just very small portion of time here left in the program. If people walk away from this conversation about reps and warranties insurance with nothing else other than just one key piece of advice, what would that one takeaway or piece of advice be?

Kirk: In today’s market, a reps and warranties insurance policy is not a surprise to most buyers. So the ability for a seller to walk away cleanly without lingering liabilities and indemnification, as well as the escrow, which is idle funds sitting around with a potential clawback risk associated after closing, the seller should really be considering this. And it's worth the 15-20 minute phone conversation to call an experienced reps and warranties insurance broker to have the discussion.

 

Jeff: By the way, we talked just a little bit, Kirk, about that piece of information that people can find online on your company's website. And I'm referring to a PDF that I actually have used and referred to a little bit. It's Lexis Practice Adviser publication from Kirk Sanderson at Equity Risk Partners all about representations and warranties insurance. Where can they find that publication for more information about what we've been talking about today?

Kirk: Absolutely. Our website is equityrisk.com. Within there you will find a transaction risk tab. And under the transaction risk tab, you will also find our knowledge center tab. And then that holds all the information you could ever want on reps and warranties insurance and more.

 

Jeff: And if there's someone who might want to get in touch with you personally to talk about their own particular situation, and maybe they've got a question or two that they'd rather just speak to a human being about, how can reach you?

Kirk: Absolutely. I would absolutely welcome that. My cellphone number can be reached any time, day or night, 843-424-1057. 

 

Jeff: Kirk Sanderson, this has been a great conversation to have, an important one about an important subject that we often don't talk very much about here on “Deal Talk,” but it's something I think that's critical and something we needed to know, and I want to thank you so much for joining us here today on the program.

Kirk: Great. Thank you very much. I appreciate the opportunity you've given me here.

 

Jeff: Kirk Sanderson, vice president overseeing the transactional risk practice at Equity Risk Partners in New York, has been our guest, and I hope that you enjoyed it. Tell a friend about “Deal Talk,” won't you? In addition to morganandwestfield.com, you can find us on iTunes, Stitcher and Libsyn. “Deal Talk” has been brought to you by Morgan & Westfield, the nationwide leader in business sales and appraisals. Learn more at morganandwestfield.com. My name is Jeff Allen, thanks so much for listening. We'll talk to you again soon.

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