Acquisitions Anonymous - #1 for business buying, selling and operating - A broker forecasting slower growth?! - Acquisitions Anonymous Episode 112

Episode Date: August 5, 2022

Michael Girdley (@Girdley), Bill D’Alessandro (@BillDA), and Mills Snell (@thegeneralmills), we talk about an interesting deal on Wholesale of Premium Flooring Products in Texas. It is a real deal from one of our listeners and had a quick consultation on whether this deal is a good one or not. We talk about the deal’s consolidation, financials, margin compressions, and more.-----Thanks to our sponsors!* CloudBookkeeping offers adaptable solutions to businesses that want to focus on growth with a “client service first” approach. They offer a full suite of accounting services, including sophisticated reporting, QuickBooks software solutions, and full-service payroll options.----- Do you love Acquanon and want to see our smiling faces? Subscribe to our Youtube channel.Do you enjoy our content? Rate our show!Follow us on Twitter @acquanon Learnings about small business acquisitions and operations.-----Show Notes:(00:00) - Introduction(00:42) - Our sponsor is cloudbookkeeping.com(02:09) - A Wholesale of Premium Flooring Products(03:53) - Do we trust the stated financials?(06:26) - Is this a Covid-fueled growth case?(07:28) - Finding the competitive advantage of your business(08:38) - Margin compression due to increased costs: What should you pay attention to when looking at financials?(10:24) - What is the generational equity on this deal?(12:38) - What is Bill’s strategy to acquire a risky business?(14:44) - What is the red flag here?(16:59) - Would we buy this?  Yes. How?!-----Additional episodes you might enjoy:#108 A fireworks store and a ski rental business for sale#106 A Pet Product and Saas business for sale - Which one do we like?#105 How to Make Money in the E-Commerce Game - Bill D’Alessandro gives an e-Commerce masterclass - Part 1#79 What do Investors want? - Dig into an investor’s mind with Bradford Hardin#75 SBA Loan Secrets with Heather Endresen, expertise from a Billion-Dollar LoanerSubscribe to weekly our Newsletter and get curated deals in your inboxAdvertise with us by clicking here Do you love Acquanon and want to see our smiling faces? Subscribe to our Youtube channel. Do you enjoy our content? Rate our show! Follow us on Twitter @acquanon Learnings about small business acquisitions and operations. For inquiries or suggestions, email us at [e-mail]

Welcome back, everybody, to another episode of Acquisitions Anonymous. We have a really fun one for you today. It's quick. We're doing one deal, kind of quick in and out. And this is a business that we really didn't love very much, but I do think we have fascinating conversation about it. It's a wholesaler and distributor of premium flooring products in Texas. I'll give you three guesses about which one of us sent this in. And you can listen to the episode to find out more. But we key in on some interesting points about this type of business, where it sits in the value. chain, where margins are for distributors and how you think about a transaction like this if you're into this kind of thing. Hope you enjoy this episode and stay tuned after a quick word from our sponsors. Hey, Michael here. Want to talk to you about today's sponsor for the episode, which is cloud bookkeeping.com. So cloud bookkeeping is actually run by my neighbor, Charlie. So I've met him in person and can attest that he's a real human being and a good person. And what cloud bookkeeping does is offer a full suite of bookkeeping services all in the cloud for you around QuickBooks and other technologies that you're using as a small business owner. So if you're interested in getting the bookkeeping

part of running a business off of your plate and focusing on running your business, Charlie and his team are one to call. They can put together a bunch of other stuff in terms of helping you manage and grow your business besides just bookkeeping, sophisticated reporting, definitely helping you get your quickbooks online set up in the right way, and a number of things around payroll as well. So definitely know them and recommend them. If you want to find out more about cloud bookkeeping, you can go to their website at cloudbookkeeping.com,

reach out to Charlie. I know many of you have and see if he can help you make running your business easier and more fun by letting them help with a lot of the bookkeeping solutions. And when you call, mention this podcast, it would help us and help Charlie know that we're supporting him as well. So thanks a bunch and cloudbookkeeping.com as the sponsor for today's episode. Guys, welcome back.

Another fun, quick episode. We have one deal to discuss today. And Michael's got our deal. Michael, let's dive right in. All right. So this is actually a real deal from a real listener who may or may not be my buddy. So he said it to me. He's like, hey, check this one out currently.

I was like, well, yeah, let's check it out. So it's one page teaser that we have. We've pulled it up if you're on YouTube. And it is titled a wholesaler of premium flooring products. It has a 2022 estimated revenue of $14 million and $3.5 million in EBDA. And it is located, guess where Bill? Not North Carolina, Texas. Of course.

So they have a picture here of a guy putting down flooring. So it looks like laminate style. stuff, the stuff that's in your kitchen and bath. And basically, 2021, they sold hardwood, luxury vinyl, trim, and accessories over that year. 84% of their revenue was from hardwood flooring. So that, like, the hardwood flooring that you put down over concrete to make it look like you have a wood floor. So the company is a rapidly growing wholesaler, a premium hardwood flooring, and luxury vinyl planks operating in a major urban market.

So it basically means it's either dollars or huge. Houston. Using a well-curated network of key suppliers, the company designs and imports its own products, offering several unique collections with strong brand recognition and its key markets in multiple states. The company sees opportunities for continued growth, both through acquisitions and geographical expansion and management, is interested and willing to remain with the company post-transaction to facilitate orderly transitions. It is an S-Corp, so that means it is founder-owned and tax as a partnership, has seven full-time employees, claimed to have deep management and a bench of people to help run the business, a 34,000 square foot lease facility and a number of

growth opportunities. In 2019, they did $6 million in revenue. 2020, they did $8 million in revenue. 2021, they did nearly $12 million in revenue. And their estimate for 2022 is $14 million in revenue. So they've been growing pretty quickly. It looks like 20%ish per year. And then they've been operating. So the year that they did $6 million in revenue, they did $800K in profit. And then the $8.1 million year, they did $1.6 million in profit. And then the $11 million year, they did $2.8 million in profit. So tell me with my math bill. That looks like they're running about 20%?

20% margin. A little better. A little better. I mean, 10% on $14 million will be $1.4. And they did $3.5. So that's, you know, that's 25% roughly. So interesting, they... I call BS on the margins.

If they're a wholesaler of flooring products, those aren't sustainable margins. There's something wrong. Well, it looks like they actually predict the revenue to slightly flatten out over the next few years. So 2022 is $14 million, then $15, then $16, then $17. Those are suspiciously around numbers. And then they plan to continue operating at the 25-25-ish percent EBITA margins.

I have to hand it though, guys, to this broker. I'm seeing here something that I've never seen before. This broker is forecasting a slower growth rate post-transaction than pre-transactors. This business has gone from 8 to 12 to 14, and then they want to sell it to you and think it will go to 15, 16, 17, which is on one hand, I'm like, wow, like how honest. On the other hand, it makes me go, whoa, that's the optimistic case. What's really going to happen? I think what this is is it obfuscates the fact that three years ago this business was making almost no money. So like if they continued with the typical trend of chart crimes where revenue just continues to like double every two years, you would look back and be like, wow, in 2019 the business did $6 million in revenue.

Like it's going to accentuate the fact that the business was very, very small, not that long ago. And they will probably want you to pay five times $3.5 million today. You know what I mean? I wonder if this is a COVID bump business. People are at home and redoing their floors. I wonder if that's why they've predicted it to slow down. Yeah, or a situation where, you know, during COVID with stuff like this, you were basically like, oh, you actually have flooring to sell me?

Like, let's go. I'll pay you whatever you want. And that caused the margin bump and the revenue bump. They say strong client and vendor relationships, the company has long-term relationships with its vendor base and maintain strong relationships with multiple vendors for its wood products, reducing the risk of losing a single supplier. The company also maintains strong relationships with its customers. Their commitment to quality of service and products has earned the company a rate of repeat business of 90 percent, which leads me to believe they are most

likely selling mostly to flooring contractors and maybe to general contractors who, yeah, So that's good because how often like, or you and me buying flooring mills is pretty, pretty rare. So they have a diversified customer base aside from the company's top customer that accounted for 17% of sales in 2021. No other single customer is responsible for more than 8% of sales. And do they talk about the residential versus commercial split here? No, they just talk about in the pie chart just as like hardwood, vinyl, trim accessories. Yeah.

So it could be a mix of stuff that people are doing in terms of commercial versus residential here. But it looks like they're selling to the actual contractors or builders, which is a good thing. I wouldn't want to be in this business while selling consumers. I was just going to say, I think it depends. This is a, this is again why I have an issue with the margins. But if you're selling to contractors and, you know, like, floor. installers, they are much more price sensitive because they are buying from you all the time.

And so you're typically having to compete to win their business. And any margin that they can pick up from you or your competitor is money that they can hopefully net at the end of the day from the customer. If you're really good at customer acquisition for this type of thing, you can command a higher, you know, a higher margin selling, you know, B to C. It's just what are you good at? What is the business ultimately good at. Yeah. The other thing that I didn't see in these financials that kind of surprised me is margin compression due to freight. So I've got a couple people in the flooring business. And they got absolutely annihilated during COVID because they were bringing in from China, you know, solid containers of wood, right? And so not only did the tariffs get them when

Trump put those in, but then when the shipping container prices exploded, it destroyed their margin because they were already spending like 25% of revenue on freight. And that went up to 75% of revenue when freight prices tripled. And what's interesting to me is I don't, it doesn't add up to me that margin expansion in a freight dependent, import dependent wholesaler. I just don't get that. Yeah. So something happened there.

I think that'd be something we'd all agree. We should look into what, what is causing them to actually think the business is not going to continue to grow quickly. And they know something. And I would be very curious. And maybe our friends in the audience that know something about, you know, this type of specific market would have some insight into it. I'm sure we'll get DMs about it. But I think that's really the story, as you guys are saying, the story just doesn't make sense. The margins are too high. And then we've got this broker doing just the weirdest thing of like slowing the growth down. And it's like, what's going on here? Like those two things give me pause.

Either they're the most honest broker in the world or the truth is that revenue is about to roll over. This is generational equity, too. You can tell because their teasers all look the exact same. It's just that the folks who sent it to us cut off the top and the bottom. But, you know, it's not going to be well advised, I would say, from the sell side. I also think it's hilarious that they say the company's, management is structured optimally with highly qualified and reliable personnel, but they have seven employees.

So, like, you know, how deep is the management bench when, like, there have to be people who are not in management. There have to be, like, people who are just working not in management out of those seven. It can run well without ownership. So the thing I love about generational equity is whoever they have at headquarters, proofreading, and writing these teasers, their uniform. They're well written. They explain the business concisely.

Yeah, there's questions, but at least like it's not like the last one. We looked at the last episode re-recorded. And, you know, or it's like misspellings and it was very frustrating. So I like that aspect about it. But like it feels like every time generational equity gets mentioned, people are just like so frustrated with them as a brokerage. It is interesting. Generational equity, they have this Omni channel kind of approach.

I literally walked into my office today. and I had two teasers in the mail from them. They send physical teasers when you get on. Not for every single deal. I don't even know how they pick the ones they send me. I didn't open them. But they blast out once a month all their listings. And it's definitely the, you know, we have the largest pool of potential buyers out there.

And that's how they land a lot of listings. And the crazy thing is there's a little bit of something to be said for that. You know, there's a broker in the economy. commerce space called Quietlight and they have a giant list. And when you're trying to sell small business, you need as many people looking as possible. And that sounds stupid, but there's value there. Well, and it's the case and point for microacquire, right? Like, there's so many eyeballs there. You just show up, you put in your credit card and you see all the deals. Like, I like it. It's great. So anyway, back to this deal. Going back to this deal at a high level, I just have a visceral response to

distributors and wholesalers. I think it is such a hard business. You sit in this place in the value chain where, like Bill mentioned, you have all kinds of costs that you can't control. They say they manage their supplier risk. But at the end of the day, like if there's a crisis in wood products, your supplier's not immune to that. And yeah, you could switch to another, but that guy's not immune to it either. And then you're riding on the on the revenue side, you're riding macroeconomic trends of is my thing hot right now or not? Are. are people replacing flooring in their homes in a boom or a bust, and you're just squeezed in the middle.

I just think that as you get in and really press on these margins, they are not, I don't, I don't think this cash flow is as real as it seems at face value. Or at least maybe not going in the future, right? I mean, like, we are living in a time of technology advancement and technology disintermediates middlemen generally. So unless you have some sort of like protected territory, it feels. more like a dealer rather than a wholesaler or you know you've got some protection from wherever the flooring is coming from or the parent of some kind. I feel like you're just going to have,

you're signing up for 10 years of squeezed margin to nothing. I bet you they went through 24 months of oh, we can charge whatever we want for this flooring because the supply chain issues were so bad for everybody else. And I bet you that's not going to continue. Because I mean, Mills, So the standard kind of benchmark for distributorships is like those commodity distributorships. You're running at 8 to 10 percent, Hiboda? Yeah, or lower. I mean, honestly, or lower. It depends on, it depends on, you know, is it who is your end customer, right?

Is it contractors, homeowners? What's the kind of distribution model of your distributorship or wholesalership? But yeah, it is rare that they're above 10. And all those folks want to find some way to differentiate. There's one here in town that I know. They tried to differentiate and create a custom metal fab shop to augment what they were doing of just stock, you know, distribution. And they were like, it's too hard. And we incurred all this cost.

We hired all these people. And it wasn't a profit center like we thought it was going to be. And it's like, yeah, because that's not what you're cut out. That's not who your business is. You're not a custom welding and fabrication shop. you're a guy who gets stuff in, you hold it on the shelf, and you turn around and deliver it just in time to the end customer. Just be content with who you are. Have you guys ever looked at like the high end distributors, or not the high end, the scale distributors for like electrical and plumbing stuff, like L.A. Electrical and CES and stuff like that?

Fascinating businesses when they get to a size much bigger than where these guys are. I mean, these guys are at $8, $10 million. but when you're moving a billion dollars worth of plumbing and electrical a year, like it gives you so many economies of scale, which these guys have no economies of scale. You've got nothing. Dis-economies of scale. You know,

but when you get to those giant like distributorships, and I forgot what the name of the one is, there's one out of Minneapolis that does electrical, I think, or plumbing. And like the family's like multi-billionaires because they can get 20% better prices and everybody else and they get put in the front of the line. It's really fascinating. Unfortunately, this is not one of those situations. Well, and there's been, there's been a lot of consolidation there, even the ones that are the ones that I know here that are kind of in the five to $10 million ebidda range, whether it's plumbing, electrical or mechanical, those MEP trades. They, you know,

they do. They have, you know, some pricing power that weeds out the mom and pops. And if you're a plumber, you don't go buy stuff from lows if you can help it, unless you just have to go do it last minute. You buy everything at the supply house because their pricing is better, their selection's better, and you know, you can buy on terms instead of at lows. But those guys get big and they have gotten gobbled up in consolidation. And for good reason, they're really good staying power type businesses with not a lot of customer concentration typically. So is there a price or a set of terms at which you would do a transaction for this business? Or is just a business real? I'm going to, I'm going to try to play an easier game than this one. People always tell me that this is like a

ridiculously stingy structure, but it's always the one I reach for when there's a lot of future uncertainty in a business and a lot of chance that the business goes to zero. And it's basically pure risk sharing. It's like, you give me the business. You know, I'll pay you, you know, a token amount. $50,000, $100,000 something up front to show that I'm real. And you give me the keys. And then we split the EBITDA after debt service for however long or until you receive a maximum of whatever. It's basically 100% seller financing.

But it's not actual seller debt because you got to scale the payments down if the business gets cut in half too. So it's basically a seller. You got to share all the risk with me. Like the only risk I'm taking is whatever the token up front is the 50 to 100 grand to show you I'm real. And then if the business works, works for you, works for me. And life is good. But sellers seem to hate this whenever I propose.

Yes, it's heads. Heads, they lose, tails you win. But you're doing all the work. And I talk to in DMs on Twitter. By the way, please don't DM me on Twitter because everybody DMs me on Twitter. and a cute answer. But there's a guy who's a, you know, it's a Shawnee and Anonymous, but he showed me a deal where he was structuring it just like that.

And it was a tiny deal for him compared to the other ones he's done. And I was like, dude, like, this is just a distraction because you have deal fever. Like, you should not be doing this at all. Like, no matter, they should pay you to take this business because it's that bad. And he messaged me like four months later. He's like, early, you know, thank you. Because I would have been spent all my time on that. these two great deals came in otherwise and I paid up for equality companies.

So, I mean, there's, I think there's that argument where it's like, you know, it comes back to what we talked about last week, Bill, like, you'd have to pay me to take this business. Unless I was so deep in this business already and this was an add-on, I could get some scale or something like that. I'd go back to the fact that three years ago this business was hardly making any money. They have seven employees and they think it's worth $15 million. I guarantee it. it's just not, it's just not sellable at its current inflection point.

Maybe if it had three years worth of this level of profitability in earnings, and, you know, they had proved that it can work at, at this level of scale, but I just don't think so. So other than that, we think it's great. All right, well, on to the next one. So I'll tell my buddies, look at this, that we hated it. And you can listen to the episode. Free consulting.

You send, if you got deals you're looking at, send them to us, and we'll take a look at them. you get free consulting. But, you know, it's free. So you get what you pay for sometimes. All right. Well, that wraps it up. Cool. All right.

Well, we'll see you guys next week. And on to the next one.