Acquisitions Anonymous - #1 for business buying, selling and operating - A seasonal costume company moving online; An electrical contractor in farm country - Acquisitions Anonymous e6

Starting point is 00:00:01 All right, everybody. It's time for another week of Acquisitions Anonymous. Michael Girdley, I'm here with my co-host, Mills and Bill. Good day to you guys. Good day, sir. Nice to be here. Hello, hello. So this, for those of you new, this is a podcast that we do on a mostly weekly business. We took last week off due to scheduling and busyness stuff. But on a mostly weekly schedule, we get together. And for about a half an hour, we talk about businesses that are for sale or were for sale. in the sub-20 million enterprise value space and learn from each other and dig into the businesses and how to think about them before deciding to pursue them or not as things we might want to

Starting point is 00:00:50 buy or someone might want to buy. So today with our first deal is Bill Delessandro. Bill. Yeah. So this one is an interesting one. It is a costumes and novelties company. So think all kinds of gifty stuff, but also a huge variety of of costumes, both for Halloween and other times of the year. They're doing about $2 million in EBITDA. They're asking about $8 million, so about $4.X. Been around for several decades, and they do costumes. They are primarily an FBA business, so they sell about 90% plus on Amazon. They make some of the stuff in China. They make some of the stuff, or they buy some the stuff from other companies, but doing it a long time, as I said. And what I thought was really

Starting point is 00:01:37 interesting about this business is it can kind of sound fun and sexy, right? Because you're like, oh, like, you know, I know that superhero or I know, you know, that movie, you know, it'll be really cool to work with these big brands. But when you dig into it, and, you know, we're just working from kind of the teaser here, not, you know, I haven't seen all the full financials and everything. But when you dig into it, I'm sure you will find that, and they disclose, they do, a huge bulk of their sales in Q4, a very seasonal business. And they also say on about $2 million in EBITDA, they're carrying between $2 and $5 million of inventory at any one time,

Starting point is 00:02:14 which is a huge cash sub. So I thought I would bring this deal to the podcast because it gives us a good opportunity to discuss kind of dynamics of seasonal businesses. And Michael, I know you have some specific background. It'll be fascinating. So I kind of want to kick it off with review of this one. Yeah, it's fascinating. I would be very curious what does their sales by month look

Starting point is 00:02:38 like? And I would be willing to bet that November kind of sucks because in America, at least, costumes are, you know, except for seemingly three and five-year-old girls buying princess outfits are very much focused around, you know, the Halloween season. Very curious what their month-by-month kind of sales would look like digging into this one. And also, you know, if you is a buyer have to think about, how are you going to fund your company for the other 10 months of the year while you work up to the big time? Yeah. Yeah, I've actually, so they just close here in the SIM that we are a seasonal business

Starting point is 00:03:13 having very strong Q3 and Q4, which makes sense, right? What's interesting, though, is they're doing everything in North America, but they say that a huge expansion opportunity would be going internationally, which I thought was interesting. Yeah. I think what's interesting about this one is you have to kind of look at the the structural shifts in the market. You have obviously what's going on with the Amazon channel as a platform and starting to dominate a lot of this stuff, the ever-present Walmarts and targets of the world who

Starting point is 00:03:49 have entire aisles dedicated to costume certain times of the year. And I think it's a great question. What is going to happen with costume wearing as an American tradition getting expanded into other countries, right? I think except for Canada, it doesn't happen that much in some of these other places, or maybe I'm wrong. Yeah, I don't know. Have you guys ever invested in or seriously considered investing in other seasonal businesses?

Starting point is 00:04:13 I mean, I have some scars myself from the sunscreen industry, which is obviously quite seasonal summertime. And one of the big things that we struggled with when we owned the sunscreen brand was, and also sunscreen is compounded because it is, an FDA regulated product, so it has about a 12-week manufacturing lead time by the time you do all the testing and paperwork. And you realize that if you've got to order your sunscreen in three months in advance, and you only have three to four months to sell the sunscreen in the summer, you've basically got to guess how much sunscreen you're going to sell in December and order it

Starting point is 00:04:49 so it can be in in March. And if you guess wrong, high, right, you're sitting on a ton of inventory for another nine months, right? Which is, you know, expiring in your warehouse. In the case of sunscreen, it has an expiration date. In the case of something like costumes, you know, maybe that movie isn't popular anymore. Right. Next year, right?

Starting point is 00:05:07 And if you guess low, you run out of inventory and you painfully stock out in the case of sunscreen in, you know, June, at the end of June or early July, and miss half of your selling season. So it's just a very kind of hard mode business, is my experience with seasonal businesses and with a lot of inventory risk. Have you guys had direct experience with that? Yes, but I've also been talking a lot, so I'm going to pause here. No, no, no.

Starting point is 00:05:32 You got to, Michael, come on. You got to talk about fireworks. There's no way I can jump in and cut you off about fireworks. Yeah, this type of stuff is where I cut my teeth. And I will tell you, having transitioned out of being a full-time CEO of a fireworks company to having more diversified interests, going into other businesses, frankly, just felt like doing business on easy mode. With fireworks, for example,

Starting point is 00:05:58 or a Halloween business or a costume business or any very seasonal thing, wedding season as well, you're dealing with massive cash flow challenges, you have a limited window. The other very interesting thing to go back to what you said, Bill, is your Oudaloups,

Starting point is 00:06:14 right? Your observe, orient, decide, and take action on it. Those are very long. It actually makes the business really hard to run because you end up with making decisions right now based on information that you learned 12 months ago,

Starting point is 00:06:28 as opposed to a normal business where you could look week by week or month by month or quarter by quarter to be optimizing your business around that. So, I mean, that's why you go into a lot of these type businesses that are seasonal and you're like, why are the margins so high? It's because so much of this stuff is really, really difficult to run and really challenging top to bottom from a managerial to a cash flow standpoint to a you know, to everything. Like, it's just, it's just on hard mode.

Starting point is 00:06:58 The one thing I'll say is that, you know, seasonality just complicates the mechanics of a transaction based on the timing of when you close, right? So your networking capital adjustments in an acquisition like this are drastically different if you buy the business in, say, September versus if you buy it in January. And, you know, you're just kind of at some point, you know, you're going to have to square up

Starting point is 00:07:24 with the sellers about what's the right, you know, normalized networking capital number. In addition, you're also going to be beholden, like Bill said, you're going to be beholden to whatever orders and estimates they made based off the previous season about the orders they made for the subsequent season. And so, you know, you're going to inherit, right, their overestimation or underestimation, and you're going to be pissed at them, right? Either way, because it's definitely not going to be right on the mark. It just creates some complications and, you know, network and capital adjustments are always kind of tenuous because the seller thinks that's their money and you're saying, look, that business requires this money

Starting point is 00:08:04 in order to be able to run. And so I've just seen it make things much more complicated with seasonality. One other thing I've encountered with adjustments is whether some of this inventory is saleable. Oftentimes, businesses are sold on kind of a business of this side, rather, are sold on kind of a seller's discretionary earnings or which is kind of modified EBITDA, a multiple of that plus inventory at cost. So you kind of buy the inventory separately, which I sort of philosophically disagree with. And Mills, I know you'll come down on my side of that one. And we looked at a business once where there was a large amount of inventory. And we kind of dove in. And what we realized was half of this inventory was essentially obsolete. It was not sellable.

Starting point is 00:08:52 to kind of keep it, to translate it to this type of business, it would be like if it was a costume for like a meme that wasn't funny anymore, like from last year, like nobody wants to wear this costume anymore. But they were basically trying to pawn it off on us, the buyer. You know, they were trying to liquidate essentially all of their inventory. They couldn't sell it for a penny a unit to anyone else who was literally worthless. But they were trying to sell it to us as part of the transaction as part of this kind of big lump of inventory at cost, at carrying cost, at inventory value in their balance sheet. So as a buyer, you've got to be really careful. Sellers will try to, because they don't have any use for it, right? They will try to sell

Starting point is 00:09:29 their inventory at wholesale, like all of it, all at once. You've got to make sure you can actually sell it. Otherwise, you're a sucker. Well, and that does go back to the mechanics of the transaction, because if you have a good attorney and a good purchase agreement, typically what you would want to see, and I agree with you, Bill, what you'd want to see is we're going to pay you for the inventory, but once we get in there, right, and can put our hands on it, we're going to do a post-closed true-up, whether it's against money and escrow, or whether it's against, you know,

Starting point is 00:09:59 the networking capital true-up to say, oh, we thought we were buying, you know, let's say it's $2 million worth of inventory in the slow season for this business. We were going to pay you $2 million, but when we got in there, only a million of it was actually valuable inventory and the rest of it.

Starting point is 00:10:15 We have to then negotiate after closing what are we going to pay 50 cents on the dollar? We're going to pay 25 cents on the dollar for the stuff that we're saying is worthless and you're saying, you know, is it? That's just, it's contentious for sure. So there are one thing I add in this costume space, which is very interesting, is perhaps the biggest U.S. supplier of costumes is this company called Rubies that has had a lot of licenses and that sort of thing.

Starting point is 00:10:43 So I think that, Tim, they're just going through a bankruptcy. and they just came out of it in late September. And I just happened to run across that when I was looking at a bankruptcy tool yesterday. So there were 400 people and sold for 133 million according to the bankruptcy stuff. So yeah,

Starting point is 00:10:59 I think that's where I would start looking at a business like this. Like what are the trends that are going on that are making this market so hard and are possibly causing folks like rubies to go bankrupt? And then also causing these guys who don't appear to be the oldest of sellers and appear to be doing pretty well, why do they want to sell? I would definitely

Starting point is 00:11:21 start with motivation and understand, you know, what are they seeing that maybe a buyer hasn't learned yet and make sure I understand all that before I, you know, commenced on closing a transaction to buy something like this. That brings up an issue that I noticed on this, which is that the cap table of ownership and day-to-day management are basically synonymous. It's kind of a complicated cap table and there's some trust involved, but at the end of day, if you boil it down, the people who are running the business or the people who own the business. And so guess what? They probably do not want to continue being employed there if they sell this business. So that creates, you basically have got the CEO, the CFO, and the person who's in

Starting point is 00:12:02 charge of product development, you know, all probably want to walk out the door. And if you're not really, really prepared for that, meaning, you know, you probably need to be a strategic because there's no way that one person could kind of take over all those responsibilities, even if you were incredibly proficient at some of these categories, the learning curve is just going to be too steep. So I would have a lot of concerns about that if I were stepping into this. I think maybe this is an interesting one to look at if you're one of the scale-up kind of FBA, you know, fulfillment by Amazon experts.

Starting point is 00:12:37 There's been a number of people I've kind of learned about how they're building their businesses selling almost about, you know, this kind of low teens, low 20 million a year and stuff. And these people have really learned how to play the Amazon game well. And you can kind of see the way this is going, you know, in terms of this particular business. Like this is going to be much what used to matter as a strategic and competitive advantage from a team standpoint, right, where it was like who can, what costumes can you get licensed? What type of stuff can you, can you see and have control over to how good are you at Amazon selling? Yeah, there may just be an opportunity here for somebody who's a really good Amazon seller

Starting point is 00:13:16 to add some high margins, some high margin sales to their existing business. So maybe that's what you're saying as a strategic bills. Yeah, I would just be, you know, I'm concerned always about the institutional knowledge of the business, not all the bad stuff, not just where the skeletons are hidden. But, you know, how do you respond to problems? where are the customer relationships? I mean, even just product development, right? That, I mean, could be just a full-time kind of passing of the baton

Starting point is 00:13:48 just on that one discipline within the business. And if all of a sudden you have the CEO, CFO, and product development person leaving, you know, yeah, I would want to make sure that I've got at least as good or maybe better product development person or team, right, who can say, oh, you know, we look at this and these guys are mom and pop, right? They're doing sourcing and product development, you know, the way that we did it five years ago and we can really improve it. I wouldn't want to be on the other end of the spectrum going, you know what, I think I could learn about product development and sourcing and logistics. Like, I wouldn't want that kind of uphill battle in a

Starting point is 00:14:26 business where like we've talked about, you could get crushed on, you know, miscalculating the seasonal demand. And then you're just stuck holding, you know, a bunch of inventory. we. Rough one. Okay. Well, hey, that's a great one. I would suggest, unless anybody has any more pressing comments about this one, you know, it sounds like this is more in the, we don't totally hate it, but we're a little wary bucket. So that's good. It's good. We've hated a lot of stuff, so at least we don't totally hate this one. It's priced right. That's for dang sure. So, cool. Mills, let's do yours. Okay. I've got a business and electrical contractor that they predominantly do commercial and farm and industrial work. Very, very, very, very little residential.

Starting point is 00:15:11 They're based in the Midwest. It's about 30 to 40 employees. 2019 was 9.5 million of revenue. 2019 EBITDA was about 1.2, 1.3 million. A million of that is adjustments to the EBITDA. So we'll talk about that a little bit. They're asking $6.5 million, so about a five times multiple. What I like about this business and what's intriguing to me about it is that 65% of their revenue is doing solar installations on farms. So think, you know, the solar panels that are on, you know, help kind of with the mechanization and mechanics of, you know, running a cattle farm or grain bins or, you know, chicken houses, things like that. And so that specialization

Starting point is 00:16:01 I find really intriguing. One kind of issue or flag, I guess, is that 21% of their revenue comes from a longstanding, about a 25-year relationship with one specific commercial retailer. And they've been doing their retrofits from older signs to LED signs. They do about 50% of their sign work. So it's not wholly dependent on them as a vendor. but I would have questions about, okay, if you've been doing this longstanding relationship with them, how much work has left and how quickly could this, you know, 20%, 20 plus percent of your revenue fall off? They make a mention in the Sim 2, which this is one of those kind of pet peeves to me, just where they dangle this carrot about, you know, hey, look, we have the opportunity to grow astronomically fast. But they dangle this carrot about we're getting certified to do Tesla roofs. and opinions about Tesla aside,

Starting point is 00:16:57 I just think that's a weird kind of, you know, proposition to make. They say we will be the top five installer. We'll be a top five installer in the country. And, you know, I don't know if they're saying that because they want to get paid for it, right? And get paid for kind of the future performance that they're anticipating. But I just think that cheapens it. I love the fact that they're so boring. You know, I say that very lovingly.

Starting point is 00:17:22 And you do solar installations on. farms. That's amazing. That's not going anywhere. And then for you to all of a sudden say, hey, look, we also were working to pivot into this thing that could be totally feaster famine, and we're going to get up on people's roofs and install a product that we have, nobody has any experience installing. So those are some of my kind of issues and concerns, but yeah, you guys respond. I picked out the Tesla call it immediately and identified it as, I mean, as a savvy buyer, you got to know when they're trying to play you. And this really smelled like, you know, trying to put some lipstick on this sim. Oh, Tesla, like Tesla is hot. Let's make

Starting point is 00:17:59 sure we associate ourselves with them. So as a savvy buyer, you got to make sure you don't kind of take that date. Another thing I thought was interesting is that they had experienced a sales decline from 17 to 18 and then a big jump again in 19. But their 20 was forecast as half of 2019. So it looked fairly volatile from a kind of top line standpoint. And then their margins are also all over the place from 30% to 14% back to 24%. And I don't know, Mills, maybe that's something that has to do with what projects you win more in construction. It's more volatile. But that worried me off the top, off the top when I saw it.

Starting point is 00:18:40 Yeah. And I don't know. I mean, I hear you on the revenue side that just for the first six months of 2020, If you do a straight annualization, they're only getting, you know, the first six months, they've done two and a half million. So if you straight annualize that, they're only getting to five million. And I wonder if there's some kind of idiosyncratic seasonality where they say, oh, yeah, you know, we usually get 70% of our revenue in the last six months of the year, something like

Starting point is 00:19:08 that. But you would definitely want to, you know, press and find out. But that's a great point. Another thing I liked about this is that it seems like by installing all the these solar panels on farms, like they're helping people make money. You know, they're helping, I would think, these farmers mechanize their farms, increase the yield. And anytime your business helps other people make money,

Starting point is 00:19:30 you typically have a good business versus selling somebody, you know, a depreciating asset or something they don't really want or entertainment. Whenever you can make an ROI case that's really compelling for people to run their business when you sell your product, those are always great businesses to be in. So I like that about this one. Yeah, and it's fun that you look at it based on when they were started in the late 70s. It's probably an owner who wants to sell just because he's getting old. And I'm totally with you that you got to dig in on that big chunk of their business that comes from,

Starting point is 00:20:01 it looks like the one relationship that the owner probably has with this retailer. And we also know what's happening to retailers. So that's at best a tenuous thing that you'd be buying. So anything I think that would work on this, you have to really get the seller to agree that that's a pretty risky. you know, cash flow thing or a pretty risky customer that they would potentially have to share some of that risk through an earn out or or some sort of clawback if that, if they were to go. Well, the thing is, it's retrofit, right, from traditional lights to LEDs. So eventually all the signs will be retrofit. There's an end date to this. They're going to run out. So what is a

Starting point is 00:20:39 Tesla solar roof certification? What is that? You get to help people install the Tesla solar roofs? I think so. But, you know, if, you know, if, you're waiting on Elon Musk, right, to turn on the spigot and produce for you another $20 or $30 million worth of revenue or whatever it may be, right? I would just be incredibly hesitant, you know, to bet the farm on that. On the adjustments, you know, this is kind of another pet peeve of mine, but if you look back, these adjustments in round numbers, kind of whole round numbers make me a little bit suspect. So they're trying to adjust $120,000 a year. And in travel, but they'd say that it's the exact same figure for the last three years. And it's the same

Starting point is 00:21:24 for auto expense, $75,000 a year in auto expense. I mean, this guy could be buying a brand new pickup truck every year. And that would, you know, I guess roughly work out. But I just, when you say, hey, look, we've spent $120,000 a year even. And I know, I know that they're not attesting to that, but I want to know that those numbers are a little bit more accurate. If I'm going to give them credit for the adjustment, right? Because they're asking me to pay, in this case, a five times multiple on every dollar of adjustments I allow them. I'd want to push back pretty hard on some of this and go, did you really spend $75,000 every year? Surely not. So if you want me to pay five times that, I want to really hone it down. Yeah. To me, I see that and I just go, I'm going to have to do so

Starting point is 00:22:08 much more work because now I can't trust any of your financials. Right. I mean, everything, If you look all the way down, the crazy thing is this description of financial statement at the top. And for 2019 and 2018, it says tax return. But then you go down the columns and everything is rounded to the thousand. So, you know, like 20,000, 7,000, 80,000, 75,000, all of the expense line items are round thousands. And I go, oh, God, this, like, what is going on if this is on your tax return? Like, what are the real financials of this business? What are the real processes of this business?

Starting point is 00:22:42 You know, can I even trust the next? numbers coming out of it. And I go, oh, this is a diligence nightmare. Yeah, yeah, agreed. And it looks like a tough one to come in and run if you don't know the space super well. You know, the corner of the Midwest where this is located is pretty sparsely, sparsely populated. So if and when the owner and other folks leave, you're going to, they are some of the electricians. So you can have to replace them, you know, pretty, pretty challenging tough business. And then you look, you combine that with the variability of the revenue where it's down 30% one year, up 50% the next year.

Starting point is 00:23:17 This is buying yourself a roller coaster. And when you buy a roller coaster, it's tough to take this asking price of, you know, five times EBDA with, including ad backs. And it's five times their best year over the past four years. So it seems price to perfection at this point. Yeah. Very cool. Okay.

Starting point is 00:23:36 Well, good news. We like the costume one much better than. This, the better good news is none of us are going to move to farm country and take over an electrician business. Not this year. Maybe, maybe milk will retire to farm country and take over the electrician business. That's great. Well, guys, I think we're out of time today. We'll save the third one we had prepared for next week. And you guys did a great job. Thanks for doing it. Thanks, Michael.

Acquisitions Anonymous - #1 for business buying, selling and operating - A seasonal costume company moving online; An electrical contractor in farm country - Acquisitions Anonymous e6

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