Acquisitions Anonymous - #1 for business buying, selling and operating - Tiny Saas for high velocity hiring of low-level people, High variety construction firm - Acquisitions Anonymous e5

Episode Date: October 5, 2020

Welcome back for Episode 5!This week, we talk about two deals:- A tiny saas focused on hiring process acceleration- A very profitable construction company that seems to a bit of everythingEnjoy!-----* 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.-----Past guests on Acquanon include Nick Huber, Brent Beshore, Aaron Rubin, Mike Botkin, Ari Ozick, Mitchell Baldridge, Xavier Helgelsen, Mike Loftus, Steve Divitkos, Dzmitry Miranovich, Morgan Tate and more.-----Additional episodes you might enjoy:#62 Two Landscaping Businesses for Sale - Mike Loftus CEO of Connor's Landscaping#66 Analyzing Software Businesses for Sale with Steve Divitkos, experienced industry CEO#42 $900k Moving and Storage Company / $500k Rural Mini-Storage#61 Two Manufacturing Businesses for Sale - Brent Beshore - Founder and CEO at Permanent Equity#24 $5mm pool services and lifeguard staffing co / $2mm septic services business -  featuring baller @WilsonCompanies as a special guest!#45 $800k/yr cleaning business in Midland, TX / a $565k/yr window cleaning business in San Antonio, TX #48 Two Landscaping Businesses for Sale - Mike Botkin of Benchmark Group--- Support this podcast: https://anchor.fm/dealtalk/supportSubscribe 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]

All right, and we are recording, let's see, episode five, right, of Acquisitions Anonymous. So welcome to my co-host, Bill and Mills. Good to see you guys again. And this is our first recording with our new name, huh? Pretty stoked. We are now even more anonymous than before. Acquisitions Anonymous. Well, you know, we were lucky because some person came in on Twitter after we decided to call this Geel Talk, and they're like, that's a terrible name.

And we came up with the other one. Pretty great. Well, for those of you that are new to the podcast, I'm Michael Gurdley, one of your three co-hosts. I get together with Mills and Bill once a week or so, and we talk about deals that are out on the market for S&B M&A. So we really focus on looking at stuff right at the early part of examining a business you might want to buy.

And we look at all kinds of different software, CPG, B-to-B services, consumer services, all kinds of stuff, mostly focused on North America. So we have two deals for you today that we're going to talk through. Both are ones that are real deals that are ones that we're going to talk about anonymously. So if you hear us kind of refer to it as this company or making up plenty names for them, it's because names are protected. Names are anonymized to protect the innocent in these two deals.

So Mills, you got our first one to talk about today. Yeah, sure. So got a quote, diversified construction company here in the Southeast, which is where I'm located. So it peaked my interest. I say diversified a little bit tongue in cheek, though, because this company, it seems like their niche maybe is the fact that they will perform any and all subcontracted trades. So they will do plumbing work. They'll do HVAC, electrical. They'll hang street lights. That's a big segment of their business. business. They'll do steel erection, concrete work, fiber optic installation. I mean, it basically is all the major subs that you could think of. Their 2020 revenue annualized, which is kind of an important note, is about $6.5 million. That's annualized based on January through May. So I would want a lot more detail on that. Why hasn't the intermediary updated the SIM? Are things going as well as the annualized numbers or much worse. But their 2020 EBITDA, based on just straight annualization, was about $2.5 million.

So surprisingly high margins. It kind of historically had in 2018, 19, and annualized 2020, 30 to 40 percent EBITDA margins in construction, which is problematic to me because I don't think there's any way that's sustainable necessarily. But 2017 margins were in the teens, so pretty substantial jump. The list price, so there is an asking price on the SIM, it's 6.15 million, which is about a four and a quarter multiple on EBITDA. And they've listed out that that includes a little over a million dollars worth of assets. It's a lot of heavy equipment, pickup trucks, a crane apparently.

And then they didn't necessarily do the math right, but there's some AR and some inventory and things like that as well. it's only about 20 employees, the vast majority of those are field, you know, superintendents, foreman, those kind of things. But they really do emphasize that they self-perform a lot of this work, which to me, I guess I just have a lot of questions operationally. How do you have, you know, only 20 people on staff and, you know, you can do, seems like it's all commercial work, no residential. How can you, you know, self-perform plumbing, HVAC, electrical, and steel erection? Those are very, very disciplined trades that, you know, it seems like if you're going to be a generalist, maybe really hard to compete with specialists. They say that they perform about 80 estimates a year,

and they typically win about 25% of those, and they're doing 20 or so jobs a year. The owner's situation is, I would say, a little bit problematic. It's one owner who still performs the vast majority of all they're estimating. And there's a note here that he says, you know, I could easily pass it off to an employee who's cross-chained, but I just enjoy it, which to me, it sounds nice, but I would just wonder, right, if this other employee who can do estimating never does it. In construction, you just live and die by the quality of your estimating, and I would have a lot of questions around that. The other big issue is that the owner personally holds the licensure in South Carolina and a lot of other states, you as an individual have to be licensed.

So he's a licensed GC. He's licensed to hold their electrician contractor's license and then also HVAC. So he says he's willing to stick around for a year. A year is not long enough to get all three of those. It may be long enough to get one of them. So just some wrinkles on it. But I actually don't hate this deal depending on the situation. A private equity firm and a family office would probably never be able to buy a business like this.

But if there was an individual who lived close by or was willing to move close by and roll up their sleeves and kind of be a surrogate, I would think that if you bought it right, I don't know that the asking price is buying it right. But I think that even if EBITDA levels normalized to maybe a million and a half or something like that, you've still got maybe a durable, competitive advantage just in the sense that there are some folks who just want a one-stop shop. And that's what they really emphasize. We can be a one-stop shop, but it's not without its risks. So I'll stop there and you guys chime in. How are they so profitable? This is really weird. Is it just because they're very picky about what they're choosing

or this owner is really good at estimating or what's the secret sauce there? But most folks I know who do this type of stuff are not running 20, 25 percent, EBITA margins. They're running 10, 8, right? So what's your theory around that? Well, I mean, I think it probably has to do with the type of work they're doing, not just that it's specialized in nature, but it probably says something about the ultimate kind of ceiling on the scale of their growth. So a $6.5 million revenue construction company may be able to do these kind of one-off jobs that otherwise would fall through the cracks, but you're never going to get to a $50 million. a revenue construction company doing this type of work unless you just vastly expanded the geography

and then the economies of scale breakdown. So I think it has something to do with kind of the building owner and project type. A lot of municipal contracts are this way. You know, the GC typically has very thin margins because they're just having to turn around and hire a sub. Most subs could have 15 to 20, 20 percent plus EBITDA margins. And the GCs, you're right, could have 10 percent or less, A lot of them have drastically less. I remember looking at a deal in the Southeast that was a $160 million revenue general contractor that had $3 million in EBIT. So, I mean, it just, it really depends on what you're going for, right? But I think, you know, if they're doing about 20 jobs a year on about $6 million in revenue, $300,000 a job, you know, if it's more commercial and more remodel, which is what they say, you know, it,

it stands to reason that I could see there being enough of those kind of $300,000 jobs where a property owner or an individual is just saying, look, I want to make one phone call, I want one project manager, one superintendent, I don't want to manage the job myself. And they're just saying, look, we as the GC can, we can be the prime contractor, but instead of losing our margin and subbing out some of this, we're just going to self-perform. I just think it's problematic. because not every HVAC job is created equal, right? It's easy to kind of run HVAC and, you know, one little unit in a strip mall or something. But to do a $400,000 HVAC job, you probably need a different skill set, right?

A different team, different familiarity with systems and all those kinds of things. Yeah, I wonder how much this is really dependent upon the capability and the relationships of this owner, who look if he's retirement planning or she's retirement planning has to have been around for a long time. And I guess you have to have been around a long time to be competent in like the 42 different things that they do, all of which by themselves are really challenging. Like HVAC is radically different than foundation

than design build than fiber optics. It's pretty fascinating. And then the customer base is different too. Like traffic signals is a B to G thing. And then you have a lot of, of this stuff that's being sold B2B, those are entirely separate business models and all that kind of stuff. One thing I will say in favor of this business, although it's a minor point, two things I appreciated. Their adbacks are almost zero, which you almost never see. On nearly

$2 million of net income, they have less than $10,000 of adbacks, which I appreciated that, you know, they're running this business pretty clean. And then the other thing that jumped out of me also is they come out up front and offer to carry a million dollar of seller financing or even hold equity is what it says seller financing or equity. So those two things I thought, you know, kind of told me, okay, this is probably a decently run business and the owner's not trying to unload it so fast that he's not willing to carry some risk with you. Yeah. The other thing that stands out about the SIM is how simple it is. Like I know this is a relatively simple business, but like if if my banker came up with this,

I would be like, hey, we need some more, we need some more detail in here to people, for people to believe we've thought through this. I'm paying you 5 to 10% for this. You pay me 5%. I'll whip this out in a weekend. It's like, and look, I appreciate brevity and directness, but like, come on,

give us more than one sentence with a comma in it on growth opportunities. Right? Like, I'm looking at that. I'm like, really, you can only come up with one sentence of growth opportunities. Your typical banker will give you five to ten slides on growth opportunities and, you know, ability to increase margins and all that kind of stuff, reduce cost, et cetera, et cetera. Yeah, they also make kind of the classic mistake of the third sentence in the sim

describes how the owner is an engineer and has extensive experience in all areas of the construction industry. And it makes me as a buyer go, well, crap, you're walking out the door on day one. you know, there's all my IP and relationships. So, I mean, generally, if you're selling your business, you want to really downplay how important the owner is so the buyer doesn't get spooked. This sounds like one where, A, the person acquiring it, it looks like a great SBA type opportunity, especially if you're somebody who has a background or a family history,

for example, in construction. But is there a way that this deal works without you as the buyer buying? yourself a job? Probably not. I don't see how this works otherwise. Yeah, I would say as an add-on. I mean, the add-on is probably the preferred route just from a licensure perspective. If you are already a licensed GC, maybe you're bigger, maybe you're smaller.

And it's just a very accretive acquisition for you to fold in some kind of relationships, fold in a nice skilled workforce, you know, fold in a nice name. but if you're an individual who wants to be passive, then all of a sudden you've got to find somebody who is an executive, which is not the hardest thing in the world, but it's a search, right? You've got to find somebody that you trust to hold the reins. And by the way, that person also has to go get licensed,

which then carries a ton of risk for you, right? Because then you're putting all your eggs in that one person's basket. Yeah, we have looked at some deals that I've totally hated. I am excited for you to do this deal, Mills. Have fun with that. Very cool. Any other big thoughts about this one? It's a fun one. Let's move on to number two, which I think is also pretty interesting. Number two. I have number two. So good job, Mills, by the way. That's a great one. So number two is very fun. Let me pull up my notes because as I've admitted to my co-host, I have a terrible memory.

So I have to write stuff down if I want to make sure I don't forget anything. So what we have here a business for sale will have it anonymized. It is a micro or very small-sized B-to-B SaaS company. And basically what they focus on is a platform to automate components of what happens in low-scale labor hiring. So say, for example, you're doing call centers or you're doing customer service, instead of doing four or 500 interviews where you ask people to speak clearly, or answer questions or do a basic intelligence test,

this platform automates that for big enterprises who are hiring 5, 10, 50, 100 people a month to fill these types of lower-skilled jobs. And then what they do at the other end is you're able to filter out people that you want to talk to and want to actually put through your interview process at that point. So it takes a lot of the work out of your interview process. And the way it works is the software does voice analytics.

It has some written tests. So there's a level of higher technology that happens to really understand if somebody can meet a minimum bar of being competent for your job. They've been at it for about 10 years. And this is a really crowded space. So as a software acquire, I've seen this same idea either as a brand new startup or one that's been for sale, I don't know, 10, 12 times. now, like lots of people have tried to build this. And so what you see is a typical outcome for a

number of these where a lot of people pursue the same idea is you end up with a bunch of companies that never really, you know, achieved an ability to launch or real sort of traction. So these guys are small. They're at about 1.3 million in annual USD revenue. So that's recurring revenue. they are not growing and they are not profitable. But it is recurring revenue at pretty high gross margins. Gross margins are close to 80%. And they seem to have a relatively good amount of customer stickiness. And they're doing a good job of pricing it for B2B sales.

So they're avoiding the trap of either being too cheap or way too expensive. They're charging good amount, you know, kind of in that B2B space you want to be for enterprise and the 50 to 80 grand per customer. downside. They have the same problem that a lot of failure to launch startups have pretty concentrated customer base. The top 10 customers account for nearly 100% of the revenue. And it does feel like the team is appropriately staffed. It's pretty small at this point, single digits. And they're doing about 200K and SaaS revenue per head.

And that's a metric for me to understand, like, is your team too big or too small? And that probably means they're a little bit on the small side, but they're doing good revenue per head. other stuff that's important. Based here in the U.S., motivation for selling is they are venture-backed, and the investors are wanting out. So that is the motivation. The founders and people that started the company and raised money to build it, they are not necessarily motivated to leave,

but the venture-backed folks are wanting to get at least some of their money out. And that's what I know about that one. So thoughts? I thought one thing I will say for this one is they had a very nice deck. I was reading through the first half of the deck and going, wow, like this seems like pretty cool software. It seems to really work. They had really good metrics from their customers about how they had increased call satisfaction and decreased no-shows and decreased, you know, all these negative metrics and increased all these positive metrics.

And I went, oh, you know, this is pretty cool. And, you know, without digging further, I was not aware that lots of other companies can make these same claims. And I go, oh, wow, look at all these great, you know, logos I know on their customer list and then I got the income statement and I went, oh, and it just deflated because, you know, they've been stuck at, you know, one point something in revenue for three years. I went like, how is this so small and why is it not growing? And my immediate thought was, like they must have something good. I mean, not knowing the space super well, like the software must work. It seems to me like they have no idea how to sell it. I mean, they've been trying for

three years. They can't, they're not increasing their revenue. So that tells me that they must have some sort of go-to-market problem. Possibly, there's also, I think you'll see this outcome as well when you've built something that people don't really want that much. There. So that is a relatively common outcome for startups is like you build something that you think people actually really, really want. It is interesting, the deck that they provided, this is actually less of an M&A deck and much more of a, let's raise some VC money deck, which is interesting because to me, that's a first place I would, and we did dig in, is like, why do the sellers want to sell? And having, I'm

interested in y'all's perspective on this, but having gone down the path when sellers are being forced to sell versus when it's their idea, that is the former I try to stay away from now. I've learned the hard way, like, it's so much easier to do a deal when you have a cooperative seller rather than one that's being made to do it. And so that was actually the first thing we dug into on this one when we looked at it was who wants to sell. And when it's only the investors, it's pretty scary. Did the investors, Michael, in this case, have control to force a sale? Yes. Yeah, they had the ability to basically say, look, we have, while they were minority owners, they had,

a share class that enabled them to basically push the, push the boundaries to say, okay, go out, go out and run a process. Okay. So I think this is this general situation where, you know, you called it, the VCs want to dump it, you know, very, very bluntly. I think these are very situationally dependent because in our business, you know, we actually maintain pretty good relationships with some equity investors, some growth equity investors and some debt investors.

And we say, you know, a lot of times when they go in, into these things, they expect them to be 10xs or 50 Xs or 100 X's. And a lot of times they turn out to be two X's, right? And that they can't have their capital tied up in two X's. So they need to sell, you know, if it's not going anywhere. But a lot of times, you know, growing 25% a year, that's a terrible venture outcome, but that can be a great, you know, slightly leveraged, you know, SBA transaction, you know, or if an add-on for a conglomerate. So we actually oftentimes see see good deals when the VCs want out. Now, sometimes they want out because it's tanking. But if you can find those situations where they want out, and I'm not sure this is one of them,

because revenue is slipping. But sometimes you'll see businesses where revenue is growing 10, 20, even 30 percent a year, but they've been in it for, you know, five years and it's clearly not a hockey stick. And those opportunities, I think, can be really good where you're swapping one type of risk equity, you know, venture capital risk equity that requires a hockey stick for a different type of equity that requires, you know, more stable is okay with more stable returns. And again, all depends on the price you pay. A lot of times you can get them for just capital back out for the VCs is a huge win, which is oftentimes, or even capital like a 50 cent haircut, sometimes is a good outcome for these guys because they just need a, maybe it's the last one stringing their

fund along and they just need to wrap up the fund so they can stop doing all the fund accounting every month. So it's very situational, I think. I don't know what the situation here was. Well, And in the end, the investors held debt and preferred shares on this thing. And based on the size of the revenue, we couldn't underwrite it, given it shrinking or barely holding flat. We couldn't underwrite it in a way that would get all of the capital returned in terms of the debt and the preferred shares. And that debt is obviously what was a component allowing them to force the sale. So it creates, one-time revenue. What's that? One-time's revenue is the amount of debt that's outstanding on the balance. For the debt, and then I believe if you look in here, they had already, they had put in

it had somewhere in here how much the money that had been invested. It was substantial. I think it was $6 million. Yeah. So, so you've generated, you know, you have six, six million in investment plus over a million in outstanding

debt that has turned into a business that, you know, is doing 1.1.X million, 1.3 million in revenue at 80% gross margins. That's not a good outcome. And I think where this one ended was a lot of times you'll see folks go out having read ideas in tech crunch or whatever about what multiples are being paid for businesses like this. And then discovering that nobody wants to pay eight times revenue for a slightly shrinking micro-sass business. And I believe they are still running the business. So since this happened, and we went through this one close to a year ago.

This reminds me of a situation that we see often that we joke about internally, and we call it, my business is worth my mortgage balance. Because all the time, you know, we'll see sellers and they'll go, you know, my mortgage balance is $600,000, and that's what I need to sell this business for. And that's what it's worth. And I go, well, it's break even. And it has no, like, it's not worth that. But they won't sell for a number that doesn't pay off their mortgage, you know, or the debt that they incurred in this case or the money that they put in.

Or they've got some number that they feel they need to be made whole or pay off their house or something. And they make this transitive mistake that that must be what the business is worth. And then they get very offended. And that, I find, blows up deals. One of the high is higher up the list of things that blow up deals. when we bid a market price and they don't feel as though the market price is what they want. And I'm sure that's probably what's going to happen.

What happened to you, Michael, on this one. Yeah, yeah, we got made an offer, it got pooped on, which was we want it. And they still own it. And they're still hoping for Hail Mary, right? Yeah, which more power to them. I have more of, I guess, a minority opinion on the deck. You know, I read the deck and legitimately was asking myself, what does this company really do? So I understand it's a SaaS enterprise sales company. But in the first few pages of the deck,

I was trying to figure out what does the software actually do and where does it sit in the tech stack? Is it a replacement for their phone service? Is it sitting on top of their phone service? You know what I mean? There's different questions I would have operationally where I'm going, what specifically do they do? And is it, does it, replace some of your, like, for example, some of these customers, is it going to replace your hiring department? Does it augment what they already do? To me, I just couldn't quite figure out where does this system kind of fit into a normal workflow? And I felt like if it had something like that, it would have really helped. And maybe that's just because I'm not into SaaS investing. And I don't see a lot of these. But that was one issue I kind of had is I was trying to figure out, what do they actually do. I think that also was probably representative of an appeal for this as a potential buyer is they didn't do a great job of really describing what it is they do. So I'm happy to do

that. So if you're operating a big, let's say, call center or a big customer service center and you need to be hiring 15 or 20 people a month, right, because of churn and that sort of thing, what you'll have is a set of recruiting staffers whose entire job is, to run your recruiting process for that. So advertising, screening, running through the interviews, checking references, doing background checks, and then making offers, and then training them. So where this software focuses is on automating the top of that funnel,

right, after you've gotten a lead, but before you've qualified them, like it accelerates that qualifying process and reduces the amount of expense that you're going to have to do that. So it is an application that those recruiters sitting who are staffing that call center or staffing that customer support center or staffing that low-wage thing, low-skill thing, they are using this tool to winnow down the top of that funnel to get the qualified leads that they then run interview processes on. Is this typically replacing an existing software application? Or is it, hey, you don't have this, right?

And this is going to make your life so much easier. It's the second, right? It's taking an existing process that they're probably running manually and then turning that into something that's more automated. What do you make, Michael, of the fact that on their income statement, they're spending half a million dollars a year in engineer. So I do think it's interesting. To me, that would say either the product is always broken and has to be maintained or it should be getting drastically better,

in which case revenue should be rising. Right. Well, it may come back to Bill's idea that the first place to look at this is around go-to-market and say, okay, if you're spending so much on engineering, why does you're, you know, and you have a good product, why aren't you going anywhere? But, you know, so there's a couple things to think about

with engineering on a product like this. So they're spending about 450, 550 a year on engineers. So really, when you do fully loaded people in the U.S. around developers, that is two, maybe three developers, depending on how senior they are. So that isn't as big of an engineering team as maybe you would say at first blush because of all the overhead and also how expensive a lot of those folks when they get senior are, right?

If you're paying them 115, 150 a year, right? That can add up really fast when the people. people are fully loaded. So it does also present an opportunity. I mean, there are people that look at a business like this and say, oh, the first place I can create margin is by taking those Americans off the payroll and replacing them with one American and six people near shore or offshore who can be hired for a third the price. Yeah, yeah. It seems to me that may be doable, but you've always got to be careful that you're not being pennywise and pound foolish. You may say if two or three hundred grand here and you already don't know if the product is any good.

And now if you've swapped out, you know, maybe a highly effective or maybe not so highly effective based on the results, but if you handicap your ability to add new features to the software, you may have kind of sealed your own fate just to save 200 grand. That's something we always think about when we buy a brand. You got to be careful cutting costs to the bone because you really don't make money very often cutting costs when you buy a business. you really make money by growing the businesses that you buy. So cutting cost is nice, but if you do it and it kneecaps your ability to grow,

you've shot yourself in the foot. Yeah, and I think this one, if they're slowly shrinking and they've been grinding out it for three years and haven't grown, would have me really worried about the opportunity to grow the business. And the funny thing is when you talk to a seller like this, especially one who is a founder that doesn't want to sell, they always think it could be grown. Like they see such greenfield rainbows and unicorns.

So a lot of times that's also going back to what we talked about before, Bill, where people have a disconnect around what price is or price should be. When the buyer doesn't think they can grow it and the seller thinks it's going to grow like crazy, you'll never meet in the middle. You'll never find a price that works. Cool. So yeah, so this was a real deal. The TLDRs, they still own it.

The offer we made was based on. assumptions that we wouldn't be able to grow it and that we would, you know, be able to run it as a nice business. And they ended up wanting, you know, a huge multiple to pay off their mortgage, as you say, Bill, which is really good. And we didn't, we didn't give a crap about their mortgage. So no deal got done. Yep. That's usually how it goes. Very cool. All right. Well, cool. This is my first one in like three weeks to bring a deal. So I'm very excited. And I'll hopefully bring more in the future. So I'm excited. to do so. On that note, I think we're good to wrap up for this one. Great show, guys. Yep,

this was a good one. Nice talking to you guys. Looking forward to next week. All right. See ya.