The Game with Alex Hormozi - How To Sell Your Business | Ep 350

Episode Date: December 2, 2021

Let’s get down to business! Today, Alex (@AlexHormozi) talks about 4 ways to sell your company, how to negotiate deals, a financial vs. strategic buyer, and more!Welcome to The Game w/Alex Hormozi, hosted by entrepreneur, founder, investor, author, public speaker, and content creator Alex Hormozi. On this podcast you’ll hear how to get more customers, make more profit per customer, how to keep them longer, and the many failures and lessons Alex has learned on his path from $100M to $1B in net worth.Timestamps: (1:41) - Buying businesses with Alex's standards and criteria(4:44) - 4 factors: Cash component, sellable finance percentage, future bonuses, "roll-over equity"(7:48) - Pros and cons of the 4 factorsFollow Alex Hormozi’s Socials:LinkedIn | Instagram | Facebook | YouTube | Twitter | Acquisition

And he was like, that doesn't make sense. How could they offer you that much money? Like, they'd have to five-ex in order to make a return on that. Welcome to the game where we talk about how to get more customers, how to make more per customer, and how to keep them longer, and the many failures and lessons we have learned along the way. I hope you enjoy and subscribe. What's going on on, Mosy Nation? I was having an interest conversation yesterday with a friend of mine, and I was telling him about how we got an offer on one of our companies for a very large sum of money.

And he was like, that doesn't make sense. How could they offer you that much money? Like, they'd have to five-exit in order to make a return on that. And what it showed is that he didn't really understand capital markets. And so as an aside, I think that one of the most important things that happens in the progression of entrepreneurs from 0 to 1 million, 1 to 10 million, 10 to 30 million, 30 to 50, 50 to 100, is that you relinquish control and you gain new decision-making, new frameworks to think with, right? And so for us, if you don't know who I am, my name is Alexer Mosey, I own acquisition.com. We're portfolio of companies to about $85 million a year. And the reason I make this channel is because a lot of people are broke and I do not want you, Mosey Nation, to be one of them.

all right and so there are four ways that you can exit a company all right and i'm not going to dive into those i'll make the other three a subject of another another video but you can sell it you can close it you can give it away or you can take out debt all right which basically is a liquidity event that you take against the asset that you have which is the business all right so those are the four ways that you can kind of have a a shift of risk away from you okay so i'm going to just talk today about how buying businesses works in the more formal sense all right i'll do another video in the actual sales process of having institutional investors. So, you know, if you're trying to sell a small business, you know, that's doing less than a million dollars a year in profit,

you're not really going to get, it's going to be very difficult to sell that because it's too, it's too risky. And you're going to be dealing with mom and pops and unsophisticated investors, and you're an unsophisticated seller. So it's just kind of the blind leading the blind. If you get over a million dollars, you have the potential, if you have over 10 million in sales per year to have institutional investors. Now, interestingly enough, kind of the magic number for kind of big money deals is $5 million. And I'm going to use that as a rough, rough thing here. All right, if you're less than $5 million, the average trading price for those types of business is 3.75. All right, that's the multiple that you get on the earnings that you have in that company.

If you're over $5 million, the average is $6.75. All right, so it's higher. Now, here's the important point. There's a million factors. Okay. So, it could be there's obviously 50% that are below this number and 50% that are above this number and that's on both sides right and obviously this one is impacted by the fact that there's so many businesses that don't even get reported that could shift it or just close down etc all right but if you sell and by the way if you're curious about this only 20% of companies that want to get purchased actually get purchased and and I think it's 30% of companies ever even enter that process so it's a very it's a very small percent of a percent that actually end up selling.

But I think understanding this process will also help you understand where value is derived in the capital markets, which is, like I said earlier, where I think the transition is for entrepreneurs in terms of leveling up your skill set. So this may be a little bit over the head for the starter entrepreneur, but for the guys who are seven figures, eight figures, hope to be nine figures, et cetera, then this will be made for you. Okay. So let's, let's dive in.

So let's say that we have a sample business here that's doing, let's say, shoot let's say 20 million top line and they're doing 5 million bottom line all right now this is going to be EBITA which is the fancy accounting term which is earnings before interest tax depreciation amortization um but it's just for i'm not even going to get into that but for lack of it's just rough-handed profit with ad backs and stuff okay so let's say that this company uh gets an offer for five x okay so that would be a 25 million dollar enterprise value you okay there that's that's the that's the this is the multiple and this is the new enterprise value now when you hear someone say hey I sold my company for X it's easy

for someone to flex like that right and most of the time people don't want to share their numbers because most times it's because they're not good and I want to kind of demystify this process for you all right or they're under some sort of NDA because they think that for them a founder announcing a sale would materially affect the business which sometimes times can happen. All right, but let's get to it. So, $25 million enterprise value. How does that actually break down? So there are four things that someone can do in breaking down this, this number. All right, the first is you're going to have a component of cash, which is what everyone wants

to talk about, right? Cash is king. How much they're actually going to pay? The next is going to be, what percentage is going to be seller financed, which means that you write, basically, you get a debt note on the business writes you a debt note that it owes you something, right? And the new owner owes you something off of the cash flow from the business. All right. The next is going to be earn out, which is you get kind of like bonuses or so to speak from the performance of the business in the future. This is, and I'll get to the importance of each of these in a moment. And the final one is roll over equity, okay? And that means it's the percentage of the business that you're going to choose to roll over into, you know, keeping so that they make sure that

it's a good transition and that you're vested in not just taking the business and taking the cash and walking, which is fairly common. All right. And so let me give you an example of an offer that I had on one of the businesses that we own. We decided not to really pursue the offer, but this was an offer that we had on one of our business entities. So this was the actual offer as it broke down. Okay. It was a $17 million cash offer with $3 million in seller financing, I think there, which is if you're breaking down the percentages here, there was a $5 million earnout. And I think in the talks, they said, you know what, actually we can put that over here.

And we won't, you don't have to sell our financing. All right. So this was an offer that we were given on the business, or one of our businesses. Okay. So all of a sudden, you're like, huh, that's interesting. Now, I'll give you a different one that we got on the same business. And if you're like, how do you, how do you start getting people making offers. It's like, well, people will approach you with a business is of a certain size and it might

be a category fit for them because you got to remember that these, you know, financial institutions want to place money. They get paid to place money. They get paid to make deals. And so they actively reach out just like an outbound method. You're a customer that's a product. And they want to buy it, right? And that's kind of the idea. So there was a different offer in the same company that was from a few months prior, that was a $20 million enterprise value. And it was structured like this. They wanted to give $13 million in cash. And then they wanted to, I don't think there was any, any seller financing. So seller financing. I'll just put an F here so you know what that is. There was a, and then there was no earn out, but there was a massive 35% chunk of rollover equity.

Mosy Nation, real quick, if you are a business owner that has a big old business and wants to get to a much bigger business, going to $50 million plus, we would love to talk to you. And if you like that, we would like to hear more about it, go to acquisition.com. You can apply anywhere on the page and talk to one of our team and see if we can help you get there. Now, the reason this is important is that it's worth understanding. Now, if you have something like this, right, and we're looking at a deal, there's obviously pros and cons to ease of these things. The more you roll over, if you feel very confident about the future of your company, then you would want to potentially roll more. It also assumes that you're confident in the person who's buying it, that they can perform the way that you would be performing. And so in some transactions, it's more of a derisking.

In other transactions, it's more of an exit. And what's also important to note is that for these rollover equities or earn out pieces, these ones right here, it's what do I have to do? Do I have? So for example, if someone says, hey, I want to buy this, but you have to retain all the things that you're doing right now, then it's like, well, that's not nearly as interesting as someone who's saying you don't have to do anything you walk away tomorrow. There's usually some sort of transition period during this period of time. Now, let's go to this example here for $25 million. This is not the company that I was talking about, but just for illustration's sake. How can they make a return on this? Because you see here, they're making $5 million a year. How can they make a really good return on this kind of money? All right? So let's draw it out. If they were to put, let's use this first example because it's a little cleaner, all right? So let's say they have $17 million in cash that they have to put up, right? Now, note that this rollover equity, they don't have to pay anything for, and this earn out,

they don't have to pay anything for either. And the seller financing, there's no money that's coming out. So really the only thing they have to procure is the $17 million of cash, right? Now, let's say that they get debt for two-thirds debt, right? So that means that they're going to get $11 million. of debt, which means they're going to take a loan, all right? And then they're going to put roughly, you know, $6 million in cash, right? Actual cash. Now, you're going to get all of this, right, together, but they're going to get this much as debt from someone else, right? Right. Right. Okay.

And so what happens now is let's imagine the company goes from $5 million to $5.5 to $6, let's say you do seven and then you know eight all right so let's just say that that's the growth of the company over you know year one two three four five and typical private equity hold periods or five periods five to seven because it depends how long it takes them to do your transaction etc but that's typically how a deal would be structured now let's look at this now so they put six million dollars into the deal right do to do into the deal awesome now from this period of time all of this extra extra money if we'd this together let's see what this is we've got 15 16 17 18 um 18 plus so it's 26 and then um well shit i should have just added this hold on people who are editing this so let's add this together

this is the amount of cash that they would be able to make they would make 5 10 15 20 25 25 million plus 3 2 1 so 25 so 6 so 31 and a half million okay so they're gonna make 31 and a half million during this period of time, right? But wait, there's more. Let's say that they were able to buy this company at a 5x multiple, and they're able to sell this company now at a 7x multiple at the end here because they work on the business structure. They decrease churn and improve the margins, whatever it is to make the business more sellable. Okay. Now, what happens is that they have 31 million that they've accrued, plus they get seven times that, which is 56 million when they sell the business, right? So if you add this plus this,

And that would be maybe cash on the balance sheet. They would now have an $87 million business. Crazy, right? And I know that sounds nuts, but usually they will keep the cash in the company because they're going to usually use it to do more merchant acquisitions or they'll keep it on the balance sheet. All right. And so you have $87 million. Now, they bought this thing, right, for $25.

That was the number that they adhered. Right? That was what they claimed to pay for it, right? But they really paid because we now know $17 million for the business, right? Here's what's cool about this. Now, they actually only put $6 million up for the business, and they turn that $6 million into $87 million. Now, they have to pay back that loan, right? So we got to subtract out that debt that they owe, right, plus whatever interest fees that they might have accrued on that.

So let's just say that's another, you know, $2 million in interest. That would be really aggressive. But let's just say that that's what it was. Right. And now their net, right, that they got on this was $70. $4 million of profit. Now we look at this six, and now you realize that you just got like a 13x,

you know, whatever it is, 13x return, ish, 12 and a half. Pretty good deal, right? So that is how the private equity world actually works. All right? And so they didn't really do anything crazier. And what's going to happen next? Right?

You're like, well, how would somebody buy this for $87 million? I'll show you. They're going to get it for, they're going to take it from eight and let's say they get it to 12 and as companies grow in general the multiples will improve and they also do other things etc and they got this at a 7x and they're going to try and sell it for a 10x right and during this period of time let's say they go 9 10 10 11 11.5 you know as the as the actually i don't need to add that one did that do let's say those are the the yearly growth you know for this business okay in terms of uh this you know again year 1 two three

four, five. All right. So that's again, the same thing happens yet again. And so during this period, they got it for 74, right? So they got it for 87. And they're going to probably only have put in, let's say, $25 million into the deal, right? And they're going to sell it for, and they're going to have financed whatever the rest of that is. That's $25, $62 million. So $62 million in debt, which they're going to have 120 million the amount of cash that's going to add up here is going to be 10 so that's going to be 50 million in cash that they will have collected throughout the course of the business so they now have a 170 million dollar enterprise they're going to subtract out this debt plus the debt service so let's just say that's 62 plus you know six million whatever so that 68 million is what we have to

subtract out right and they're going to in this instance right they're going to make whatever a hundred you know, roughly $102 million of profit, and that was off of their initial 25. And so they for-exed their money, right, in five years. That is how private equity is supposed to work. Now, obviously, they get higher returns because it costs them more in risk, more in resources. It's very active for them. It's not passive. And so they're actively operating the business, and they'll usually buy businesses that they have expertise in.

Right. So typically, you know, a private equity buyer would be someone who has a, special you know some sort of specialty play many times you know there's three there's two real types of buyers I would say you have you have financial buyers which are completely uninvolved they want to get a good deal and then you've got strategic buyers who are usually in the space and will pay better multiples because they can immediately roll that company into their company and then increase their own valuation by disproportionate amount compared to what they bought it for right and also yield some synergistic returns from that

company maybe being added as a product line within their existing audience, et cetera, right? And so I hope that this was not too jargony for everyone, but this is how the private equity world works. This is how you buy and sell businesses. This is how you get outsized returns. And this is the process. That's how it works. In a different video, I'll walk you through the actual sales process. Like I said, I've sold six companies. I've gotten offers on a hell of a lot more. And so I know the process pretty well. I've sold to mom and pops. I've sold to competitors I've sold to strategic buyers and I've sold to to to financial buyers so I've kind of gotten a whole universe of different looks and feels of deal structures and this is one of them

and so I actually think it's one of the key things to getting past 100 million is understanding the M&A side and so I made this video because I love you all and I don't want to be broke and hopefully this is not the kind of stuff that you are normal make money influencer YouTuber etc is talking about And so anyways, I'm trying to give you the stuff that I'm looking at right now. And hope you guys enjoy it. All right, I'll see you guys the next bit. Bye.