“My boss wants to sell the business unit I run. He says he’ll give me a good deal if I can pull the capital together.” Cal (not his real name) was confident as we talked over an expensive lunch at one of Nashville’s finest restaurants. Cal had run the business unit for six years, but his boss, the company’s CEO, decided to exit that vertical. He had approached Cal on the idea of selling it to him. “He tells me he’ll sell it to me for just seven times cash flow,” Cal excitedly said “they paid twelve times cash flow when they bought it, so I’m getting a bargain!”
Little did Cal know, his boss was trying to take him to the cleaners.
Cal was a super-sharp operations guy. He started with the company a few years out of college and had been promoted several times. He was now general manager of this business unit and seemed to be the perfect buyer. He had coordinated with a family friend to find an equity investor for 50% of the deal, and he planned to get a commercial bank loan for the remaining 50%. Cal was pretty far down the road of getting the deal put together. He said the reason he wanted to meet was simple, “Before we go too much farther, I just need to hear you say ‘you’re not crazy’.”
While Cal is very sharp, having never been an entrepreneur, he doesn’t know what he doesn’t know. I decided to level with him: “You aren’t crazy for wanting to buy the business, but the price they’re asking is crazy. Your boss knows this is your first entrepreneurial effort, and he is taking you to the cleaners.”
Cal was probably wishing he hadn’t asked for my advice, but it was pretty easy to see what was happening. The CEO made the decision to sell the business, and he was looking for a fast and easy exit. He likely knew the business would only bring four, maybe five, times cash flow on the open market. Quietly selling the business to Cal for seven times cash flow would make the CEO look good to his board, but at Cal’s expense.
I could appreciate Cal’s desire to do this deal and stay with a business he knew well. He had invested so much of himself the past few years, and going back into the job market at the age of 48 didn’t seem so exciting. Buying this business from his boss seemed like the best career solution, especially since he was getting a good deal, so he thought.
Cal was between a rock and a hard place, a very hard place. If he pushed his boss too hard on the negotiation, his boss might just fire him. On the other hand, Cal knew his boss wanted to sell the business so his job is likely coming to an end anyway. As we finished our lunch, I told Cal he needed to play a game of good cop/bad cop. While he could be the good cop, the best candidate to play bad cop would be the commercial banks that are not going to underwrite a seven times valuation. I encouraged Cal to get three proposals from local banks, and it would be obvious that none of them would underwrite his boss’ crazy expectation. Those proposals would be Cal’s bad cop argument.
Cal’s naïveté in approaching the acquisition of this business is not unusual. Coming from a corporate environment, he would have no reason to understand valuation of privately-held small business. Let’s hope Cal comes to grip with my negotiating advice before he finds himself at the cleaners, courtesy of his CEO.
JIM CUMBEE is President of Tennessee Valley Group, Inc. a retainer-based business brokerage and transition mediation firm in Franklin, TN. Cumbee is an attorney and has an MBA from Harvard Business School. He has a wide range of corporate and entrepreneurial experiences that make him one of the most sought-after business transition advisors in the state of Tennessee.
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