When Buying a Good Business, Don’t be Good Deal Focused

A few years ago I was retained to sell a profitable business in Kentucky. The owner was ready to retire, but fully committed to helping the buyer make a smooth transition. The 50-year-old business had a positive reputation in the community, a loyal customer base, and a great location.

I located a prospective buyer through a referral from a banker. Once I showed this prospect my client’s business, he was soon engaged in a deep-dive evaluation. His banker told him they would fund 60% of the acquisition, meaning he would need 40% equity, which he had available. He was tired of the travel in his corporate job, but he made a nice salary so he had rather high expectations for what he’d need from a business acquisition. This deal met his parameters. The business had sufficient cash flow to fund the bank note, pay his salary expectation, and give him a reasonable return on his equity investment. What’s not to like, right?

Problem was, the business was overpriced by about $500,000, and the prospective buyer and his advisers couldn’t escape the belief they were paying too much. So, the deal fell apart. They wanted a “good deal.”

As I reflect on what happened, I’ve learn there are at least three reasons when it might be okay to intentionally overpay for a business.

#1 The cash flow is strong and meets the buyer’s financial needs. It’s the essence of “penny wise, pound foolish” when a business meets all your expectations. Don’t fixate on whether the seller is getting a windfall, go for it, especially if you plan to own the business for a long time

#2 There is a sustainable record of cash flow stability. Personally, I would rather overpay for a business I know I can count on, as opposed to get a “good deal” on a business that has unstable cash flow.

#3 There is immediate low-hanging fruit opportunity to grow the business. I bought a business 22 years ago that had tremendous upside because it had an ineffective sales effort. By simply increasing the quality of sales machinery, I increased the revenue fivefold in one year. Yes, I overpaid for the business relative to its performance at the time I acquired it, but I was quickly able to make the business perform well beyond the level when I acquired it. I’m not saying you should value a business based on its potential (that can be dangerous), but the same time, don’t ignore potential when it comes to seeing a good deal.

So, back to the story of the prospective buyer of my Kentucky based client. I understand that prospective buyer is now looking at a “good deal” that will require a relocation. I hope it works out for him; he’s a great guy and should do well at whatever he decides. I just think in this situation he made a mistake trying to find that “good deal” which can come disguised as an over-priced business.

 

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. The names and fact patterns above have been changed to preserve the parties’ identities.

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Tennessee Valley Group

Jim Cumbee established Tennessee Valley Group to help business owners fulfill their dreams for life after business ownership. It’s a mission that his 30+ year career history had prepared him well for—in addition to being an attorney, transition mediator and business broker, Jim has been a buyer, seller, and entrepreneur. His broad range of experience gives him unique insight into how business buyers and sellers can achieve their goals.

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