I sold Bingo Card Creator, the business I’m probably best known for, through FEI last year. Thomas Smale, the principal of that brokerage, is now a buddy of mine, and he agreed to chat with me a bit about what goes into buying and selling online businesses. I think it is of particular interest to those of you with SaaS businesses already, but it might also be interesting for those of you who might found one eventually, as you can make early decisions (like e.g. technology stack) which built improved saleability into the business from day one.
I’ve previously written about the BCC acquisition here. Note that this interview doesn’t go into much depth about that acquisition per se, partially because that isn’t a new topic for me and partially because I’m NDAed with regards to specifics.
[Patrick notes: As always, the below transcript occasionally has my thoughts inserted in this format.]
What you’ll learn in this podcast:
- Why SaaS businesses (and others with recurring revenue) receive a valuation premium
- Why you should use a broker to sell a business
- How to start getting a business ready for sale months before the process formally starts
- How to ease the acquisition process, both for the buyer and the seller
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Selling Online Businesses With Thomas Smale
Patrick McKenzie: Hideho everybody. My name is Patrick McKenzie, better known as Patio11 on the Internets. I’m here for the 13th episode of the Kalzumeus Podcast with my friend Thomas Smale, who runs FEI. It’s a brokerage for online businesses, which I used last year to sell Bingo Card Creator.
Thomas Smale: Hi, Patrick. Thanks so much for having me on.
Patrick: Thomas, last year, you helped me sell Bingo Card Creator, which was the first business that I had been running from about 2006 through 2015 selling bingo cards over the Internet to elementary school teachers. Do you guys do a lot of work with SaaS companies?
Thomas: In the last 12 months, just to put it in perspective, we did about 80 deals, and this year, we’re on track to do around 100 deals. At the moment, around a third of our business is in the SaaS or software space. It’s not all we do, but it is quite a big focus internally.
Patrick: Just out of curiosity, what are the other sort of businesses that you guys see a lot?
Thomas: If we broke it down a third, a third, a third, to keep it quite simple, we do e-commerce businesses, selling on Amazon or Amazon FBA. E-commerce through their own store would be about another third. Then the third content businesses, whether that’s content-based sites monetized with AdSense or Amazon affiliates, they’ve gotten quite popular, especially on the lower end.
Then we also have a mixture of other businesses we do. Generally speaking, if it’s an online-based business, we will take a look at it.
Patrick: One of the things that was interesting to me was comparing and contrasting how the acquisitions work at the scale of the economy and also how that’s similar and different to more traditional acquisitions for start-ups or for larger firms.
One of the interesting things is that, just like in larger firms, SaaS gets a valuation premium relative to the revenue or cash flow that’s coming out of the business. Can you explain what that looks like in your experience?
Thomas: Generally speaking, a SaaS business on average, assuming all parts being equal and equivalent, an e-commerce business or content business will sell for more. In terms of how much more, generally speaking, you’d probably be looking at about 25 percent premium.
The real driver there is the fact that a SaaS business has that recurring income and that baseline. I think from a buyer’s perspective, worst case scenario, even if you can’t grow the business or even if it starts to decline, you’ve still got that baseline of subscribers.
Also, with a solid subscriber base, you can build momentum quite quickly. We’ve seen quite a few buyers come in to acquire small SaaS businesses where the owner has either moved onto new projects or run out of ideas with it.
They’ve managed to scale it quite quickly, because you’ve got that baseline that’s already there. That tends to be the appeal from the buyer perspective, and what drives multiples up compared to other business models.
Patrick: We’re well aware of this because you do 80 to 100 deals a year and I saw the process through the nitty-gritty, but I’m guessing that most of my audience doesn’t know exactly what the multiple we’re calculating is. We should probably be pretty explicit that the multiple is a multiple of what’s called the SDC, seller discretionary cash flow that’s coming out of the business. How about you explain that for everybody, because you probably know it better than me?
Thomas: We use SDE, which is seller discretionary earnings, but it’s basically the same thing as seller discretionary cash flow. You might hear it be described a few other things, as well. Effectively it’s the net profit of the business.
Some people like to use EBITDA, or EBIT, or a similar calculation to that, and then adding back, so effectively it’s not taking into account anything the owner has taken out of the business, for example, the owner’s salary. Anything else you might take out for tax purposes, for example, personal health insurance, a car, rent. [Patrick notes: For example, in Japan, self-employed individuals can write off 40~60% of their apartment’s rent against the profits of the business. I’ve done this for years, on the advice of both my accountant and the National Tax Agency. This is strongly discouraged by the IRS unless you meet their much-more-stringent definition of a home office.] Anything that’s not entirely relevant to running the business.
The reason that’s done is to standardize the sale of small business, because one owner on exactly the same business might pay themselves $50,000 a year, and the other owner might pay themselves $200,000 a year. If you don’t use an SDE calculation, the owner who pays himself less would look like their business is more profitable and worth more.
It levels the playing field. That’s generally used for any business making less than a million a year in profit, or SDE in this case.
Patrick: After you’ve calculated what the business’s revenues minus the necessary expenses to generate those revenues are, we multiply by a number, which is set by market conditions, mostly, where buyers and sellers are willing to transact. At the moment, my understanding is in SaaS that it’s about, roughly, three years?
Thomas: That’s about right. We have an internal evaluation model that we’ve built out, which looks at all of our past sales. At the moment we’ve done about 400 transactions now. All that data’s in there, and we’ll look at past deals, look at similarities.
Depending on the group, if you look at the last 12 months we see SaaS business go up to five times, or even six times, annual, but that’s looking at the last 12 months. If it’s growing, if you look at the last three months, we would generally extrapolate that out for the next 12 months, and then apply a three-times multiple to that. It’s more like five times the last 12 months, or three times, extrapolating the last three.
[Patrick notes: Let me put some fictitious numbers here to make this sound more concrete. Suppose that your business was doing $8k net income monthly last year and has added $1k of MRR consistently in every month at no meaningful marginal cost. Your net income for the last year is $162k. Your predicted revenue for the next year is $306k. Thomas is suggesting that if you valued the business at 5X its last year it would be worth about $800k, but given extrapolation of the clear growth trend, it would get 3X next year’s implied next year revenue, or about $900k. Note that the valuation for more stable businesses is generally around 3~3.5X of the trailing twelve month’s net income — the market places a hefty premium on demonstrable growth, in small businesses and unicorns alike.]
We only really do for SaaS businesses, because the growth can be a little bit more predictable and the revenue is a little bit more predictable. Whereas in a e-commerce store, for example, you could have had a couple of good months due to a sale, or running a promotion on Groupon, or something like that.
That’s not sustainable. It doesn’t really increase the value as much as an increase in MRR that you see in a SaaS business.
Getting Ready To Sell Your Business
Patrick: E-commerce businesses are also typically very sensitive to seasonality, which is uncommon in SaaS businesses, says the one guy with the extremely seasonal SaaS business that I used to run. [laughs]
When I was in the process of selling Bingo Card Creator with you, going through the process took a couple months to complete. Before that there was, obviously, a longer process with me thinking through, “OK, I want to sell this business. What do I start to do to get my ducks in a row?”
You gave me some good advice with regards to things that I could do that would both make the transition a little smoother, for both myself and the buyer, and which would tend to increase the valuation of the business. What are some of those things that folks who might own a SaaS business and be thinking of selling it in, say, the next 12 months could start to do today to make that process easier for themselves?
Thomas: That’s a good question. This is another good point that it is important to think about these things well in advance of the sale. You definitely did the right thing coming to us months before you were planning it. Most of the successful clients we see, who do sell their business, have done that, as well.
I’ll stick with relatively generic advice that would be relevant for any business. The first one — I know this is definitely something you experienced, and almost all of our clients do — is getting your financials in shape. That’s even as basic as making sure you track your financials.
It always amazes me how many small business owners run businesses and they have no idea what they’ve got going in or out each month. They don’t know until they get their tax return from their accountant at the end of the year. [Patrick notes: You’d be surprised how many years I had a great understanding of my unit economics and was surprised in December by my end-of-year numbers, in either direction. “$40k in travel costs? Wait, really? I didn’t… counts on fingers oh I guess I did.”]
We ask people for an income statement for the last 12 months with a monthly breakdown, which a lot of people don’t do, or their accountant might do for them, but they don’t necessarily have it to hand. That’s definitely something to start putting together.
In the case of people who own multiple businesses, often they’ll all run through one company. They might have an LLC that owns three assets, and they’ll have various shared expenses that run through that. That’s where it gets a little bit more complicated. I generally advice people, where they can, to start splitting out expenses.
For example, if you’ve got one server that has three different products hosted on it, then think about separating out the server for the one you want to sell, because that’s going to save you a lot of time and headaches when it comes to transfer. From a buyer perspective, also, it reduces the risk.
Making sure you’ve got your financials in shape, but can also allocate costs and revenue to the particular business that you’re looking to sell. If you can’t do that, it’s going to be quite difficult.
Quite often we have to make assumptions. Let’s say, for arguments sake, you’ve got an employee who’s a virtual assistant and works 40 hours a week on two of your businesses equally, then we’ll often take into account the cost of half their time as an assumption.
That’s a practical solution. Whether or not buyers will buy that effectively as a viable way of allocating the cost is a different matter. The more you can separate it, the better.
With SaaS businesses, particularly, it’s important to get your code base in order, make sure it’s properly documented. The same with systems.
We tend to find, especially on the lower-end SaaS businesses, which tend to be single-founder or partnerships, they’re quite often with a technical founder who’s built or written the majority of the code themselves. It might be very familiar to them, but from a third-party perspective, that’s not necessarily the case. [Patrick notes: When selling Bingo Card Creator, I spent four hours on a kickoff meeting with the buyer’s Rails freelancer taking them through the main workflows for BCC and how the code and site interacted, including the less-than-obvious bits. For Appointment Reminder, I did something similar with Makandra’s consultants prior to having them substantially beef up our test suite. The idea is reducing the amount of background knowledge which only exists in my head by capturing it in documents, code, or the heads of other people.]
In situations like that, there’s no problem with building your own product, or anything like that. I’d always encourage people to do that, but I would definitely recommend bringing in a third-party programmer, or coder, or whatever to get familiar with the code, so when you hand the business over, there’s at least someone who’s been in there before.
Maybe even get a friend or someone you trust to go through the code and make sure that they understand it, so for someone else who’s going to come in and take it over, there’s no issues.
If there are issues, which we’ve seen come up before in a few deals, it’s never too late to start working on the documentation, but the earlier you do it in the process, the less headaches you’re going to have later on. They tend to be…
Thomas: Sorry, go ahead.
Patrick: One of the things that was motivating me selling Bingo Card Creator and my other business, Appointment Reminder, was that I’m fully committed on Starfighter going forward.
One of the things that I did with the money I got from Bingo Card Creator was immediately plowed it into getting a firm to look at Starfighter code base, start to get familiar with it, and write a comprehensive test suite so that when we finally get around to selling, that process will go smoothly, in terms of both due diligence and during the hand-over.
I’ll have a consultancy that I can point to and say, “OK, if you need ongoing development or maintenance done in this product, this consultancy is already very familiar with this code base, and can help you out with that.” There’s no reliance on me as the bus factor one driving the business.
Thomas: That’s definitely a sensible plan. Another thing that comes up, which isn’t necessarily planning, as such, but it’s something we see, especially on lower-end businesses.
This doesn’t happen so much on the high six-figure and seven-figure businesses we do, but on relatively small businesses, it’s quite common for owners to decide they’re going to sell in three to six months, and effectively give up running the business. Then it falls into a state of disrepair and decline.
It’s important, when you do start thinking about a sale — and also throughout the sales process, as well — to continue running the business as if you were going to run it forever. That doesn’t necessarily mean you need to be working 70 hours a week writing new features and doing new marketing campaigns, but no one wants to buy a business on a decline.
Businesses that are declining are going to attract a significantly lower multiple than either stable or a growing business, so it is very important to make sure that you don’t drop the ball there. Even if you’ve mentally checked out, keep that going, because buyers really do punish you for any drop.
Patrick: One of the interesting things for me was that there seems to be a sweet spot between you don’t want to be too inactive, don’t want the business to fall into decline and disrepair. You want to continue doing maintenance, customer support, etc.. At the same time, you also don’t want to rock the boat immediately before an acquisition.
One of the things that you explained to me was that if you do particular moves, which might look like you were attempting to juice the revenue numbers, folks are perhaps a little less trusting of that.
For example, running promotions or drives to get new annual subscriptions on a month to two months leading up to an acquisition is something that is highly looked down upon, even if that would be normal if you were running the business for forever.
Thomas: No, that’s true. The only exception to that is if it’s a regular annual promotion, or something like that, you run. Quite often people think, “Oh, I need to make as much money as possible.” Like you say, they start running lifetime discounted plans, or annual plans at half-price, or something along those lines, which actually doesn’t help a sale at all.
Patrick: We talked a little bit about the range of acquisitions. You said that the higher end for your firm is the upper six figures, low seven figures. What’s the practical minimum for a size of the business that you guys would represent?
Thomas: In recent months, we’ve started expanding out our team. We’re starting a lease on a new office in Boston, so our team is growing out quite quickly.
We’ve started to increase our upper end. At the moment, we’ve got a couple of deals in the mid-seven-figure range we’re working on. [Patrick notes: After recording this podcast, FEI announced that it had successfully brokered the sale of Drip.] That will probably start going towards the low-eight-figure range, which is not something we’ve focused on much before, but we’ve got the depth in the team.
We’ve also got a very solid reputation in the SaaS and online business brokerage space. That means that we’re being seen as a pretty solid option at that level.
Minor correction there. On the lower end, generally the lowest will sell at around $20,000, but it’s quite rare for us to have anything below $50,000.
We do have a dedicated team. Quite often people come in with small businesses, and they’re a bit worried that if they list a $30,000 business with us, they’re not going to get the same level of service that they might get for, say, a million dollar business. Actually, what we’ve done internally is separate out teams.
We have a small cap team, their only job is to do $20,000 to $100,000 deals, a mid cap team that does $100,00 to $500,000, and then a large cap team that at the moment does anything from $500,000 up to about $6 million. It does mean that you very much get pretty much the same service for a $50,000 deal that you do for a $500,000 deal.
Patrick: It was interesting in seeing Bingo Card Creator…I’m NDAed on the exact number, but let’s say that sadly it was not a seven-figure deal. Even towards the lower end of that range, you guys have systems and processes in place that allow you to execute at a fairly high level of sophistication with regards to deals.
Let me put it this way, there was someone who used to work at Goldman Sachs who handled the due diligence for Bingo Card Creator. It was either Goldman Sachs or some other finance firm that is very similar to them.
I was very, very surprised to have them going out, line by line, through my revenue books. The final report listed one charge back that I’d missed in July that they had managed to identify, a $24.95 discrepancy in the revenue books. Hats off for the level of attention to detail on that process.
Thomas: We apply pretty much the same process to smaller deals we do larger deals. The only difference with larger deals are they’re generally more complex. The service is still pretty much exactly the same, but things like due diligence, contract reviews, negotiation, deal structuring, the initial preparation, all takes longer.
What Selling A Small Company Looks Like
Patrick: Why don’t we sketch out for a little bit what the process looks like, both in general and, if it’s simple for me to say, what the process looked like for Bingo Card Creator. The first step is fairly similar to what I went through. Typically someone reaches out to you and says, “Hey, I have a website. Let’s talk a bout it a little bit, because my plans might involve selling it.”
What does that initial reach out look like? How do you qualify someone as saying, “OK, we can represent this business,” versus, “Maybe this doesn’t hit our sweet spot,” etc.?
Thomas: We have two distinct types of inquiries. One would be someone who wants to sell now, and they’re already familiar with the process. They want to get started. The second group, which is probably more common, much like yourself was, “Hey, I’m thinking about selling. What do I need to do?”
The main thing from our side, the first thing we’re going to do is make sure that it’s a good fit for us. We don’t want to waste the client’s time on a business that’s not going to be something we’re going to take on, whether that’s a business that’s too small, or not in an industry that we have buyers in, or something like that. The first is always qualifying to make sure it reached our criteria.
Secondly is establishing what the client is actually trying to achieve. Some people want to sell now and they want to get market value for the business. Other people have a particular timeline in mind. They might say, “Hey, Thomas, I’ve got this new venture starting in six months. I want to get this all done.”
Other people say, “Hey, my business is doing really well. I want to get a million dollars for it. What do I need to get there?”
We’ll always have an initial conversation with them, whether that’s via email, phone, or occasionally you might meet people at conferences and events. We try to get an idea of exactly what the client is trying to achieve.
Once we’ve got an understanding of what they’re trying to do, we can then put a plan in place for an exit. Generally, what we’ll do is start with an evaluation, if that information is available, and then it helps the seller make a balanced decision about what they want to do.
You quite often find that sellers are surprised by the valuation, either in a it’s higher than they thought or lower than they thought. If it’s more than they expected, they’ll quite often want to get started with the process now. If it’s lower, there might want to be some things they work on.
The initial chat is very much a no-pressure, “Let’s get an understanding of where your business is at the moment and what it might be worth.”
Patrick: I remember, when we had the initial consultation, I came to you. What I thought the agenda for the chat was, was going to be working 100 percent on selling Appointment Reminder, and then maybe selling Bingo Card Creator if we had the opportunity to do so.
For context, for anyone that doesn’t know this, Appointment Reminder is, call it, five times larger business than Bingo Card Creator is.
I remembered being very impressed with you because you listened to my situation, and said, “Counter proposal: we should sell Bingo Card Creator first, because it would be an easier transaction.”
It would give me reasons to trust that you guys did a good job and would let me learn about the process so that, in the more important transaction, I’d have a better basis of skill for proceeding with it, to get a better outcome, and feel less risk involved in the process.
I was particularly impressed by this, because I’ve been a consultant for several years. It’s always difficult to turn down the larger paycheck from two consulting gigs when what the client really needs is the one that comes attached to the smaller paycheck. Hat’s off for that.
Thomas: That’s one of those things that we’ve always focused on over the year. It’s always doing best by the client, even if that’s not necessarily the best thing for us financially at the time.
The nature of the advisory world, business brokers, or M&A advisors, or what you want to call them, quite often get quite a bad reputation. We’ve always been quite conscious that we need to be a level above the average in what people perceive.
Being a very small industry, everyone knows everyone. It’s important for us to maintain word-of-mouth business, which is where we get quite a lot of our clients from. We’ve very much done the right thing. You might make more money in the short term giving the wrong advice, but in the long term it doesn’t really build a sustainable business or a good reputation.
Patrick: Speaking of reputation, one of the reasons that it took me so long to sell my business was because, let’s say, I’ve been around the Internet a few times. Business brokers don’t have a wonderful reputation typically. [Patrick notes: The only other broker I’ve been impressed with is Empire Flippers, at the lower end of the sophistication scale. Listen to their podcast even if you don’t particularly connect with running $2k a month AdSense sites — it’s fascinating.]
The reason I took a chance on you guys was Rob Walling and Mike Taber, two of my friends who run MicroConf, gave me a very glowing testimonial, personally. That was basically enough for me to take a chance on the conversation with you.
After the conversation with you, I was pretty convinced that I wanted to do a deal with you. After watching what the first deal went through, it’s pretty much a no-brainer that you’ll get the business for my second deal.
I’ve also referred something like seven people to you already. Working on number eight. We’ll see.
Thomas: Absolutely, we do get a lot of business from word of mouth. We certainly appreciate all of the people you’ve sent our way. That’s very much the way we’ve grown the business.
We don’t invest a huge amount into paid advertising, or anything like that. We’re very much a word-of-mouth and referral-driven business. We find one of the advantages of that for us, as well, is that we get far higher quality businesses that way than you might do somewhere else.
It also means you can, as you know, being a consultant, if you’ve got the reputation and the referral, you can be brutally honest with people and give them the right advice that they might not necessarily want to hear, and actually go through that process without issues. Whereas, if they’re cold, or they’ve come in off an AdWords ad, or a Facebook ad, or something like that, then it’s a slightly different approach to be effective. [Patrick notes: This advice is true for all sales processes and very few consultants or software companies exploit it effectively!]
Patrick: One of the reasons that the industry gets a bad rep is often a bit of baiting and switching with regards to give someone a very high, maybe not a formal, valuation.
Give them the expectation on the seller side that they’ll get a very high number, and then get them invested in the process, and say, “Well, actually, after reviewing it, it seems that we can only get you a number closer to where the market actually is.”
That’s neither here, not there. I have a reputation-based business. I’ve sent several friends to work with you guys in the last year. That’s worked out very well for everybody.
Surprises In Selling My Business
Patrick: Let’s talk about some of the things that were surprising to me when I was going through the process. Feel free to throw in stuff that might be surprising to other folks who are going through, either on the buyer side or the seller side.
Probably the biggest curveball to me was that I ended up selling my SaaS business to a pair of teachers, which is not quite a uncommon thing for someone selling a business focused on teachers. It turns out that most of the folks who buy SaaS businesses through you are not technical.
Thomas: It depends. I’d say this is one of the reasons we have different teams, is you do get a slightly different buyer profile depending on the size.
If a business is below $100,000, or in the SaaS space maybe even below $200,000 [Patrick notes: implies an MRR between $3k and $10k or so per month depending on cost structure], you quite often get non-technical buyers. That’s where it comes in handy having the code in good order and having a freelancer.
On the higher end, when you’re dealing with SaaS businesses, we recently completed a $1.1 million SaaS business sale. That had two technical cofounders who left the business as part of the sale.
The buyers there, they weren’t necessarily technical themselves, but they had access to a team that were. On million-dollar deals you would expect buyers to have that sort of infrastructure in place, but on a smaller deal, like $100,000, you don’t necessarily have that depth you can reach out to.
Generally people will buy SaaS businesses, or any online business, without a technical background if they know there’s a way they can get help, whether it’s a reliable freelancer, or occasionally the owner will agree a consulting agreement where they’re available, say, five hours a month for three months as part of the deal, to hang around.
It’s not completely uncommon to see non-technical, particularly outside of the SaaS space. The SaaS space I’d say it’s probably 50/50 technical versus non-technical, but with access to help, or freelancers, or whatever that might be.
Patrick: I was talking with the person who acquired my business, or, rather, one of the two people who acquired my business. She said that she and her husband had been looking at doing an offline business, like buying a Subway franchise, for a while, and then a friend of theirs who ran an FBA business…
FBA is Fulfilled by Amazon, for those of you who aren’t familiar with the acronym. It means that they stock some sort of product on Amazon, and then people buy it through the Amazon website, and Amazon takes care of shipping the product to them.
My acquirer’s friend ran an FBA business and told them that they should run an online business, rather than on offline business, because of lower capital requirements and the better lifestyle associated with it. [Patrick notes: Did you know it costs $200k to open a Subway or $750k in capital to open a McDonalds? The Internet is enabling a disruptively better path towards yeoman entrepreneurship.] You don’t actually have to cut any sandwiches to run an online business, and that was a fairly persuasive argument to them.
Other things that were surprising for me during the process, we talked a little bit about getting things ready in terms of getting one’s books in order. One of the things that probably took more time than anything else for me, since I was in the situation of running several businesses, which largely shared infrastructure, was breaking up different SaaS accounts, and hosting accounts, etc.
For example, I’d been saving five dollars a month on MailChimp by having four businesses each having their list run in MailChimp. In a fairly stressful period, while getting the deal put together and getting all my ducks in a row, I had to migrate three businesses’ mailing lists off of MailChimp, which is a rather involved process, and involved doing code changes to all three of those businesses to re-architect their mail signup workflows.
That was unfun. I recommend not attempting to save the five dollars on MailChimp if you’re in that situation.
Is there anything that you find that maybe tech folks, specifically, or sellers generally, might not have as great a handle on as you would like?
Thomas: Going back to your previous point about MailChimp, one of the reasons we’re so successful is because we have a very rigid process. That does mean, even if it’s a relatively small deal, that we still like to get the business in a good position to sell. We do very much try and apply the same advice and systems processes all the way from smaller deals, all the way up to much larger deals.
Your case is reasonably unique, where you had multiple businesses all sharing the same accounts. I would say the majority of clients we deal with, if they have multiple businesses, they generally are a lot more simple. They might have 10 Amazon affiliate websites, for example. They tend to be quite simple to split out and don’t really need a huge amount of work.
It’s quite rare to find people with multiple successful and profitable SaaS businesses. In your situation it definitely came up as a consideration, but for the average person, I don’t think it’s that prevalent.
In terms of other things that come up, the main thing is shared financing. Things like MailChimp, if you really needed to, you could run all the way through the process, and then they actually make the process of migrating the mailing list to a buyer when you are relatively simple at time of sale.
Servers are quite a common one. Quite often you find people have three or four products all sharing the same server. That’s definitely something to think about. You don’t necessarily need to split it out before the sale. It does make things easier when it comes to the transfer. [Patrick notes: A certain hosting provider fanatically supports not moving VPSes between accounts. As a result, I had to spin up the entire BCC infrastructure from metal at a competing provider, then cutover, so that it would not longer be in the same account as my other VPSes.]
Ultimately, it’s going to have to be split out at some stage, so why not do it now, when there’s no pressure on and there’s no money on the table for the deal, rather than mid-deal, when it comes up as problem, when you’ve got lots of other, different things going on as part of due diligence, and contract negotiations, and things like that.
Servers would definitely be one of them. The main one is keeping on top of your code, and making sure it’s in a good position to hand over to someone else.
Have someone else go through that code and look at it. You don’t necessarily need to invest a huge amount. Even if it’s a freelancer going through, or a friend going thorough the code to make sure they understand it, that’s definitely beneficial, especially if you’re dealing with a non-technical buyer.
What we like to do is, when were advising sellers, make sure we give then the advice to make sure their business appeals to the widest range of buyers as possible. There’s little merit in positioning a business if it’s only going to be of interest to a very specific buyer.
We get a lot of people who come in, and they say, “Oh, I’ve got a particular strategic acquirer, but they’re going to be the only one that wants the business.” In that case, occasionally it will work, and you’ll have the big exit that you often read about on the news sites out there, but to maintain our 95 percent success rate, it’s very much giving advice that means that business is going to be appealing to lots of people.
They would be the main things I would focus on. I would say, as a caveat, your case it relatively unique with the way you had it set up. Most people just have one, or maybe two, main products.
Patrick: Makes sense. After you’ve done the initial consultation with someone and figured out a plan forward, the next step was a bit of data gathering, where you give the seller a fairly comprehensive questionnaire.
I remember something like 100 questions regarding the history of the business, the finance of the business, every metrics-driven question under the sun. Where traffic sources come from, what this typical sales process looks like for the product.
For businesses that have more complex product offering, what that product offering looks like. Their conversion funnel, their upsells, yada yada yada. You then take that input, and take people’s numbers, and Google Analytics, and turn that into a prospectus.
Thomas: The process hasn’t changed a huge amount in the last year. We have built a more sophisticated valuation model now. We used to be very accurate, but we’re now even more accurate, and more scalable evaluations, because it’s now very much data-driven, with a little bit of experience in there, whereas in the past it was evaluation based on experience, but slightly less data-driven.
The questionnaire is quite similar. We have developed it. Depending on the size of the business and the complexity, it would be between, say, 80 and 120 questions. For example, a small Amazon affiliate site might only have 60 questions, whereas a $1.1 million SaaS business that we sold recently had more like 110 questions.
Once we’ve done that, we’ll do some back and forth, depending on the answers people have given. In your case you were very comprehensive with your answers. [Patrick notes: I have many flaws as a business owner but insufficient desire to write about boring details is not one of them.] We didn’t have a huge number of follow-ups, but in some cases, we’ll do quite a few rounds of follow ups to make sure that the questions are answered properly and there’s no issues in there. Also to make sure we understand the business.
From there, we then put together a prospectus, which is based on the questionnaire, the financials, like I said earlier, last 12 months broken down by month, neatly format Google Analytics.
In the case of SaaS businesses, we’ll quite often go through Baremetrics, whatever other SaaS metrics tool you have to get the data out, because in SaaS businesses particularly buyers are always interested in your metrics, like churn, MRR and all of those. That’s definitely important with technical businesses like that.
Once we’ve got a prospectus together the length of it will really depend on the size of the business and the complexity. Usually, it’s between 20 and 30 pages. We try not to go much longer than that. We’ll then go back and forth with the seller to make sure they’re happy with it and that everything is factually accurate.
Once that is prepared, we move on to listing. This is something we’ve developed in recent months. We now go through quite a distinct three-stage marketing process. The first step of the process is going out to buyers that we have in a very segmented list.
We spend years, and we continue to spend time and resources on developing out an internal CRM, which is something like a cross between Salesforce and Basecamp, for what we do.
Salesforce doesn’t quite work for us. Basecamp or Teamwork or something like that doesn’t quite work for us either. We built something in the middle, which means we track a lot of different data on buyers and sellers, what businesses look like, what buyers are looking for.
Our first round of marketing is to a segmented list. It might be buyers who said they want to buy a SaaS business below $250,000. That will be our first port of call . Quite often, that’s where we get the most success, because those people are being sent something they’ve very specifically requested.
We then go then go out to our wider list, which is well over 10,000 people at the moment. That’s a slightly more general interest list we do get that tends to generate between 100 and 200 qualified enquiries of buyers that then come in. We also promote the business on some third-party platforms, for example, BizBuySell, which you’ll often see brokers using.
It’s quite rare. Most like with sellers it’s very rare for a seller to come in and want to list with us immediately. It’s also the same with buyers. It’s very rare for a buyer to enquire from an ad and buy a business immediately. They’re more likely to end up buying something in 12 months. [Patrick notes: The buyer for BCC said that they had been receiving prospectuses for 6+ months prior to reading BCC’s, which “spoke to us as teachers.”]
We work through that process, hopefully get an offer or multiple offers on the table, and then work to negotiate the offer the seller wants to accept. That’s why we spend quite a lot of time upfront, just to understand the needs and wants.
Quite often people want a relatively quick, no hassle deal, even if that means accepting slightly less money. Other people would rather wait a little bit longer and push for the absolute best offer. They don’t mind offering a bit more in terms of time.
That’s really a seller preferencing. We don’t push people either way. That’s really saying that they need to decide. All we can do is give a balanced opinion on what the best offer is and why.
Once you’ve gone through that, offers get accepted in the form of a letter of intent or LOI. It’s a non-legally binding offer effectively. That will outline the approximate terms of the deal, although they can often change beyond that. The only thing we try and avoid changing is the actual purchase price.
Once that’s signed, it then goes into a due diligence period, which can take varying lengths of time depending on the complexity of the business. Also we have some buyers who might be quite comfortable with a business and go through the process quite quickly.
We did an $800,000 deal that closed out a couple of weeks ago. That due diligence period took less than a week. We’ve also done $200,000 SaaS businesses that took three weeks. That really depends.
From there, we go into contract negotiation, which is where we will work with the seller and the buyer to prepare an asset purchase agreement. We get the important terms in there, which have often been outlined in the LOI. We always try to make sure that any deal breaking or really big terms are agreed upfront.
Once that’s negotiated, sometimes that will involve lawyers, especially on larger, more complex deals, sellers and buyers want to get their legal counsels involved. Often on smaller deals, it’s not necessary. [Patrick notes: I did the BCC sale without running it by my lawyer. I read my accountant in on the details but didn’t have him work much on the deal.]
From there, we use a third-party escrow service who will ensure that the funds are securely transacted between all the parties and the business is transferred. So there’s no chance of you sending your business to someone and them not wiring you the cash or them wiring you the cash and not be given the business. That’s something we’ve used pretty much since day one of the company, and it’s worked very well for us.
That’s the overview of the current process.
Patrick: Yeah. It worked reasonably smoothly in my case. You mind if I dig into some bits of this just for people’s interest?
Thomas: Sure. No, absolutely. I’ve rushed through the whole lot. Say whatever you like.
Patrick: Sure. No worries. One of the things that you guys did, which I did not appreciate the value of it at the time, is that after we had identified the first prospective buyer for the business, David, who was the broker working at it for me, also continued developing other leads for people wanting to buy the business, which I was a little confused by, because I thought, “Well, it’s only going to get sold once, right?”
It turned out that, against everybody’s expectations, the first identified buyer pulled out basically at the closing for the business. David was able to slot in an alternate buyer within…The deal fell apart Saturday morning, Japan time, very early in the morning, and I thought I was going to have a very distraught weekend. Then by Monday, the deal was on with a new buyer, and then we closed out. The wire got cut that Friday or something. It was a whirlwind.
Yeah, you guys were really in my corner on that one.
Thomas: Yeah. That’s one of those things slightly unfortunate in that situation. It really doesn’t happen that often. But over the years, occasionally, because you were only dealing with human beings in a process, so quite often things can change about the process or people get cold feet, whether that’s buyer or seller.
We’ve got the experience now. That’s one of the advantages of working with a broker who’s done so many deals is we’ve been there done that and we’ve seen it all before. A lot of our job is not necessarily dealing with the easy stuff, which lots of people can deal with, it’s knowing how to react when issues do come up.
Invariably, selling a business, various individuals involved, things do come up. Lots of different potential problems can come up. That’s really where the experience comes in.
In that case, we were able to resolve the issue pretty quickly.
Patrick: Bingo Card Creator was a rather small transaction for you guys. But that’s a business that has more than a few moving parts, particularly once you throw multiple companies into the mix. For the larger purchases you’re handling, that’s already much higher than the typical transactions, as for, say, a house.
My father being in commercial real estate all his life, believe me, I can tell you, houses can throw lots of issues into the play late in the day. [Patrick notes: Commercial real estate is generally not houses but Dad would talk to me about his day-to-day like I talked about BCC, so I have heard years upon years of stories.]
Let’s talk a little bit about the contract negotiation. I ended up using just your standard terms with a few modifications that were requested by the buyer. Some of the standard modifications that you might want on top of the terms are things like, for example, a non-compete, where the seller promises the buyer that they won’t either retain another business in the same niche or immediately turn around and attempt to create a business in the same niche, which would tend to disadvantage the buyer, since the seller has the preexisting relationships and buyer does not.
An interesting thing. My business was largely built on search engine optimization. Search engine optimization is heavily sensitive to the link profiles of a website. It’s written into the contractual agreement for selling the business that I’m required to maintain certain links that the rest of my “business empire” has to point to the business that I sold, which was interesting.
I was totally willing to do it, but interesting to me that everyone involved in the process was sophisticated enough to ask for that. Just out of curiosity sake, what’s the weirdest term that you’ve ever seen in the agreement.
Thomas: The majority of deals we do follow reasonably standard clauses. We do try and keep deals quite standardized. We haven’t done a huge number of deals where the terms have got really out there and quite different. It really depends on the size of the deal as well.
We did a deal a couple of years ago where there was…A lot of these things are just things that we would have spotted upfront. For example, we knew upfront you had links from your other websites. That’s something we’re going to make sure is in the contract rather than becoming an issue once the deal is closed, and the site starts losing rankings because the links have been removed.
We’ve had deals in the past where there have been issues transferring the business. For example, we did one a year ago where the owner was in the UK and the buyer was in the US. They ran all their subscription payments through PayPal. PayPal, as it was a UK entity on the PayPal account could not be transferred to a US entity.
The clause we had in the contract there was this part of the deal the seller had to keep the PayPal account in good standing for 12 months while they transitioned out, firstly transitioned into their own payment processor for any new subscribers. Over the course of 12 months, the majority of people subscribing churned off in that period. [Patrick notes: Many of my SaaS friends who were using legacy payment processors end up using natural churn to transition accounts between processors, since legacy processors hate doing this. This process can take years and is unimaginably frustrating — it’s probably the worst form of lockup that software companies still deal with. These days Spreedly/Stripe/Braintree/etc make it much, much simpler.]
Most of the terms we look to put in contracts, especially when they are slightly different from the norm, what I would call a practical term. There are generally not things that screw over the buyer or screw over the seller. We very much like to have a fair and equitable agreement all round. In your case, keeping links in place is no problem for you to do that. From a buyer perspective, it means they don’t have the risk of losing the rankings.
In the other deal we did, it was an example of where the buyer wanted the business, the seller wanted to sell the business, and the most practical solution was to have an agreement where that would stay in good standing.
We’ve had various agreements like that. This, again, helps working through a broker, where just the nature of working through a trusted advisor means there is more trust in the process. The often we can agree or negotiate terms that in a private transaction might have derailed it, whether because there was emotion involved in the process or just a lack of experience dealing with roadblocks for a first or even second time selling a business might be completely new to you.
For us, across 400 deals and various people in the team have experience in mergers and acquisitions doing much larger deals than we do at FE International at the moment. We’ve seen a lot over the years.
Patrick: I like your emphasis on just two willing parties, willing professionals, attempting to get into a transaction together. That was definitely the vibe between Beth and myself when we were doing this transaction.
One of the things that goes into that, typically, for many businesses, there is a handover period where the two sides have agreed to have the seller participate in the business for a period of time while the buyer learns the ropes of the business.
That was very important for Beth, as she bought a fairly significant asset, and also for myself because I wanted the business to be in good hands, and for the customers of the business to have a good experience as Beth and her team were getting spun up on it, so that they knew how to continue supporting the business, continue growing the business and that the business’ reputation and the ability to service customers won’t be negatively impacted by the handover.
Thomas: Yeah. The handover period is always important, and it’s something that we insist on. We won’t even take on a deal if the seller’s plan is to sell the business and leave on day one and never be contactable again. Depending on the size and place of the deal, the buyer and the terms, we generally look for a transition period that’s just a month.
In much larger deals, and quite often I hear of private deals that have been done, they sound great on the outside, but when you actually look at the terms they’re really not great at all, because it involves two years of consulting or something on those lines.
Generally, we look for a 30-day transition. Ultimately, like you say, it should be a transaction between two willing parties. The contract here is to buy a business that you want to take over.
You shouldn’t really be entering into a transaction if you don’t trust the other party, and while you obviously need the contract to protect both parties if there are any issues. It should very much be fundamentally built on trust and goodwill, and ultimately two parties who actually want to deal with each other.
That’s almost as important as the actual deal terms. Quite often people just assume that getting the highest bid is the most important part of the process. We quite often get asked why we don’t run an auction format or bidding format.
It’s exactly that. Your $1 million offer might actually be better than the $1.2 million offer that has slightly worse terms attached to it, and a buyer that you don’t necessarily think is going to be a good fit.
Particularly, in the case of your business and quite a lot of other clients we deal with who were relatively high profile, it’s important for them to see their business and their legacy to continue to run properly. That transition period and a fair contract negotiation is very important all round.
Patrick: I was overjoyed that you found Beth and her husband, who were both schoolteachers in the American public school system, to run the business. I had been offered a few times privately for acquisitions of Bingo Card Creator over the years.
Largely, they were by, for example, affiliates who were attempting to separate UK retirees from their pension checks with gambling affiliate sites, yadda yadda. That was not what I wanted to happen to this business that I had run for five years as a labor of love. I did want it to be turned into just another scummy site on the Internet.
I’m very happy that it got used by someone as a stepping-stone in their online business career. It will continue to create value for teachers in the United States and the rest of the world and teaching kids how to learn to read. Yay.
Thomas: Yeah. Absolutely. It’s great to hear. It’s always good to hear those success stories down the line, that there’s nothing better from a broker perspective to hear that you’ve got two very happy clients 12 months down the line.
Anyone can get a deal over the line at the time, but making sure their firm is doing well 12 months on is really great too.
Patrick: One of my other desiderata was I knew I was going to be very, very busy with my new business this last year. Bingo Card Creator had been in a period of benign neglect for two years prior to the sale, where I was continuing to do routine customer support and the servers stayed up and running. But I wasn’t really driving the ball forward.
I have to report that after the transition period went over without a hitch, I have been able to mentally separate myself from the business. I’m presuming, because Beth hasn’t emailed me in a long time that the business is continuing to go pretty well for her.
Part of me always has the occasional itch to check in and see how things are going, and part of me is like, “No. Wait. That chapter is over. Time for a new chapter.”
Thomas: Yeah. Absolutely. Especially with sellers whether you’re in a portfolio or they’re quite active online like yourself it is quite important. Another reason for people to sell in the first place is because they really want to focus on one thing. Being able to let go seems very difficult upfront. Many people don’t even think they’d be able to do it.
Ultimately, if you find the right buyer, you’re not losing sleep at night. The business you’ve spent so many years working hard on and ultimately built a really great reputation on the back has been run into the ground in matter of months. That’s another reason why it’s quite important.
Patrick: That leaves us at a pretty good point for wrapping up the episode. Two little notes before we go. Number one, I still own Appointment Reminder, but if you’ve been following in the rest of this episode, you probably have a pretty good idea of what my mid-term plans are for it. [Patrick notes: cough Short-term plans now.]
If a slightly used SaaS business with slowly growing revenues [Patrick notes: 30% or so YOY] is something you would be interested in talk to this guy. Thomas, how can people find you on the Internet?
Thomas: The best thing to do is visit our website, which is www.feinternational.com. You can always contract via our contact form. If you go on our blog, we have content quite broken down into buyers and sellers.
If you’re looking to potentially sell a business and you don’t necessarily want to get on the phone with me or someone on the team, we have a exit planning course, which is a free email drip course, which, I believe, actually you recommended, we launched about a year ago. That’s now out.
We also similarly for buyers we have an ebook call about introducing you to the process.
If you’re actually looking to selling out, you go straight to our seller site page and enquire. We’ll give you a free evaluation. If you’re looking to buy have a look at our buyer website page. If there’s anything on there, get in touch and someone from the team will reach out.
Patrick: Particularly, for those of you who are looking to sell, A++, would do business again, will do business again with Thomas and the team. But regardless of whether you end up using them to represent you or not, I would definitely solicit their opinions with regards to what the next steps are for your business, given your life/career plans.
If nothing else get their checklist on doing due diligence, etc., because it will make your life much, much easier as you get closer to the process, because these are very complex things even at the lower end of the scale.
When I sat down and made a trailer board of all the tasks that I would need to do prior to selling the business, I got 60-odd items. Your guy’s help was pretty instrumental in putting that together.
Thanks very much for taking the time with me today, Thomas.
Thanks very much for all of you guys for tuning in to the podcast. Wow, two episodes in two months, breakneck speed for us. Hopefully we’ll be back in the next couple of weeks with another great guest.
Thomas: Yeah. Thanks a lot.