NEW PODCAST! HOW & WHY TO USE DEBT TO BUY A BUSINESS?

https://www.vernehq.com/post/how-why-to-use-debt-to-buy-a-business

[00:00:00] Colin Keeley: Hello. And welcome back. This is Colin Keeley here,

[00:00:03] Brent Sanders: And I'm Brent Sanders.

[00:00:04] Colin Keeley: And we are two guys buying and building wonderful internet companies.

[00:00:09] Brent Sanders: And this week we want to talk about debt. We want to talk about other ways of funding a acquiring in the context of what we do assess businesses. So online businesses that have recurring revenue, we. I've been spending a lot of time. If you're listening to the podcast, we spend our time looking at deals, evaluating, doing diligence and trying to acquire them.

And the most attractive part is they shed money every single month, there's this recurring revenue that's happening. So these are largely subscription businesses that are we really liked the B2B space. So if you're a listener, you already know that, but I wanted to talk about. In different options and inquiring, acquiring different businesses.

So when I say debt, what I mean is like getting a historically like a bank loan. And I think we've talked about it on past podcasts, right?

[00:00:56] Colin Keeley: Yeah, we've talked about it. A number of times in leveraged buyouts and like the heyday of the eighties and corporate raters is what people think of, but,

[00:01:03] Brent Sanders: Gordon gets.

[00:01:04] Colin Keeley: Gordon gecko, that kind of thing. But like people do it in their daily lives of of like, You don't put up a hundred percent of that amount in cash.

Generally, you basically do a leverage buyout and you get a bank loan and then you pay know debt service on that bank loan. And you put in 20% down or something. So that is maybe the most obvious example. And then if you hold it for, 30 years you own the house, like you had to pay a bunch of interest payments, but you own it outright.

[00:01:30] Brent Sanders: Yeah. And so for businesses that you know, are constantly generating some form of cash there's a potential. And this is like going back to, we worked on a an incubated project that our previous venture fund where we're doing invoice factor. And we're looking at that as a space and testing out that market was called finance people.

And the idea was you basically buy somebody's receivables. And so with that is you need to know. They normally take 30, 60, 90 days to get paid. You give them cash at some discount that, you're going to collect all the money, but you give them cash up front. Now it's like a payday lending for businesses, which has been around forever.

It's like the, one of the oldest businesses is you're going to get paid, but we'll get you cash sooner. So as we were looking at that business, I started thinking about. As we've been working on these businesses, we've been working on like more SAS models and figuring out, okay, what could we buy?

What's our sort of capital potential. How could we leverage to get businesses for putting out less cash? Because I think there's a whole market here that has some upside around and you could buy smaller businesses and we could do 10 deals without even. Maybe not 10, I don't know whatever that number is without trying to raise capital.

And you just own the businesses outright after you've paid these loans back, which is part of our thesis is hold these things forever. Don't sell the business, hold them forever and ever. And so it makes a ton of sense.

[00:02:56] Colin Keeley: And so why this is amazing is you could put up very little of your own money. So if you. Finance something 90% you buy a million dollar business. You only have to put, a hundred thousand dollars down. And as long as the business cashflows and could pay off that debt, like you own that billion dollar business outright, over the course of three to five years, whatever you do.

And that, that's pretty amazing. You're taking on some risk in different forms, but that is the potential there. You just don't need as much capital.

[00:03:23] Brent Sanders: So I think that's a great startup idea. I I guess it's probably being done. There's, you were mentioning pipe earlier, so pipe does this now, right? It's to me, it's servicing this scale is the most interesting part. Not necessarily a concept, it's the, I don't know what the exact metrics or deal sizes would be, but, I don't know, revenue based financing, it's you're bringing the money in. And why shouldn't you be able to leverage, some multiple the annual earnings of a company.

[00:03:48] Colin Keeley: Yeah, this, the size is the hiccup here. So I actually had one of the top SBA lenders on my course to give a guest lecture. So we went through it over the course of an hour in a different sizes. You have different options. I would say four at the exact numbers of the course, but you could get an SBA loan above a certain amount and below 5 million.

So I think it's above half a million to 5 million. And then beyond that, There's another leap. And then you could get like traditional bank financing, which is more like search funds. So like the top MBAs go out and buy a business. Often they could get debt if they buy a big enough business to really juice their returns.

But yeah, if we're playing on the smaller companies pipe, we'll do it a little bit where they'll give you the money upfront to buy a business, or at least a portion of it. But it's a relatively small portion. And then there just isn't really there's an opportunity there. Finance more, are they small acquisitions?

And it really just aren't great options to do so yet.

[00:04:45] Brent Sanders: Yeah. I mean that one to sorry, that 100,000 to $500,000 annualized revenue point is largely unserviced. Whether it's that or. Just something on the, even the bottom of the market, I feel like you could charge a fair amount in interest, right? An APR to make it worth your while it's like, if you had, again, in my mind, the same diligence that we do on deals, and then it's, if you underwrite the deal, the collateral could just be the business.

It's, doesn't necessarily even have to be a personal guarantee.

[00:05:18] Colin Keeley: Yeah. So we could talk about this a little bit where it's so often these are like, service businesses or businesses with a real estate component where you're buying it for a lower, multiple, a lower multiple of cashflow. And so it's easier to layer debt on top of. But SAS is often more expensive.

So you often have to pay a higher multiple of cashflow to buy it. So it makes it harder to pay that debt service or to put too much debt on a business. So like on our acquisitions, we'll put on some debt just to Juice our returns, but it would be much harder unless you're getting a really amazing deal and a really low, multiple to do it like 90% and basically.

[00:05:59] Brent Sanders: right. We risky. What you're saying that is essentially you won't be able to service the debt if.

[00:06:04] Colin Keeley: Right. And so that's the whole game is like, No juices your upside, but it also creates this downside where if you're not able to service the debt, able to pay for whatever loan you took out the business goes to the debt provider. So it is a bit of a dangerous game if you overdo it, which is what happens whenever you hear like a rich person went bankrupt.

It's like, how does that make sense? Like how they go bankrupt. It's always because they have too much leverage and they just got killed.

[00:06:32] Brent Sanders: Oh boy. That, so it seems like it really, this is just a very old concept. There's nothing new and there's nothing. The only part that's interesting to me is the sort of the focus on a SAS business. So I think it's a great sort of. As I said, I'm sure somebody is already doing it, but that is way better than invoice factoring in my mind is trying to fund these deals.

Because as from your course and the amount of interest there, this is just a, bottom of the market. I shouldn't say the bottom of the lower end of the market is getting a lot of activity. That's really interesting for people who may have some, either technical know-how or want to basically buy themselves a job, even, they want to get into and put the time into it.

A SAS business. It may only take one person. So I think that's the one thing that I don't love about the businesses either as E underwriting a deal or thinking of taking the revenue. If I were to do this myself as like an acquire and then take out a loan and use debt is at the lower end, you're servicing the debt.

And you're basically going to have to run that company like yourself. There's no room in LA unless you allocate obviously more cash, but then you not only do you have. But also, you've got to pay somebody to run the business where I think on these larger deals, there's room to service debt, and also, have income to, hire a CEO or CTO or whatever it is you're doing.

[00:07:53] Colin Keeley: Yeah. So like what you want in a business that you are acquiring or if you're lending, if you're the bank in this situation, you want stable cash flows. You want relatively low fixed costs and you want a reasonable value. So if someone in investor can find like a SAS deal, it definitely has stable cash flows.

It is super low fixed cost because it's all computers running things. And then the sticky point is if you could find a reasonable valuation or else you just, as the lender, you wouldn't want to lend too much because you run into that situation where you're taking over the business that, maybe you don't want to

[00:08:26] Brent Sanders: Yeah. Yeah. Like the, like somebody obviously banks. Aren't great at. You know what, when they take over home, it goes for a fire sale because they just, they got to get it off the books. And same thing would be with any business that unless you were, a specialized start, a lending studio where, you could take on bankrupt businesses, turn them around and sell them at a profit, but that would likely be the hardest thing to do.

So no one should do that. Part of the startup idea. But yeah, it's super interesting to see, we've talked about the SBA side of things. We talked about some of the lending options. I like the idea of, you don't do this, you don't buy a business. If you don't have full confidence or a great deal, at least have confidence that it's going to work.

So if there's a way to, to get some debt involved, I think it's healthy, right? I think from a, as you were saying, you can juice your profits or. numbers, essentially, if there's an outcome there, but also like just getting to something like being able to get into home. It's the same argument for mortgages.

It's everyone's going to be a little bit better if they have a home and have that stability. Obviously there are downsides to that and, even the way mortgages work, I it's a ton of interest that you're giving up, but still you can grow into something and it provides a little bit more access, which I'm excited to see, with this.

Space and with pipe in the mix and some other companies hopefully popping up. It's we interesting to see more people getting access to this space because otherwise you'd have to know rich people. That's you got to find investors, you got to convince rich people to give you money to, spend outs outside of what you have available.

[00:10:02] Colin Keeley: Yeah, the other, the great thing is this is really good for entrepreneurs because right now it's easy to sell something that's really small, right? Like most individuals could buy it if it's, sub a hundred thousand dollars, but then you hit this weird point where if it's like in the six figures or low digit millions, it's just too small and not interesting to like real private equity firms.

And then it's too big for most individuals to take on. So you reached like a no man's land where it gets hard to sell your company. It's a amount of money that should be like, life-changing like a really nice outcome, but it's just hard. Like it's really hard to sell in that space right now.

So there's definitely a need for it.

[00:10:39] Brent Sanders: Yeah. Be interesting to see. I could see, and I'm just throwing darts on the wall, but I could see players like Stripe getting into this. They're already doing the, we get offers. I get offers. Businesses. I run that you Stripe all the time now on Capitol. This is similar to the invoice factoring in a sense of Hey, we can see what your revenue is.

We can offer you a loan in as you received money. We'll just, we'll take a percentage of that and we'll take our fees. You won't be out of pocket for it. You'll just have cash and really curious to see how that goes upstream into acquisitions, especially with, we've talked about this. I feel like our first podcast, we're all about.

Acquisition pain points. Talk to one of our listeners about this as well. Just like how do you make that transaction process better? And I'd say this is one of the interesting parts is if you could see, not really, I don't know what to call straight. They're not really a payment processor anymore, and they're not just a bank.

They're like a capital entity or something that is a little more digital focus. So you're, you can get underwriting done with them so quickly because they have all your data. Then again, I w I don't know, just as a minor aside, I don't know if you've heard about the whole Zillow house flipping thing.

[00:11:51] Colin Keeley: Of course.

[00:11:52] Brent Sanders: Oh, man. That we were cracking up about that today. I was talking to my wife about it. It was like, she didn't, she hadn't heard anything about it. And she was telling me a story about how, and wants to sell their house for some ridiculous amount of money. And they paid half that, five-year four or five years ago.

And it was hilarious. She's just nobody's going to pay that. I'm like, yes, the AI will pay for that. Zillow. Zillow is paying for homes like that. I think they had thousands of them. Like I think the

[00:12:15] Colin Keeley: Oh, yeah.

[00:12:16] Brent Sanders: almost half lost half of its.

[00:12:19] Colin Keeley: Yeah. And enormous losses. It was, billions and billions of homes and at a time where like they were buying up single family homes in Phoenix, which it's like kind of a question of how do you lose money doing that? Because it's like boom times for single family homes during COVID and everyone's willing to it.

But Yeah. They messed up pretty bad and let it run for clearly, like way too long. Like they bought thousands of homes we, for way too high of a price, like you think you would notice, know, on a smaller scale. But I think it just goes to show like what Opendoor is doing is much more impressive than it may seem from the outside.

It's those low margin businesses are hard.

[00:12:53] Brent Sanders: Th the tie in there though. It's like the, and I have no idea of Stripe does the same thing. They have some form of automated underwriting. I'd imagine they do. If they're giving, my silly candle business a loan offer, but still, and this business has been around for a long time.

Just like the idea of moving into more complex transactions, or just hoping that I think you and I are both hoping that the business transaction, the business to business like buying and acquiring businesses. Less of a super private industry. I'm not saying it should be public per se regulated by any means, but like standardized, there's a closer to buying a home than it is buying a business, which is just the wild.

[00:13:34] Colin Keeley: Yeah, it's clear. It's boom times, I think there's going to be way more and more small businesses created, especially in this internet space. And then more of them are being acquired. people are coming to fill the gap. Obviously I'm coming with the education piece of it. Micro choir is like taking on more and more pieces of it and like the whole industry is going to standardize.

And a lot of people are trying to help, help that along.

[00:13:56] Brent Sanders: Yeah. I would say this coupled with the crypto kind of revolution, that's continuing to happen. That's not happening right now. It's just been going on and on will be interesting. You see these DAOs, which are what digit, what is it again? What does it stand for?

[00:14:17] Colin Keeley: A decentralized

[00:14:18] Brent Sanders: decentralized,

[00:14:20] Colin Keeley: autonomous.

organizations,

[00:14:22] Brent Sanders: Yes. Okay. I got one of the words. So speaking of if you have that concept of this, like just distributed decentralized governance, why couldn't you do that? I think we're seeing lending come into this as well. And so there seems like there could be a cool tie in there. W we'll see what happens with regulation around it.

But I think you and I were, we both registered our Ethereum names or. What do you call them? Your names essentially like your domain name for Ethereum? I did mine a month ago. You probably did yours a couple of months before that. And they just did their airdrop, which was like the first thing that I've ever really first airdropped, I've been a part of.

And that was like,

[00:14:58] Colin Keeley: Yeah. So backstory here Ethereum name, service ENS. So we talked about it before I registered key lead at ETH. So that's you're registering your email And like your Twitter handle, but in the Ethereum world. A pretty basic thing that most people on Twitter, it seems dead. And I did mine for five years, cost $25, but then of course it was like,

a hundred and twenty-five dollars in gas fees, which, hurt at the time and

[00:15:21] Brent Sanders: Yeah.

[00:15:21] Colin Keeley: But then everyone over the last you have six months to claim it, so you have to claim it. It's not completely passive, but if you go in to the ENS and you claim your tokens it's calculated based on when you registered and how long you registered for. But my, and it sounds like most other people's I ended up with 130 tokens, which as of right now is like a $10,000.

[00:15:44] Brent Sanders: Yeah.

[00:15:45] Colin Keeley: Which is absurd. And it's like most people on Twitter just found $10,000 on the floor this morning. Just by doing this, registering a name.

[00:15:55] Brent Sanders: Yeah, I'm looking right now. It's $11,046 and 87 cents. Just fucking insane. I'm sorry. I'm just going to say like just random, you're it makes sense what it is now and unders as part of claiming those tokens, though, you had to vote and you had to assign a delegate. So you had to.

Participate in some way. And I don't know if everybody in the airdrop realized like, or how much weight those votes are going to have necessarily because, you don't really know it's I always try to explain this to people and I always fail, but it's nobody really has the McDonald's dot com or.

The McDonald's at ETH. I Sure they do now, but like the prevalence and importance of a domain name is I think everyone who's registered. One is oh, I'm not going to miss out on this again. I'm going to register at least by name or what's dear near and dear to me.

So it's not really there yet, but now that you throw you say, Hey, these tokens have this value and the just general expect relative growth of Ethereum. And what. It feels like those are actually going to be very valuable votes to have in the future and being able to shake the thing is there's a lot of interesting discourse around the internet about, what type of values are going into these organizations.

And it's it, to me I get a little tear in my eyes cause I feel like it's truly. Everyone's getting to vote. However, with these tokens worth what they are, if you can't afford to hold onto them, it seems like things will all go to one side, but, that's my clueless take on it.

I'm not super informed on governance around ENS, but I got to say that was the coolest thing to ever happen to me, not ever, but one of the coolest things ever, definitely the coolest thing they were happening with cryptocurrency.

[00:17:33] Colin Keeley: Yeah.

so welcome to the world of these air jobs. So the way it works, so ENS now is I don't know, a multi-billion dollar token, so you'd need to do like a 51% attacks. So you'd have to buy up 51%. I'm not sure that it's ever going to make financial sense to try to attack it in that way and get enough voting shares that you can really mess with it.

So it's a way to protect like the company and the future of the protocol and everything by distributing that. But airdrops. I would say it's like a new form of a marketing method that these protocols are we're effectively like startups are doing where it's like giving startups shares to all your early users.

So often people will be like, oh man, are they ever going to do an airdrop where they're going to drop their tokens? Because like after protocols live for a period of time, often they do an airdrop to like their early adopters. And then it gets all of us, talking about it. And we're basically like a inexpensive affiliate network. Yeah, doing marketing for that company.

[00:18:27] Brent Sanders: but they didn't really have to pay anything for that. That's the other part of it is. that's the mechanical, I'm unclear on it's whoever said, I guess ENS already, the token had a, like a price and I just remembered this case. This was a, I swear, this was a Silicon valley episode where they had a pied Piper token.

And it was like, instead of doing a series C or a series B or something, they did their own token and it was like 7 cents.

[00:18:52] Colin Keeley: Yes. I remember that now, because that was like 2017,

[00:18:58] Brent Sanders: I know, I was thinking about that.

[00:18:59] Colin Keeley: And that was a big thing. But now it's a real thing that people are doing and these tokens have real value in these. These protocols very quickly become worth like billions of dollars and they're effectively billion dollar startups that.

came up in six months or something.

It's a wild world. How quickly these things are all scaling.

[00:19:14] Brent Sanders: Yeah, very cool. Why does that remind me of debt and debt financing? It's just seeing this liquidity, this, and maybe that's just a sign of the times. Maybe won't talk, be talking about this a year or two from now, but it seems like with that liquidity for, I don't know, I'm not going to call us average Joes because we're not like, we are tech savvy and we bought those ENS domains essentially.

But I think people are realizing, especially with COVID and it's no surprise anybody. Maybe owning a business or running a business or spending time on something you own is a better use of your time versus, working for others. And so I think all of these things have these similar sort of harmonies to them that are starting to click together.

And, it's always with CryptoKitties oh, it feels like the future, but it does seem like you're seeing the convergence of, post COVID economy. Just people, not even something working remotely it's like wanting to get more out of there, what they're working on and, see an outcome.

I There's no better way than, working hard on something, having something like your business, pay your salary and then also having something of value that you could potentially sell if you wanted.

[00:20:19] Colin Keeley: I heard someone call it recently, like the great re-evaluation. So during COVID

[00:20:25] Brent Sanders: Yeah.

[00:20:25] Colin Keeley: reevaluate their jobs, reevaluate where they're living, reevaluate, who they're married to when their second house. So they're a lot more divorces. And now it's like a. I was thinking like how hard people work to make like $10,000.

And then if you just are like messing around and you're curious, and the CFI world, like $10,000, this is handed to you. And so it is or you could play these games like actual infinity and you could make more than minimum wage, just playing a video. It is like a, I don't know if you should be working for minimum wage, if you could just poke around in the C5, world's a little bit of money and make, significantly more or like NFTs empties are ridiculous to me, but people made a boatload of money just being ready for the next airdrop and, spending $50 on something.

And then that very quickly it could be flipped for like hundreds of dollars.

[00:21:10] Brent Sanders: I'm not the greatest at math, but if you're making $20 an hour, that's basically 3,200 and you're working. Full-time 160 hours a month. That's a hundred dollars a month. Think about how much $10,000 is to the average person who, that's minimum wage in a lot of places now, but it still is a good salary or hourly wage in a lot of places.

So I think, I'm concerned that there will be a greater divide in some ways, but at the same time it's access to knowledge and knowledge can be. It doesn't necessarily, this is like more civilization or societal questions, but I don't think it necessarily, the knowledge of these different platforms, currencies, or even like NFTs.

Like you could see those things that doesn't, as long as you have a connection, like you can get a wallet, as long as you have a connection, a lot of things can become available to you. You can read about these things, connect with people in discourse. And just seeing a convergence of things.

So it's very cool time to be alive, but just the disparity between, Hey, I've got to go work for three months at a job or three and a half months at a job, and that's not even including taxes and to get $10,000 versus just, I don't know. My parents told me that there's no such thing as a free lunch.

No, one's just going to give you $10,000 calling, but it just happened.

[00:22:28] Colin Keeley: Yeah, it's wild. It's a wild world out there. I think it's only gonna get crazier. I think technology's pushing faster and it seems wild now. It's it's impossible to predict where things lead.

[00:22:37] Brent Sanders: It's exciting. I would say, I don't know that I would know as much about it after, if not doing this podcast. I've always been curious about it, but I'm getting more and more interested digging into, weird. Discords that's been interesting to see the discord culture associated with cryptocurrencies and some of the interesting tools out there.

I love the idea of, as it relates to business payments, though, just digging into this more and seeing, I think you're going to see more and more companies. Or I should say freelancers and small businesses want to get paid in crypto, or because I think about this you're definitely going to file this $10,000 as I, on your IRS return.

Your cryptocurrency gains is it's like, what I mean, come on. What is it? It's not cash yet. I haven't turned it into anything. Cause it hit a bank account. Like how do, how are they going to regulate that stuff?

[00:23:26] Colin Keeley: Yeah, my plan there is just not to sell anything. And then I'm hoping I could, I'll just push it off until it can be automated. And there's like software that could look through your transaction history and tell you what your tax bill would properly be.

[00:23:37] Brent Sanders: Yeah, no kidding. That's going to be very difficult.

[00:23:41] Colin Keeley: It's all. The rules are just not very good right now either. So it's like what is a taxable event is still very fuzzy. So yeah, I think they're going to need a lot more smart, tax attorneys out there to figure out all this stuff.

[00:23:55] Brent Sanders: So we've covered it all. Really. We've gone from debt to NFTs. But technically isn't your Ethereum name and NFT.

[00:24:02] Colin Keeley: Yes, it is.

[00:24:04] Brent Sanders: So there you go. You're an NFP owner.

[00:24:07] Colin Keeley: I am. I also have been gifted some NFTs that just show up in your wallet and people on Twitter, always asking, like we're dropping a bunch of NFTs, drop your ether handle. So I drop it. And occasionally you get stuff handed

[00:24:19] Brent Sanders: Cool. I'm going to start doing that. I thought it was just a, I don't know again, I'm so skeptical of get, getting anything for free. It's like what, huh? Anyways, it's a brave new world. I'm ready for it though.

[00:24:34] Colin Keeley: It's a new world out there. All right. I think we could sign off, take care of your one.

[00:24:38] Brent Sanders: Thanks so much.



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