What Is The Smallest Self-Funded Search "worth" Doing?

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04/23/2021 Redacted Redacted

searcher Indiana University, Bloomington/Indianapolis - Kelley School of Business

WHAT IS THE SMALLEST SELF-FUNDED SEARCH "WORTH" DOING?

17 likes 431 views 31 comments

searcher Bilkent University - 04/23/2021

Following.

like reply | 0 likes

searcher Yale University - 04/23/2021

I'm not doing a self-funded search, but I would think one where there is enough profit for you to at least pay yourself the salary you'd like to earn. If you'd use outside equity capital to fund the deal, whatever is big enough to pay your investors their require rates of return on top of your salary.

like reply | 2 likes

searcher IE Business School University of Southern California Washington University in St. Louis - 04/23/2021

I agree with ^[redacted]‌. When I first started evaluating companies I was looking in the $500k - $750k SDE range. What I found was that with the structure I planned to use (a few small investors, some of my own funds, & highly leveraged with an SBA loan), I couldn't afford to pay myself the salary I needed to maintain an acceptable standard of living. Or you could flip it around & say that I could pay myself but then there wasn't sufficient cash flow to cover the debt service. Thro

like reply | 11 likes

searcher Emory University United States Naval Academy - 04/23/2021

It really does come down to your overall strategy and personal situation as indicated by Alyssa and James. And those can be different for everyone. The major short-run tradeoff usually centers around standard-of-living.

like reply | 1 like

admin Massachusetts Institute of Technology - MIT Sloan School of Management Taylor University Stanford University - Graduate School of Business - 04/24/2021

Anonymous from Indiana - Thank you for your post! Tagging a few self-funded Searchers that might be able to contribute to this very interesting question. I'm certainly curious to see what everyone will say.

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like reply | 1 like

searcher - 04/24/2021

Thanks for the mention, Luke!

I agree with Alyssa Denning and James Kruse. It is really dependent on what your investors are looking for and what you would find to be an acceptable lifestyle you'd be putting yourself into.

That said I think one thing you should really consider is the elbow grease, so to speak, you'll need to put into one of these very small businesses. As the smaller they are the less financially sophisticated they tend to be. You'll inevitably change a lot of thi

like reply | 2 likes

searcher University of Iowa - 04/24/2021

Not much more I can add to what Alyssa, James & Will have contributed. This is going to be totally dependent on your personal situation (are you married? Do you have children? MBA debt?, etc. all will contribute to needing a higher SDE range) and the deal dynamics (Raising significant outside equity? Wanting to avoid a PG? Then you should probably go bigger on the SDE to make the equity structure enticing enough for you to do the deal).

As a rule of thumb, anything under $250-$300K i

like reply | 2 likes

searcher Florida International University - 04/24/2021

Thank you, ^[redacted]‌ for the mention.
I think it's been well answered already. The only thing I can add is to look into why you'd want to go for the smallest deal
Small deals can take just as much time, energy and money as larger deals so having the context of the question might help with the answer. Are you looking for a small company that's potentially "easy" to run? A small deal that might take minimal effort and close quickly? Or, are you trying to minimize the search time and

like reply | 1 like

searcher Pennsylvania State University Michigan State University - 04/24/2021

I agree with the others who have commented. I am on the opposite path of James in that I started looking at $750+ but drifted lower because there is less competition and better multiples under $500. I am willing to take some salary risk in the short term in order to keep 100% equity but understand that not everyone is able to do that

like reply | 4 likes

searcher - 04/24/2021

For me the smallest search worth doing is one that gets me in to a business that has growth potential and returns the amount of money I need to replace my current salary after debt service. I agree with some of the comments about going after deals with an sde below $750k. It allows you to focus on deals that traditional funds may overlook.

like reply | 3 likes

searcher University of San Francisco University of Oregon - 04/24/2021

Whatever amount gets you excited. No one number is correct. Taking the leap and getting your first deal done is worth loads in my book.

like reply | 3 likes

searcher Southern Methodist University - Edwin L. Cox School of Business Vanderbilt University - 04/24/2021

I think a lot of searchers embark thinking in terms of getting one deal completed. This is one method but there are other strategies out there. There are several searchers that started with relatively small sized SDE companies under $300k only to acquire multiple unrelated future deals 2-3 years after their first deal. Utilizing SBA debt to acquire these “small” businesses with low multiples and increased deal diversification is whole different approach to the traditional search fund

like reply | 5 likes

searcher University of Iowa - 04/24/2021

Good add Jonathan. Personally, it's what I'm eyeing to do (however not necessarily in an unrelated industry). However I'll caution this thinking in that the difficulty in running one (super) small business should not be understated, let alone acquiring 2-3 unrelated businesses every few years or so. Looks good in an excel model, but reality may get in the way. But I've definitely seen it done where there are these guys that treat their first acquisition foray as a quasi-holding company and just

like reply | 2 likes

searcher Northwestern University - Kellogg School of Management Arizona State University - 04/24/2021

Edward, I'm looking to do something similar myself. And I agree with you that there's a lot of concerns about how it translates into the messy reality of life.

like reply | 2 likes

searcher INSEAD University of British Columbia - 04/24/2021

One thing to be careful with as the deals get smaller is the seller transition period: can you manage his/her (sometimes their!) compensation + debt service + something for yourself? Something to consider.

like reply | 2 likes

searcher Stanford University - Graduate School of Business University of North Carolina at Chapel Hill - 04/24/2021

Lots of good comments already posted. In my experience (I self funded a 650k SDE deal), another key consideration is WHY the business is currently a certain size, and the impact that answer has on growth / risk potential. Said another way, every business owner would like to make make more $$$. So why haven't they done that? Is the answer something you can solve without taking excessive risks?

I found that most sub $500k businesses had hit a natural upper limit because the seller was t

like reply | 5 likes

searcher Pepperdine University - Graziadio School of Business and Management University of California, Santa Barbara - 04/24/2021

I agree with ^[redacted]‌ on this. Also, sub $750k deals can be really good for a searcher who wants less debt hanging over their head - which doesn't necessarily mean less risk - and can still get a cash flow generating business. I still look at sub $750k deals, if I can determine that I can replace the owner, service the debt and scale the business. However, I do not need to draw a salary from the business, which to me is the biggest factor in considering these deal sizes. ‌

like reply | 1 like

searcher Georgetown University - The McDonough School of Business University of Scranton Embry-Riddle Aeronautical University - 04/24/2021

I was a self-funded searcher and I agree with Adam Crocker. I quickly learned that what I refer to as the ‘lower-lower’ middle market ($500-$1m SDE) is a great place to fish. Enough cash flow to take leverage but low enough you don’t get the competition. I’m more than happy to talk about my experience if you want. Good mentors saved me months of effort and probably lots of $$ in avoided mistakes.

like reply | 5 likes

searcher - 04/24/2021

Agree with the above, and I would stress that the multiple you pay on a business makes a difference on how small you should be willing to go. I would say 400k SDE with moderate growth potential is about the smallest worth considering if you can acquire at a 2 multiple, but likely not worth considering at a 3+ multiple. Run your after-tax cashflow numbers and see if there is enough after your debt service for this to be your best option when considering opportunity costs.

A business with 5

like reply | 7 likes

searcher Webster University - 04/24/2021

I am currently targeting in the microcap space because I love to find businesses with unrealized potential. I would consider a clean SDE of $300k if they have a strong manager (or potential one) to handle the daily ops with my guidance for growth. Ideally, my acquisitions complement each other so they can cross pollenate clients. If anyone finds some they think are too small but "could" be a good one, DM me. I'm happy to take a look and give appreciation if it works out.

like reply | 1 like

searcher The University of Texas at Austin - Red McCombs School of Business University of California, Los Angeles - 04/24/2021

I agree with everything that has been discussed above. In my experience I have found that nearly everything below $500k SDE won't support the debt service, capital for growth, and your salary. Anything over $1M and you start running into too much competition which in turn drives up the multiple you'll have to pay

like reply | 0 likes

searcher University of Southern California - 04/25/2021

I did a self funded search fund and my approach is different to answer this. Do not think what is minimum worth it. Think what is minimum size that has enough margin for mistakes & error to continue if you lose 5-20% of revenue after a seller leaves.

If you are $300k SDE as example, odds are you are probably $1.25-$2m in revenue. Pending business model and fixed vs variable cost, a hit of revenue or vendor issue could wipe out your equity and left with high seller financing or SBA ser

like reply | 2 likes

searcher The University of North Carolina at Chapel Hill - Kenan-Flagler Business School Baylor University - Hankamer School of Business - 04/25/2021

Completely agree with ^[redacted] More important than something being “worth it” in my mind is what I consider “wiggle room” or room for error. If things take a turn for the negative beyond my control or what I anticipated (economics, loss of key customer, loss of key employee, etc) you want enough meat on the bones to cover these setback. For me, I try to target above $1M SDE.

like reply | 0 likes

searcher Clemson University - 04/25/2021

^[redacted]‌ wrote a great article on this topic earlier this year. Nick has made 8 acquisitions in the[redacted]range while paying 2x since 2016.

like reply | 2 likes

searcher The University of Texas at Austin - Red McCombs School of Business - 04/25/2021

I feel like I'm missing something with deals under $400k SDE not being able to support the debt service/growth. Could someone please explain where my back of the napkin math is off?

- 300K SDE at 2 turns is $600k purchase price
- If you put down 10% a 7% note, the yearly debt service is about $77k.
- Even after you pay yourself say $100k in total comp, you have $123k funds to invest in growth

like reply | 4 likes

searcher College of William and Mary - 04/25/2021

Yes, agree with Sam on this, I'd like to know what I'm missing.

like reply | 0 likes

searcher University of Oklahoma - 04/26/2021

^^ I think disconnect is they aren't accounting for buying @ ~2 turns? I have heard of people closing deals at similar multiples though.

like reply | 1 like

searcher The University of Texas at Austin - Red McCombs School of Business - 04/26/2021

That's a very fair criticism. But even if you plug in the same numbers with say 2.8 turns (The Pepperdine PCMR Average) the debt coverage ratio ends up being about 1.8, and you still have 90k to invest. I understand the qualitative risks of small businesses being potentially higher, but it seems as though a lot of the modeling numbers really favor smaller deals since they sell at more favorable multiples.

like reply | 1 like

searcher The University of North Carolina at Chapel Hill - Kenan-Flagler Business School Baylor University - Hankamer School of Business - 04/26/2021

I^[redacted]‌ I think it is important to note that we are discussing a hypothetical business in a non-identified industry. There are winners and losers at every price point in any industry. But in general terms, I favor higher SDE businesses over lower ones because they give a new owner more buffer between the top line and bottom line. For example, 20% margin on a $500k business is a lot less buffer (total dollar amount) than 10% margin on a $5M business. My main concern as a hopeful future

like reply | 3 likes

searcher The University of Texas at Austin - Red McCombs School of Business - 04/27/2021

Thank you for the insight. I did not mean my post as an argument that very low revenue companies compare only favorably to larger companies, just questioning the narrow point that meeting debt obligations will be a particular issue for smaller deals. I very much agree with you about smaller companies on average being more fragile and more susceptible to key personnel and customer risk.

like reply | 1 like

searcher University of California, Berkeley - Haas School of Business Bowdoin College - 04/29/2021

Thanks all--appreciate hearing the nuances of these smaller deals.

like reply | 0 likes

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