Buying a Business: Acquiring The Podcast Consultant
In 2022, my company, Draft.dev was growing rapidly. My team was solidifying and I had less and less to do. I knew that building a business that could thrive without me was the goal, but as that reality got closer, I started having an existential crisis.
If this company doesn’t really need me, what do I want to do with myself?
I considered several paths, and started working with a coach (Andy Hite) who pushed me to figure out which one I really wanted.
At first, I thought about selling Draft.dev to take a year off. It seemed like it would be fun to have no professional responsibilities and maybe work on some creative projects, but I knew I’d get bored long before my cash reserves dried up.
Then I started thinking the other direction.
What if instead of selling the business, I used the cashflow from Draft.dev as leverage to buy another company?
I’m happy to report that after about a year of work, I was able to close a deal to buy a second business, The Podcast Consultant. In this post, I’ll share the process my partner and I used to find, vet, and close the deal. Whether you end up on the buy or sell side, I hope this gives other entrepreneurs some insight into how acquisitions work.
How Do You Buy a Business?
Working around startups for many years, I had exposure to acquisitions, private equity, and search funds. While I knew that buying a company was possible, I had no idea what the process would really look like.
So, I started talking to people who had done it before. I went to the Entrepreneurship Through Acquisition Conference here in Chicago, and started contacting people in my network who had bought companies before.
After a few weeks of exploring the idea, I brought it up to my friend and content collaborator, Manuel Weiss. He and I had been talking about starting another company together, so as soon as I laid out the vision, Manuel was in.
Here’s how we approached the process:
1. Setting Out Criteria
First, we set up a rubric (you can download a copy here). In it, we laid out the things we had to see and the things that would just be nice to have.
Our essential criteria included:
- Niche - Offers a single service to a single type of client with a well-defined ICP (ideal client profile).
- Full-time/Freelance Employee Ratio - <25% of personnel is full-time, e.g., 2 founders assisted by 8 freelancers.
- Branding - Brand awareness within their niche. Following on social, email, search, etc. with a good domain name.
- Market Growth - High growth-rate market (>10%), ideally having lots of demand and low supply with lots of fragmentation.
- Recurring Revenue - Majority of revenue is recurring or reocurring.
- Client Concentration - Low concentration, no more than 10% revenue per client.
And we labeled the following criteria as “fixable,” meaning that we’d be willing to buy a company that wasn’t as strong in these areas:
- Sales Channels/Pipeline - Deals come in based on company reputation instead of founder reputation.
- Founder Involvement - Founder no longer involved in production and ideally sales.
- Processes - Documentation, automation, and redundancy in processes.
- Cash Cycle - Positive cashflow cycle. Clients pay before work starts.
- Cross-Selling Opportunity - Can we cross-sell this service to Draft.dev’s existing clients? Or others in our network?
Finally, we had some financial criteria that would help frame our decision:
- $500k-$2mm in revenue - Any smaller, and it’s nearly impossible to seperate the founder and anything bigger means we’d have to take on external investors.
- $2mm max purchase price - Again, we wanted to avoid external investors and we knew we’d have to put at least 10% down on a loan. So, this put a pretty low cap on the size of company we could buy, but constraints are good.
- Profitable after founder receives market rate salary - A lot of entrepreneurs hide losses by underpaying themselves.
- 3+ years of accounting history - We didn’t want to see a rocket ship that just launched. We wanted to see a steady, predictable, profitable business.
While this list of criteria may seem extremely specific, most of these criteria are subjective and require at least one meeting to determine. So, we decided to get even more specific.
We asked ourselves:
What service do we think there will be more demand for in 10 years than there is today?
That led us to podcasting. While podcasting has gotten more popular since the pandemic, businesses are still underutilizing it as a marketing channel, and the industry still feels like it’s in its infancy.
Plus, we both like podcasts. While many business buyers just look at the financial potential of an acquisition, we were both going to have to roll up our sleeves and operate it, so we knew we wanted to pick something we liked.
2. Building a Pipeline
Armed with very narrow criteria, we started building a pipeline. We Googled around, used Linkedin Sales Navigator, and talked to industry experts. Over the summer of 2022, we considered over 200 podcast production agencies and spoke to at least 40.
We decided not to opt for using a broker, because they rarely work on deals as small as ours and they muddy the waters. Brokers have an incentive to close, whether the deal is good or not, and we didn’t want to have any reservations from us or the seller.
3. Narrowing the Field
At first, I tried cryptic messages or even booking sales calls to get on a call with founders. I quickly realized this was a huge waste of time, and eventually started making my very first message a straightforward explanation of what I was looking for.
It helped that I had an existing business, so I could talk founder-to-founder with other owners. Here’s an example of a message I sent that got a positive reply:
Do you by chance have any interest in selling [COMPANY NAME] at any point?
I run a niche content marketing agency (Draft.dev) and am looking to expand our offering by buying and integrating a podcast production/editing business.
Just thought I’d run it by you since I’ve seen [COMPANY NAME] pop up a few times.
Let me know if you’d like to hop on a call, thanks!
Linkedin messages like this along with a connection request gave me a really high response rate (close to 50%), so then the challenge was sorting out the companies that were either too small or too big. While Linkedin may have employee counts and revenue estimates, they’re not very accurate, so I usually had to confirm on our first call.
In addition to being clear about our intentions, I found it was very helpful to be clear about the way we’d value their business.
After talking to many brokers and sellers in digital marketing services, we found that acquisition offers for companies like the one we wanted typically went out at 2-4x SDE (Seller’s Discretionary Earnings). We decided that at the size and criteria we had, we’d be willing to offer 3x SDE.
This math also ensures that we have enough cashflow to cover our loan and the seller’s note (more on financing the deal later).
As you might expect, sellers often had an inflated sense of their company’s value, but we were able to send them plenty of resources that backed up our offer. Ultimately, we wanted to be very transparent about how much they’d get for their company because we wanted them to be just as excited about the number as we were.
5. LOI (Letter of Intent)
After having several calls per week all summer, we eventually found three or four companies that met our criteria and had interested founders. We worked on them all for a bit before one founder backed out and then we picked our favorite.
The next step was to sign an LOI (Letter of Intent), which is a non-binding agreement to enter an exclusive due diligence period with the seller and hopefully acquire the business.
LOIs are pretty standard and you don’t need to have all the terms of the sale finalized at this point. You just need to have the high-level intent defined - how much you intend to pay and whether some or all of that will be paid immediately or over time.
We signed the LOI with the seller in October, 2022, hoping to be done with the purchase by early January, but as you might guess (it’s April now), it took quite a bit longer than we expected. More coming on why that happened.
After locking in the high-level terms of the deal and signing an LOI, we created a diligence checklist. While our lawyers and accountants all had suggestions, we found that no single source had a perfect diligence checklist for our specific situation.
So, we found several diligence checklists online and asked our networks to put something together that worked for us. You can contact me if you want the entire list, but it basically covered X areas:
- Financial - Obviously, we wanted to look at the books from the past 3 years, but we also wanted to verify the numbers via bank accounts and invoices.
- Legal - We looked at the customer and employee contracts to decide if there was any risk there.
- Personnel - The seller gave us the org chart and details on all the key people.
- Customers - We spoke to several customers (without telling them we were buying the business) and got a complete list of customers from the seller.
- Operations - We reviewed the company’s key workflows and practices around billing and controls.
After we reviewed all the numbers, we sent the books off to our accountants and some of the contracts to our lawyer to review. To be honest, none of it was surprising. While it’s definitely worth doing due diligence, we knew the deal would hinge more on trust than minutae.
This might be unique to our situation, but the hardest part of this process was deciding which revenue and expenses were actually relevant to our acquisition.
The seller had recently set up a new line of business that he ultimately divulged himself of, and we had no intent of starting back up. So, we wanted to discount its revenue and expenses, but the lines were pretty blurry.
The seller also payed for several domain names and software licenses that the business didn’t really need, so while these weren’t huge expenses, we did add some back.
Fortunately, the seller wasn’t comingling big personal expenses (travel, cars, property, etc.) with his business. Our modifications were relatively minor and only affected the business valuation by a few thousand dollars.
Note: This is not financial advice and I am in no way qualified to advise you on loans or financing a business. It’s just my story and how I decided to use debt as a tool.
There are lots of ways to finance the acquisition of a small business. Some options we considered include:
- Raise equity from friends/investors, which would dilute our ownership, but allow us to pool more money than we had on our own.
- Offer to pay the seller out over time (often called a “seller’s note”), and common in service businesses, but not very attractive to sellers.
- Take out a bank loan to pay the seller without diluting our ownership.
Enter the SBA 7(a) Loan
In the USA, bank loans for acquiring a small business are made more attractive by the SBA 7(a) program. Because this business has no physical collateral, a bank would typically not want to make a loan like ours, but the SBA gives them a way to justify it as the SBA backs the loan. We get to take the loan out on a 10-year term, which means the cashflow from the business will be enough to cover the loan payments until they’re all finished.
That said, these loans are risky. We had to put up personal guarantees and a guarantee on my other business. So, if we fail to pay the loan, we’ll be on the hook for it using our personal assets.
After some research, we ended up using the following financing structure:
- We paid 10% of the purchase price in cash at signing.
- The SBA-backed loan covered 75% of the purchase price and gave us some working capital and a line of credit.
- We will pay 15% as a seller’s note over 5 years at a locked in interest rate.
Paying the Seller
We wanted to be able to pay the seller as much up-front as possible to make the deal more attractive, but we also wanted to hold some of the payment back for a few months to ensure he facilitated a smooth handoff.
So, we structured payments to the seller as such:
- 50% up-front at signing
- 35% to be held in escrow for 6 months and contingent upon his fulfillment of a part-time employment contract with us
- 15% paid over 5 years via the above mentioned seller’s note
This might sound complicated, but it’s a pretty standard structure. If you want to learn more about this topic, I’d recommend Buy Then Build by Walker Deibel. Some of the statistics and specifics are outdated, but at a high level, his advice on deal structures is still relevant.
Securing the Bank Loan
Once we had the high-level structure of the deal solidified, we approached our chosen bank with the deal. We picked one of the biggest SBA lenders because they had a great reputation and we knew they did a lot of search fund acquisition work.
That said, we quickly learned that you can’t count on your bank to drive the process.
We had to submit the same documents multiple times because our banker couldn’t find them after we submitted, and then by the time she submitted them, we had to go back to the seller to collect more recent financial statements. This happened multiple times, delaying our loan processing by over two months!
Later, we asked our bank contact a specific question about the terms, but we later found out their answer was incorrect. Because of their error, we had to go back to the seller and change the final terms of the deal just one week before closing. Obviously, I was afraid of how this would affect our trust with the seller, but we were able to smooth it over fairly well.
And finally, the bank’s lawyers and credit arm had to review all our contracts every time their was a change. In the last month, the back-and-forth between lawyers (seller’s, buyer’s, bank’s, and escrow service’s) was excrutiating.
If I could do this over again, I might use another lender or at least push them more on their answers and timeline. All-in-all, the bank took over 4 months to approve and close our loan despite the fact that we had every document they asked for back to them in 1-3 days.
In hindsight, I realize that banks’ incentives aren’t aligned with ours. While we see buying a business as opportunity, they see it as risk, so they’re constantly trying to wait out the deal or find any reason to shut it down. This was probably the most annoying part of doing this deal.
Eventually, we reached signing day. The bank wanted my partner and I to be in the same place and because Manuel was in Boulder, CO for a consulting trip, I decided to fly out there for a few days.
Our purchase agreement was actually signed virtually, but the loan documents had to be signed in-person with a notary present. We had over 200 pages of loan docs to sign, but we had read most of them ahead of time, so it just took a couple of hours.
Meanwhile, the lending bank wired funds to the escrow account, the seller’s account, and the working capital that came with the loan to our account. This all went off without a hitch, so there’s not much to say here other than, I did take some time to celebrate.
This brings us to today, where we’re currently two and a half weeks into the handoff. Things are going smoothly so far, and while there are lots of long-term opportunities to improve and grow the business, our primary focus has been learning.
My partner and I read The First 90 Days as we were finishing up the deal, and one of my important takeaways was that it’s tempting to go in and quickly start fiddling with things. But, we didn’t buy a distressed business that needs major changes, so we’ve had to intentionally hold off on making big changes in favor of building trust with the team and learning.
I’m really excited about the year ahead as I’m sure it will provide many more chances to learn and grow as a leader. If you’re interested in following along, you can subscribe to my newsletter or follow me on Twitter.