Show notes
For decades, Harvard's MBA program has been primarily focused on the traditional model of entrepreneurship. In the past 6 years an elective course on the acquisition of established businesses has been attracting as many as 30% of the program's candidates. We had the pleasure of sitting down with Royce Yudkoff, who teaches the course "Entrepreneurship For Acquisition" at Harvard Business School's MBA program. Here at Quiet Light we've also had the honor of collaborating on the course for the past 5 years. Today, we delve into the details of how Harvard is sending experienced professionals out into the business acquisition marketplace with hands-on experience that is invaluable to their success. The trend toward real-life marketplace experience as a replacement for textbooks has taken hold in Harvard's MBA program. These case-study and field guide learning modules are teaching candidates the key ways to enter and be successful in the acquisition arena. The course Royce teaches alongside Professor Richard Ruback is focused on how to screen potential acquisition targets, do the financing, negotiate the typical deal terms, and do due diligence when buying a small business. Episode Highlights: Harvard MBAs are on average 28-35 years old so all they come into the program with professional experience. The course works with real life companies and case studies so students learn about how companies succeed in buying existing businesses. The course follows the entire arc of buying a small business from the search, to the financing, through due diligence, and up to the transition of ownership. The participants are learning how weaving good business practices from the very start of the process leads to better chances of ROI and growth. Royce explains how the candidates are taught the best financial practices for buying for a business, whether through traditional bank or private equity investment. The course follows students through the program and beyond by performing surveys and gathering statistics on success rates for those who go on to acquire companies. Royce shares the single most common contributor to the success and non-success in the search and acquisition process and what he advises all buyers to look for in a potentially successful business. Transcription: Mark: Joe did you know that a dream of mine that has gone unfulfilled in my life was to attend the Harvard Business School? Joe: I didn't know that knowing that your nickname was slacker in college I would think that'd be the last dream you could ever have. Mark: Well, we technically changed my name my last year mainly because I had a t-shirt that said slacker on it. And it made a terrible first impression when you walked in the class the first day the professor sees that. You get targeted pretty quickly. Joe: You know we did a tour of Stanford last summer because I have teenage boys. We happen to be there, my kids probably won't get in; I understand 3% do. And when I graduated from college, I went to Northeastern University in Boston, when I was done I was done. I never wanted to go back to college. Touring a campus like Stanford or I imagine Harvard just at any age would make you want to go back. Mark: Yeah it's a fantastic school. I love their MBA Program there because they do things a little bit different. It's not textbook based, it's case study based. So a Harvard MBA student, when they attend that school first of all the school pretty much requires that you have real world experience. Not 100% but it's really hard to get in if you don't have any real world experience. They want people who have been out there in the field doing stuff. And the entire class structure itself is also based around case studies. So you end up with a group of people that you do these case studies with and you study real life, real business scenarios and go about how … figure out how to address those real world scenarios. It's a way of trying to replicate some of the things that they're going to actually experience when they leave Harvard Business School. So yeah a few years after I graduated college and had a job and I thought well it would be a lot of fun to attend that. I really liked the idea of it but life got in the way. Bad grades got in the way and it never was something that I actually was able to pursue. I went so far as taking a GMAT but I never actually applied. But I bring this up because for as you know for the past five years we've been working with Harvard at Quiet Light Brokerage. They have done what a lot of people that listen to this podcast know, they have really started to turn their focus towards entrepreneurship acquisition or acquisitions and entrepreneurship and the combination. And they have a whole course that they teach on it; how to build … sorry how to buy a small business and lead an entrepreneurial life through acquisitions. And for those five years, we've actually been working with them, they approached us to see if we could support their class with some supportive materials and me being the closet Harvard fan boy that I am was like absolutely that sounds really cool. Joe: Excellent, excellent. Well, I'm excited to listen to this podcast. I know that they did some studies that show the people that go through this course and the success rate that they have. And it's really more about buying versus building which is a little follow up from almost with the podcast with Walker that you had so I'm excited hear it. Mark: Yeah absolutely so there are some statistics in here, people ask us this all the time you know what percentage of buyers are successful. Well, Harvard is actually tracking that. They're taking a look at the kids who go through the courses … and I shouldn't say kids these guys are 30 years old with tons of experience. But they're looking at people who go through the courses doing acquisition and they're tracking to see how they're successful. Also in this episode, we talk about what they're teaching on the course, what they're guiding their students as far as how large of acquisitions they should be making, how to do the financing on these large acquisitions. So it's really a chock full of a lot of information that's been taught at the highest levels at one of the leading institutions in the world. Joe: And all of it hopefully and an awful lot of it can be applied to the businesses that we're listing. Because I'm going to just throw some numbers out there for those that haven't been to the website recently, we've got listings of really all shapes and sizes. But we've got a couple up there in that I think minus under LOI just under nine million dollars. Brian's got one at twice that amount. And then, of course, anything from a couple hundred thousand dollars up to that 80 million dollar range. So these larger listings that take more funding from Venture Cap money or from a larger SBA loan are really becoming more prevalent. So I think everything that these guys talk about and the book that they published as well can be very helpful to the audience here today. Mark: Absolutely let's get on to it. Mark: All right Royce, how are you? Royce: I'm great it's a pleasure to be with you today Mark. Thank you for organizing this. Mark: Oh my pleasure. I'm so glad to be able to actually finally talk to you and see you in person as well. We've been working together I guess sort of indirectly now for what four or five years? Royce: Exactly and you've been a big help to our course in Harvard Business School so we're very appreciative. I should start with a big thank you. Mark: Well it was always my dream when I was in college and then shortly after college to get my MBA at Harvard. I started looking at the GMAT and I took PEP courses for that and then life happened. And I never got around to actually doing it. I actually talked to a Harvard recruiter at one point, sat down with them and was going through that but then it never did happen. So the fact that I actually get to participate in you guys program is kind of like a dream of mine come true that I get to actually work with you guys at least indirectly if not directly as well now. All right so the Harvard Program, how long have you guys had this Entrepreneurship Through Acquisition Program? Royce: That program is now in its 6th year Mark, and for decades Harvard has had a large program teaching people about traditional entrepreneurship; what I refer to as rubbing two sticks together and make fire, meeting … going into startups. But about half a dozen years ago we started teaching about the idea of buying an established profitable company usually from a retiring founder and the idea has really created a lot of excitement at Harvard. About 30% of all of our MBA students take these courses to try if this is a potential career and learn about it; which makes us probably the largest elective course on campus. Mark: Wow, that's fantastic. Now you do this and one other professor Richard … is it Ruback? Royce: Yes Richard Ruback. So Rick and I created a course and we co-teach it and it's really become our … the center of our professional activity. Including following our students closely who go down this path. We stay very connected to them after they graduate from the program. Mark: Yeah I know that's great. So I want to make just one point about Harvard's MBA Program and again I know this because I looked at potentially participating in this program but you guys are a little bit different than other MBA programs in the way that you set up your courses right? That it's a lot of this case study sort of approach to everything is that right? Royce: I think the two differences in our programs from what most people think of as MBA is this first exactly what you said which is we do not lecture, we do not have textbooks. The whole two year program is set up around cases which are sort of short nonfiction business stories. And the discussion the faculty elicits about the decisions they require to be made. And the second difference is our students typically come to us at about age 28 and graduate at age 30. So they have six or seven years of mid-level, junior level, executive experience before coming into the classroom. So they're not kids; they're young professionals by the time they leave. Those are the two distinctions I highlight about HBS. Mark: Yeah and one of the things I love about that … so one of the knocks against university especially among the entrepreneurial community is that a lot of entrepreneurs see university degrees and MBA degrees as being almost wasted money right? Because a lot of them have become successful. But what I love about you guys program is the fact that you do require that experience is not textbook learning, its actual looking case studies. Delving in deep into these actual cases and amplifying a real world experience in the classroom setting. Royce: Yeah you're exactly right. That's the purpose of the case studies. In addition, the faculty is routinely engaged in a commercial world too and thus expecting to bring that into the classroom. And we also utilize experts like yourself Mark, and bring in work done by experts or even experts as guests into the classroom. So we try to stay very engaged with the practical commercial world. Mark: That's great. That's absolutely great. I absolutely love that. Now you guys have also … you and Rick have also put together a book. And for those watching at YouTube at … this is the book here, HBR Guide to Buying a Small Business. And you put this out two years ago is that right? Royce: Yes we'd put it out two years ago and it's been very satisfying. Our goal was to produce a very practical handbook that walks people through each step in buying a smaller firm and to try and reach beyond campus to the thousands of people who are thinking about it or wanting to do it and give them something that's just immensely practical and we've been very gratified. I think almost everyone who goes down this path ends up reading this book and we get lots of comments that it's been helpful. Mark: That's a really good book. I mean I've thumbed through it before and you know I've learned a lot in this industry by doing and that has its learning curve. Frankly, a book like this to start out would have been really really useful in shortening that learning curve. So it was a really good book and I assume that you can get this on the HBR website correct? Royce: The HBR website and even more conveniently on Amazon, so it's just an easy thing to buy and a kind of quick easy read as well. Mark: It is a quick easy read. There's large margins in there as well so that people can take notes alongside it; which is super super helpful. So all of you out there that are readers and soak up as much information add this one to your list; for sure it's definitely one to add. You're getting some good information here. All right so let's do this, let's get into some of the material that you guys actually teach in the Entrepreneurship Through Acquisition Course. What is the format and what is the structure or maybe what is the syllabus that you would look at for a typical is it on a semester basis or is it a full year? Royce: Yes it's a full year course and we start with an overview of the small firms market. Sort of what are some of the management issues in running a small firm, how do you buy small firms. And we let people sort of figure out whether this is of interest to them generally. And then the course gets really really practical. We kind of follow each step in a small firm acquisition beginning with how do you source opportunities, how do you evaluate them, how do you do due diligence, how do you finance them, and how do you negotiate the legal documents and then we move them to sort of a transition because almost always after a firm is sold the seller stays on for a while at least part time teaching the new owner the ropes. And that is somewhere between three months and 12 months part time for the seller but it's a key part of making these purchases successful. So that's how we [inaudible 00:11:59.1] we like to say we're following the arc of the small firm acquisition. Mark: Now the arc is something that our listeners are probably very familiar with. It's something that we have laid out on our site as well. I want to ask a broader question with the popularity of your course. When people think about Harvard Business School I think a lot of them think about graduates going into large financial firms you know working in Boston, working in New York, and really kind of working with a Fortune 500's out there. Do you see a lot of your students now pursuing this more entrepreneurial path? Royce: Yes I do and it's a great comment you made because I do think Harvard is viewed that way. And one of the reasons this program is important is it's highlighting the fact that the business school makes a difference in ways that help ordinary Americans. In other words we send our well trained, smart, energetic graduates into cities all across the country and they create jobs for regular people that make their lives better. I'll give you a quick example, one of our students … and this is very representative is a woman named Jennifer Rouse. She spent about five or six years as an engineer at a couple of leading manufacturing companies in the Midwest. Came to HBS to be trained as a general manager. Fell in love with the idea of running her own company. Instead of getting a job out of HBS she searched and bought a revenue cycle management company in the Pacific Northwest that essentially handles the billing for municipal ambulance services to insurance companies; very specialized complicated set of procedures. And she's grown the business from about 40 employees to 70 employees over the three years she's owned it. So it's been an enormously gratifying experience for her and profitable one. It allowed an entrepreneur who wanted to retire to get his just reward and take cash out of the company. But it's also created a lot of good paying jobs in that mid-sized city. So kind of all the way around it's exactly what our business school ought to be doing, we think. And that's what we're trying to do in this program. Mark: You know one thing I think that people don't understand about our industry and when I talk to them for the first time, they often ask "Who buys an online business?" And one thing I've found is the synergy that exists between the bootstrappers and the startups, these guys that are really really good at the hustle and they can create something amazing out of practically nothing. And then they grow up to a certain size where it now needs management and now needs … it kind of enters into that phase two and a lot of these entrepreneurs don't want to do that because they don't want to be managers. They don't want to do that additional growth step of now managing lots of people. Royce: Yeah and I think that's exactly right. These businesses reach transition point where once they needed someone who is not only energetic and smart but knew service they were providing incredibly well and 15 or 20 years later it's more about a trained manager who's got a certain managerial skills. I'll also add to your comment that there's a life cycle to entrepreneurship. You know the 60 year old entrepreneur who's made a lot of money in their smaller firm quite likely might not want to work as hard as they did when they're 30 years old. And that's a very sensible decision that the business may have a lot more potential in it in the hands of a 30 or 35 year old who's willing to put in those 60 and 70 hour weeks. And that's another transition that makes sense for everybody. Mark: Sure. I remember one client that I worked with. He had … he was selling … well just say durable goods, I won't go into exactly what he was selling, but he was sourcing all the inventory putting it in to a secondary garage and fulfilling all the orders on his own. I mean he was working 45 hours a week and have really maxed out and I asked him I said "Why are you selling them?" because business is growing, it's growing rapidly. Why not hire on some people and kind of expand to an actual warehouse. And his answer was probably the simplest most logical answer I've ever heard it was because I don't want to. Yeah, I don't want to manage people. I like doing this on my own but that's the obvious next step. Royce: Yes. Yeah, exactly and it's a very human thing and the right answer is to put the business in the hands of someone who's going maximize it. I think conversely from the perspective of a young entrepreneur through acquisition, I see this opportunity as so much lower risk than starting a company from scratch. Because you're buying an established proven profitable business with a business model that really works and an owner who will sort of do an orderly transition with you. So it's a way to express entrepreneurial desire without taking the enormous risks of a startup or having to have some idea. Mark: Right you're absolutely … and I think this is something we talked about in a recent podcast and that is the difference between buying versus building a business and how you can get that leg up and get that initial startup so much faster. There's much less friction in working with something that's already established like that. So let's do this, let's follow the arc of the deal that you had talked about a little bit earlier and let's give the listeners here and the few viewers just a little flavor as to what this arc looks like. And maybe some of the things that you guys teach in the course as well. Let's start with this how do you source your deals? This is a problem for so many buyers out there. I've talked to some buyers that are looking for a year and a half, two years for a good business. And the good ones frankly I know from experience when we put something out that's good we're going to get a lot of intent on that within four or five days and so it can be really tough. So what do you guys teach as far as sourcing deals and some of the tips that you would offer there? Royce: You're exactly right. You know sourcing is immensely difficult in a small firm space. First of all, there are two paths people go down. One, which we certainly recommend is dealing with the intermediary professionals in the small firm space. As you know there are hundreds and hundreds of these across North America. And you're required to just do an enormous amount of outreach because unlike say with real estate where there are multiple listing services, confidentiality is extremely important to these owners of smaller firms. And so you only get to see these firms by establishing relationships with reputable intermediaries. So it's a great deal of work to establish that kind of dialogue. And then on top of that, once you have done that, the majority of businesses that are for sale are not high quality businesses. They're average at best and a few of them are really good businesses. So it's an enormous outreach and sourcing process that frankly takes from the time someone starts sourcing to the time they close the average time is about 18 months to find a good quality business negotiate diligence it and close that. So … and that's 18 months of full time work. Probably the question I get asked most often by aspiring entrepreneurs through acquisition is "Is this something I can do part time?" because it would be so great to do it part time right? You could keep a full time job, earn income, and you imagine you might be able to do it next on weekends like rebuilding an old car or refinishing a basement. But the truth is I've never seen anyone do this part time. It is for everyone who goes down this road it is a demanding full time job to source, evaluate, diligence, negotiate and it takes an average of 18 months. So it's hard. Mark: What are some ways in your opinion that people can speed that up if they're really anxious to get going? Like their working a corporate job right now and they want to get out of that corporate job. Do you have any tips on how they can speed that up? Royce: Yes we see that a lot of people that have worked in a corporate job they just find it unsatisfying and they want the professional independence that comes with this kind of entrepreneurship. You know it's hard to make this go faster. I've seen people close quickly because we've seen scores and scores of people do this, I've seen people buy businesses in as little as five or six months. But I have to say my conclusion after years of doing this is that those are just flukes; that in the same way that the person struggles on for two years is a fluke. That you get some outliers but it's just really hard to make the process go faster. And one reason for that is out of those 18 months probably the last four months are spent in that deal you'll close on. You know doing that signing the LOI, diligence, financing, closing. So really you're talking about a little over a year of searching before you finally get to that deal that makes. I wish I could hurry up this process. But it's one of the reasons that I suppose this space hasn't been beat up or overcrowded is that someone has to really want this. Mark: Sure and I think that's really good advice. You're right there's some luck of the draw right? There's just some pure luck on the draw. I talked to one person years ago I was … when we first tried to do the podcast and it didn't really work, but I talked to one buyer who said that he was ready for that sort of 18 month time period and within two months something just spread across his desk and it was perfect. But he didn't have a financing lined up for it and so he had to let it go. But it was that luck of the draw. It came to him perfectly; right away if he was ready he would have been able to move on it. That actually leads well to my next question which is financing. What are you guys advising your students and what are you seeing them actually do in terms of financing some of these deals? Royce: Yeah so the typical acquisition is financed with about two thirds debt and one third equity. And let me deal with each of those. On the debt side in the small firms marketplace, it is almost universal for the sellers to take back some amount of seller paper usually 20 to 25% of the purchase price is taken back in what's on average at four, five year subordinated note. There are few exceptions to this but it's a very large percentage of the transactions. And about 45% on average of the transaction is funded by a senior bank loan. And this comes in two flavors; one, is just a regular way, a commercial bank loan will typically finance a little under half of the deal and it will be repaid over five to seven years usually from a local or regional bank. The first candidate being a bank the company has an existing relationship with. The second path is the Small Business Administration has a terrific program called the 7(a) Program. I'm sure you're familiar with this. It's administered through banks. Most of the banks that lend commercial loans also will do a 7(a) guaranteed loan. It is a wonderful loan product because they will lend against businesses that have no tangible assets; service businesses that just have cash flow. They lend up to 80% of the business. They lend over 10 years. There are no covenants. It's a very very attractive loan with a single exception that you are required to sign a personal guarantee on it. So it's something for very thoughtful consideration by the entrepreneur. But those are the two sources of debt. And as I said with the salary debt they cover the two thirds of the purchase price. One third is usually raised from friends and family. And most common is that these prospective entrepreneurs will go around and raise money in $100,000 here or $200,000 here from anywhere from six to 15 individuals and they will cut a deal to divide the prospective profits between their investor group and themselves. Because this typical small business that we see … when we talk about a small business we're talking about a company with one to two million dollars of EBITDA that might sell for five times EBITDA or 10 million dollars of which three million dollars might be equity. And so it's not that difficult to raise that amount of equity by passing the hat. Mark: I think one thing that a lot of our buyers that come into us feel is that they can't reach that level of a transaction right? They can't reach that 10 million dollar acquisition and so they start out a lot with these $200,000 or $300,000 businesses and then they find that they've effectively buying that job. So it seems like you guys are really pushing a lot of your students to think a little bit bigger than that and do … in buying a business as well. Royce: Yeah I think that's exactly right. You know I think they are … when you get to a very small business and you are the entrepreneur you're showing up every day to process out that day's work and that's that $200,000 EBIDTA business. You know when the business gets to be a million dollars you usually have some department heads who report up to you and you're coming in thinking about the week's objectives or maybe the month's objectives. And then when you get up to a business with say two million dollars in EBIDTA, you're really managing a little further it than that. So the jobs are very different along the way and so with that we tend to point our potential entrepreneurs towards the larger end of that spectrum. But entrepreneurship can surely be expressed anywhere along the spectrum. Mark: Yeah, I think a big phrase that we hear all the time in our space is work on your business rather than in your business. And it's a transition point for a lot of people. But it seems like you guys are really pushing people to start with a business that you would work on because some of that infrastructure is going to exist already. Royce: Yes I think that's right. That is our goal. We recognize that people have different resources including experience in managing and opportunity to access capital. Mark: Right. Do you have any tips for people that might be considering reaching out to friends and family? How do you get over some of the discomfort maybe with asking friends or family for investments? Royce: Yeah I get that question a lot so I do have some recommendations. I think the first recommendation is just a psychological one which is when you go to someone to ask them for an investment you really have to make yourself feel that you're not asking for a favor. It's not like you're asking for personal loan, your presenting an opportunity to that person. And it's one you believe in so sincerely that you're going to dedicate the next five or seven or eight years of your life to it. So it's very important to really be in that psychological headspace. My second recommendation is to actually start with the people who know you best. Because they're going to be really inclined if they respect you and like you to line up behind you and then it's going to make it easier to go to people who know you less well. My third recommendation is the time to approach people for investing is when you start your search; it's not when you find your company. Because what you want to do is collect a group of people who might be interested in investing and update them across the year or year and a half that you're searching. Because when you do this, it allows them to get to know you better. It shows them that you have lots of energy, it shows them your street smarts, you talk to them of that deals you looked at but ended up rejecting which gives them a sense of your high quality standards. So when you finally approach them with a deal in hand they've been expecting this and now you're making one sale, not two. You've sort of sold them on the idea that you're a hardworking and street smart entrepreneur who is being highly selective and now you're simply selling them on the merits of the business. So for that reason, it's tremendously important to approach them early and get them to follow you. It's also a much more comfortable discussion than showing up with a deal in hand because you're able to say look if you're sincerely interested in this I'll make the investment and inform you about my journey and you'll have plenty of time to decide. It takes a lot of pressure out of that discussion. When you approach the types of people I see are entrepreneurs approaching … and here you should think about people who are partners in law firms, entrepreneurs have their own small businesses, these people don't have … while they are wealthy people by normal standards they don't have the resources to invest in private equity funds. They can't just throw up a check for two million dollars or five million dollars that private equity fund would expect. So when you come to them with the opportunity to participate they would essentially as a private equity investment; it's very additive to them. It's not an opportunity they see every day to make the kind of returns you can make buying a private business. Mark: Yeah and I think … tons of really good information in there. You're right as far as that relationship is concerned when you're asking somebody for money, building that relationship over time makes that discussion a little bit easier and also gives you the flexibility. That example I brought up of the guy who started his search and didn't have his funding lined up in advance, he actually gave me that exact same point. He said had I been having these conversations with friends and family in advance I would have been able to do this deal very very quickly. But it was just way too much for him to try and call in together an investment group within a few weeks. These things don't happen in a week, they happen over months and even a year. Royce: Absolutely and as you know from your own professional experience in those last eight weeks before closing the entrepreneur is sort of fighting on multiple directions. He's dealing with a lender, he's dealing with lawyers on a purchase agreement, he's finishing his due diligence, he's dealing with investors; you just don't have time to sort of raise investment capital from scratch. Mark: That's great. All right let's talk a little bit about the transition stuff and then we're going to be rounding out as far as our time here is concerned. Now there's some stuff obviously that happens in between, we've talked about ways to search for a company and source those deals. It can take about 18 months on average depending on a little bit of the luck of the draw, talked a little bit about the finances and some of the vehicles there. So let's assume now that you find that business, you find a good opportunity, you've gone through negotiation. And I know there's a lot that we could talk about just through the negotiation stage but I want to talk a little bit about the transition period and plan. How important do you think it is to keep previous employees, previous key people, previous owners on staff and what other elements do you think are really really kind of you should almost always take these steps in a transition? Royce: The advice I give entrepreneurs through acquisition is twofold. First, the first and most important advice I give them is in your first six months don't make any important changes. You'll have lots and lots of decisions to make but if an important change is one that is expensive or hard to reverse hold off on that. Because you will be a different person at the end of six months than you are on the day you walk into that company. And if it's the kind of enduring profitable business we hope people will buy, it certainly can wait on these decisions. I also find that transition periods can be relatively short. Three to six months is usually all you need in a transition period with some occasional access to the seller after that. By the way, this is another reason why having a seller subordinated loan is important because you want the seller to be financially on side with you after the purchase. That that seller is going to introduce you to his or her important clients. They're going to make an endorsement of you as the person they're entrusting the business to. They're going to answer a lot of process and historical questions that in a small company aren't written down in any textbook. But for most of these businesses that transition can take place well over three to six months. And after all, you want to buy a business that is not so centered on the selling entrepreneur that transferring it isn't easy. In other words, if that transfer is really really really hard that might not be a business that you want to buy. So I think that's a consideration you want to have before you step in and commit to the business. But a three to six months transition I've seen works pretty well. By the way, it might be helpful as long as we're sort of at this point in the arc of buying a small business if I shared a little data we collected over the years of that success in this path. Mark: That was my next question, so perfect timing. Royce: Okay. Mark: Yes let's go there. Royce: Well we've had the chance to survey a fairly large number of entrepreneurs through acquisition and what we've found over that six years that we've been doing this is of the people who embark on a full time search to buy a company about 70 to 80% of them end up acquiring a company and closing on it and about 20 to 25% try it, give up, and go back and get jobs that are pretty much like the jobs that they had before they embarked on this path. Of course, they've spent a year or to a year and a half doing this and that hasn't been a profitable use of time except in terms of experience but they go back and get a job that tends to look like what they had three quarters of them end up closing on a company. And then we turn to the question of is this successful? It's harder to get that data because these are all private companies but over the years Rick and I have had the benefit of actually getting some very active investors in these type of small firms to share with us their financial history of all their investments. And we've collected about 60 different transactions made by a handful of professional investors and what we found is that approximately 80% of those are profitable and about 20% are unprofitable; which is a really high rate of investment success. I mean if you think of that investing in the stock market and do you get four out of five investments profitable, I mean that would be a tremendous bar of success to have. And of the investments that are made both winners and losers the average rate of return to the investors has been about 22% annually; which is also a very high return consistent with what you would expect in private equity investments. Very importantly these results don't tell any specific individual what their results are going to be. I mean you could find a company or not to find a company, you could be successful or not successful. But I think it suggests that the area is a reasonably fruitful area to try and achieve success in. That's what I take away from the data. Mark: That's really good and I get these questions all the time so I actually now have something to go back to people with. This is great. I am curious on the 20% that are not successful; do you guys have any data as to what's leaned to do at not being profitable? Royce: Yeah. Well, of course, there's always a huge element of chance as you and I have talked about earlier in this. But yes I think that there is a single most common contributor to success and non-success in the search. And that is when an entrepreneur through acquisition start searching on their very first day looking at their very first prospective deal they quite rightly set their standards unbelievably high. In other words, nothing would get them to buy the first company they see because they want to learn what's available in the market. And as they see more and more companies they gradually bring down their standards into what normal market is for a small company. In other words, they start to say okay I'm going to raise the price I offer into the range that companies transact that. I'm not going to require that this company be absolutely perfect. It's okay that it has some flaws like every company. And their quality standard gradually moves to market. How quickly they were able to learn what a small company really looks like determines how successful they're going to be. Some people never get there. Some people it takes a year to get there. Some people can do it in 60 to 90 days and they have a much better chance of buying a company in the time period. By the way Mark just as in the side the same thing is going on with sellers as I'm sure you'd recognize that person who owned a business for 30 years enters the market with a price expectation. It is well above market and as they get feedback from the market they're gradually bringing their expectations down to market or they're leaving the market. What you're looking for is the collision between those two forces entering the zone at the same time but that speed of learning is the difference between being highly likely to succeed entrepreneur through acquisition and not. Mark: A lot of the work that we do at Quiet Light Brokerage with sellers is that sphere of expectations in trying to bring them to that place. Or more importantly I guess advising them to only enter into the marketplace when their expectations have moved because it's got to happen, right? Royce: Exactly. And it's a delicate conversation as I'm sure you've experienced many times. Mark: It is you know we try to be very just blunt with people. My personal background is before I started Quiet Light Brokerage I got really good advice from an intermediary who told me to wait but then when I actually went to market with them they actually blew my expectations up higher and when I got those first offers and it's how people at the marketplace is brutally honest. You know I might be nice the marketplace isn't, they'd just be honest and blunt. And when I got those first few offers it was like a punch in the gut. Like wow okay I'm not even in the same neighborhood of what you guys are talking about. I want to leave with this question, if you were to be talking to a potential buyer and you were to give them one or two just solid pieces of advice and that's all you had time to be able give them because that's also all the time we have left, what would you tell them? Royce: I would tell them to look for an established, slow growing, slow changing company because for a first time entrepreneur having an enduringly profitable business is the most important thing. It will allow them to make the kind of mistakes a first time CEO makes and still be successful. Sometimes people are enamored by fast growth but fast growth means change, competition, new customers. So something that's established and slowing growing and proven is what they want to look for. And it's okay that it is in a quote boring type business, you'll find plenty of excitement as being a CEO. That would be my number one piece of advice to a potential buyer. Mark: Well I wish I had talked to you before I did my first acquisition. I think that would have been helpful. Royce: Yeah. Mark: Royce, thank you so much for coming on here. Again I've been completely enamored working with Harvard Business School over the past several years. I hope that we can continue to work with you guys and someday maybe if it works out for your guys you'd be able to come out there as well and I'll meet you guys in person so thank you so much. Royce: Thank you and we're very grateful for your participation. Links and Resources: Harvard MBA Program Entrepreneurship through Acquisition Course Royce's Book