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When To Think About The Seller’s Point of View

By Quiet Light
| Reading Time: 3 minutes

It never ceases to amaze me how often I’ll speak to a buyer who will go through a 10 minute explanation about how he/she arrived at a valuation for a listing, but how that person often doesn’t consider the seller’s point of view.

Example:  Suppose there’s a listing that generates $300k/year in cash flow for the owner.  The owner works 30 – 40 hours/week and the business has been consistent for five years.  It’s not unusual to hear buyers say that they discount the $300k/year for this reason or that reason, that they expect the seller to carry a note for half the purchase price for three years and that overall they value the business at 2x earnings, or $600k.  That’s well and good for the buyer, but would any rational seller consider such an offer?

How Would a Seller View Such a Deal

Let’s take a minute and figure out how the seller would likely view such a deal.  If he holds the business and maintains it, he’ll earn $300k/year.  In the first year, he’ll earn the total amount of cash being offered to him, or $300k.  In the next year he’ll earn the total value of the note.  (Instead of waiting 3 years for payout.)  Finally, at the end of these two years, he’ll still own 100% of the business, and will still be able to get some cash value for it, rather than owning none of it.  When looking through the eyes of the seller, he’d be an idiot to take such an offer unless he’s either highly motivated (due to a family situation, need for capital for another project or utter and complete burn out) or if the business is in serious decline.

From the buyer’s point of view, he’s essentially trying to get a 67% cash on cash return on investment per year for the first three years, then 100% thereafter.  (For the first three years he’ll earn back $200k/$300k = 67% which represents the cash flow less the loan payments.  Thereafter he’ll earn $300k per year which represents 100% on his initial $300k cash investment.)

The Actual Payout

I plugged these numbers into the compound return calculator and found that earning a 66% return on $300k for 5 years  (there was no option for 67% return) in a taxable account with combined 34% annual federal / state tax bill would leave the buyer with $2,500,000 after five years assuming he reinvested the profits at the same rate.  So do you think it’s realistic and plausible that you can earn eight times your money every five years?  If so, give me a call because I’ll invest all my cash with you.  For most of us mortals, however, this is a pipe dream and in no way realistic.  Sellers are not stupid.  They’re not going to hand you such a goldmine unless you’re willing to pay a fair price.

I freely acknowledge that my scenario leaves a lot out of the typical buyer equation.  Buyers need to consider:

  • Any work needed for the website.
  • Whether the earnings will continue in the future as they have in the past.
  • The tax consequences of any money they invest.

Regarding #1, usually buyers tend to overestimate this in my experience.  They look at a site and decide it needs a $40k overhaul, but completely neglect to notice that it’s current earnings are derived from the current (ugly) website.

Regarding #2, this is a real concern and all buyers should consider it, but remember, the multiples of today’s listings already factor in the fact that these are risky investments.  That’s why they typically sell for 2x – 3x in cash at closing.

Regarding #3, I find buyers usually place too much emphasis on this.  If I could get a consistent 20% or 30% annual return, I wouldn’t care if I’m paying ordinary income tax rates vs. capital gains rates.

So before getting too creative with an offer, please stop and consider whether you would even consider your offer if you were the seller.  When looking at my stats, 75% of the deals I’ve closed were 100% cash at closing.  The other 25% usually had relatively small amounts of seller carry.  If you want to get a deal done, cash is king to a seller.

4 replies on “When To Think About The Seller’s Point of View”

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  • If I am getting ready to write a check for tens or hundreds of thousands of dollars, my job is not to ponder the seller’s point of view.

    My job is to decide how much of my cash I am willing to put at risk for this business and to structure a deal that will work for me. I also have to consider if I plan on working in the business like the previous owner did or if I plan on hiring a manager.

    Your job as the middle man between buyer and seller is to present it to the seller and help them understand the offer. Hopefully as the mediator you can help the seller present a counter offer without letting their emotions take over.

    If buyer and seller can’t find a common ground, then that is okay.

    As a broker, you are perpetually stuck between two opposing points of view, I don’t think that will change.

    1. Obviously your first goal in an acquisition is to arrive at a structure that works for you. Buyers to acquire web businesses out of a sense of charity for the sellers – you are buying for ROI.

      However, there are often multiple ways that you can structure a deal that manages to satisfy your goals and also the goals of the seller. In my experience, buyers who pay attention to the goals of a seller are highly effective at structuring great deals.

      Obviously much of the job here falls on the broker to communicate to both camps the needs of each respective party. Like you said, if there isn’t common ground, then that is OK.

    2. The primary point I’ll make is that much of the buyer’s negotiating work is done before a listing ever gets to market. Many would-be sellers (most?) scoff when they first learn that the market rates on established, good quality websites is only 2x – 3x their discretionary earnings. The ones that get to market have usually accepted that reality but are already not very excited about it.

  • I often tell buyers to make an offer that works for them – first and foremost. My job is to present it to the seller and try to make it work, or at least get a counter offer to get the discussions/negotiations moving forward.

    As a buyer you’ve worked hard to get to the point where you have enough money to make a large financial investment – and if it fails you may never have a second chance…so you want to get it right the first time.

    Ultimately the goals of both parties do matter though. Some businesses can be negotiated and bought without a concern for the seller and his or her point of view. And that’s normally a business at risk and the investment a risky one. The multiple is likely very low.

    If the business is solid with lots of upside opportunities and little risk, you may not, as a buyer get everything you want. And considering the seller’s point of view could absolutely help you achieve your goal of buying a solid business with lots of upside and low risk.

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