I've got a buddy who owns an appliance repair business. He makes about $500k and wants to expand his geography. He's really good at service, super handy, and knows his way around all the appliances, but has very limited knowledge when it comes to banking and finance. My business partner and I want him to do a roll up. The appliance guy found a nearby target for acquisition.
We'd love to buy it. Was curious how some of you might structure a deal like this?
So, you want to do a rollup but you don’t know how to appropriately structure a deal?
I want to be a head chef of the best restaurant in my city, but if people can let me know how to cook in advance that would be great. Thanks guys!
Maybe I want to do a roll up, maybe I don’t.
The point is, I want to buy this 2nd location and I’m asking for some suggestions how to structure it. What we do from there on will determine how this 2nd location goes.
Following.
There are so many considerations to work through.
For starters, are you trying to integrate the new location or have it be standalone? What type of financing capacity do y’all have? Just because you may be able to pay all in equity doesn’t mean you should. How comfortable are y’all with more sophisticated structures? Just because you can do something complex doesn’t mean you want to deal with that hassle.
How are you going to address the inherent struggles with diligencing a small business? You can deal with that additional diligence risk through how you structure the transaction.
The point is, I can help give you ideas but I need to know a bit more about the parameters you are working with
All great questions. Here's a little bit of background about the appliance repair business (however, there's plenty I do not know): there's generally two types of ways you get customers. One way is that somebody finds you on google and gives you a call. The other common way is that these appliance warranty companies call you and feed you leads. Generally, when you buy an appliance, you are offered a warranty or sometimes you get a free one when you purchase a new product. This is where these leads come from. The guy I am partnering with potentially receives a ton of calls from these companies. In fact, they are begging him to open up new locations and service areas. I know what you're thinking - 'Why not just do that rather than purchase an existing business for X dollars?' This existing business is already known in the area, has employees, and high ratings on google. All the hard up front work is done. It is very difficult to train up a new employee, pay them more than they are really worth for x number of months while they are being trained, and hope they don't leave by the time they are actually able to bring in a profit.
So me and my business partner in real estate development are considering backing this guy. 80% LTV acquisition, and my partner and I are throwing in each the 10%. For round numbers, we'll call it a $1M purchase and we each put down $100k. He pays nothing out of pocket for the acquisition. We all own 33%. Stand alone business. When our $100k is refunded to both of us, my partner and will each own 25% and the appliance guy owns 50%. Seemed like a good deal for everyone involved, but I'm interested to hear your thoughts.
As far as due diligence is concerned, this might seem crazy to hear, but we're not super concerned about it. This is a small business, and things aren't perfect. Obviously we are going to look into financials, find out how his relationships are currently with vendors and make sure to the best of our ability that there aren't any existing lawsuits or anything like that. It will be an asset purchase. We generally know what kind of revenue we can and should be able to do generate per employee based on the business. Tap into our partners existing relationships with Appliance warranty companies to drive additional revenue.
I can't say that I've seen debt given at the 80% LTV amount on an operating company and didn't see that for a while in CRE without exorbitant interest rates attached to it.
- If the seller is looking to retire, maybe seller financing is an option to explore and giving the current owner an annuity to retire on is a feasible solution.
- In a slightly more creative solution, if the owner operates out of a shop and owns the land and building in a fee simple interest, you could do a sale leaseback on it and use the proceeds to fund the acquisition's purchase price and you would just back out the rent from that SLB out of the EBITDAR. There are plenty of REITs and REPEs that are always looking for attractive cap rates on SLBs.
- Potentially a line of credit from a commercial lender that could be for operational activities and growth capital. This is a pretty simple way to fund the acquisition, similar to just getting a mature debt piece to fund the acquisition of the asset itself like a PE firm.
- If the owner is looking to stay on as an operating partner, a piece of equity in the parent company and keeping his operating expertise in that market could be an option. If the company keeps rolling up or organically growing, that equity piece could be a high upside play for the seller and might allow you to get a more attractive valuation on the asset if you spin the right growth story and the value on their equity in a few years. Think of it like an all-stock purchase on a LMM private company.
- Mezz debt or pref equity can usually bridge an equity gap for a few years and can be paid off down the road assuming the additional tranches aren't too big and are able to be serviced.
Point is, there are a million ways for a deal to be capitalized and the only "right" way are the ones that fit your risk profile and still lead to the best returns. If you want to keep the business simple, then go with simpler financing solutions. If you're fine with a more complex structure that leaves enough liquidity to look at more roll ups in the near future, then explore all available options.
For DD, that is all dependent on the risk you want to take on. If you're fine with the risk of not looking into everything, then that's perfectly fine. Just make sure that you're not taking unnecessary risks if you start looking at more expensive financing solutions and dig yourself into a deep hole.
For a business of this size, what’s the rationale for doing roll ups, versus buying improving and selling?
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My rationale (and maybe it's wrong, you tell me) is that you are acquiring these companies generating $250-$400K EBITDA for 2-4x earnings ($750k to $1.6M). Once you get several of these acquired, you'll have a company generating say $1.5M - $2M in ebitda and get multiple expansion. Now, because of the scale, a buyer may be willing to pay 5-7x earnings (of course this is all dependent on the industry and the buyer). So now, as you start to buy out other companies, you are purchasing them for 2-4x, but each incremental ebitda growth is worth two to three times what you're actually purchasing it for. This is how a lot of companies did things before IPO'ing and trading at 15 times price/earnings. This is how the real money is made imo.
Plus, once you start to get scale, one can hope that you can improve margins by having one manager service multiple locations, having bookkeepers and accountants service multiple locations, etc.
I could certainly be wrong on my values and ebitda multiples. Maybe it takes more than $2M ebitda in an industry like this to get to that 5-7x valuation.
Those are my thoughts, what do you think?
Sounds great in theory until rates go up and buyers just offer you 3x for your POS rollup.
In theory I don't think this is a bad idea. Multiple expansion is true. However we have seen a lot of really bad roll ups come to market lately and they are getting dinged for lack of integration. So I would spend some time thinking about how you are going to integrate financials and crm.
For structuring the roll-up I would suggest a holdco type model for your three business partners. The cleaner way to do this would be to form the holdco preacquisition and have that vehicle purchase add-on.
- 80% leverage is almost unheard of outside of an SBA loan.
- I would push for 20% seller financing / 20% equity / 60% debt
- Why would you decrease your ownership % when you and your business partner are fronting the 20% equity? Do you want to own a minority?
- Where will the equity come for additional add-ons?
That's a good point. My reasoning was, he'd be doing a lot/most of the work. That's not the point, though. It's common in PE for the operator to get a minimal share of the profits.
It is my understanding that add-ons can be financed 100% assuming they meet certain qualifications. If not, we have capital for that.
I'd love to know where you are with this!
I made an offer on an appliance repair business last year that was doing ~$350K in cash flow and being run remotely. It's a super fragmented industry without a ton of growth, but I still like it for its urgent/non-discretionary nature.
I spoke to an acquirer who bought a similar sized appliance repair business in another state and it was very different.
As far as customers and payment terms, warranty companies seem to always be looking for new service providers but many service providers aren't interested in their contracts (net-30, net-60, and often 25%-75% less than COD jobs).
When you do a roll-up in healthcare, often times geographic control can create leverage where you can negotiate higher rates with insurance. From what i've heard, it seems like these warranty companies can sell policies that have no realistic service vendors. So they're required to do a song and dance to make it look like they're looking for them, but they won't actually be pressured into higher rates. They just wont fulfill their service obligation. If this isn't the case and you can create collective bargaining leverage, I think appliance repair is actually a super interesting roll-up opportunity.
If you have an advantage on Google LSA, those are better, higher paying, cash jobs.
The company I looked at was all 1099 with no employees interested in permanent W2 jobs. Each guy was making about ~$100k and had a lot of autonomy. The business was somewhere between a service business and a lead generation agency. By contrast, the acquirer I spoke with was doing all Warranty work with W2 employees who made far less, but it sounded like a good company culture. He is currently trying to do more COD and less warranty jobs.
There was another appliance repair agency that I looked at last year...30 years old, $1.5M top line. They were listed for a while by a local broker and didn't sell. Each employee just set up their own shop. So that's also what you're dealing with.
If you close, another service line I would look into are "appliance installations" via relationships with general contractors and merchant builders. I've seen high demand for this.
I'd love to tell you that we've increased our business by 20% this month compared to last year and are on our 2nd acquisition already, but that is not the case.
The seller declined our offer. I'm not willing to budge on terms. I told our partner that he should just open up shop himself in the area, cut us out.
So back to square one.
We also started having concerns about our partner. Why he really needs us if he's making lots of money.. constantly buying new corvettes and other toys. Posts a ton of pictures on facebook of his wife and her friends wearing bikinis on the beach (which I don't mind). Makes you wonder though.
20% a month is a great result!!!
Expanding a business through acquisition sounds like a great move. For structuring the deal, one common approach could be a combination of cash and equity. Your buddy's expertise in appliance repair and the target's location could complement each other well. Consider valuing the target based on its revenue and profitability, and negotiate terms that include earn-outs based on future performance. Have you looked into how to sell your business? It could provide insights into structuring buyouts too. Good luck with the expansion plans.
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