There are a few threads on this site regarding the idea of wealth generation through purchasing a so called "non-sexy" business (i.e. gas stations, laundromats, etc.) for the long-term cash generation potential. There have also been a few really great, recent discussions about home ownership and the pros and cons of owning your own residence as well as other investment properties.
My question is more along the lines of a third option, as stated in the title of this post. How feasible is it for me, as an individual investor, to:
Clearly there must be something I'm missing, or many more of us in finance would incorporate the investment tactics we work with on a daily basis into our own personal investment approaches. What are the hurdles here that I'm not thinking of and what can be achieved in your opinion? (view OP's entire post at end of thread)
Questions to Consider When Buying a Small Business
- How do you exit? You can't IPO
- How will you get the financials of a private company in order to know if business has good FCF? (may be able to get if owner has you sign an NDA)
- How are you going to do thorough due diligence?
Additional Challenges with Small Business Purchases
- Small business is not a liquid asset class
- Might be difficult to convince an owner to walk away from a business they built
- Need a strong, senior network in order to identify opportunities
- Owning a portfolio of small businesses is a full-time job
- You may struggle to find the debt to lever it up
- How to Acquire a Company Using a Leverage Buyout
- If You Were to Launch a Business/Start-up What Industry/Sector Would it be in?
- The Complete Cowards Guide to Starting a Company Part 1
***Continuation of OP's original post:***
Now there are some obvious hurdles such as the inability to lever up Joe's Pump-n-Go at any kind of comparable multiple to a Berkshire Partners buyout, but what is preventing me from doing the following:
- Establish a holding company under which I can issue non-recourse debt to myself
- Find an established local business with strong, consistent cash flow generation (preferably with an effective internal auditing system and maybe even a track record with a local bank). Let's say for this example that it's a local, successful home furnishings store with high margins in a market with consistently increasing property values proven through a few economic cycles (i.e. San Fran, Boston, etc.)
- Agree on a price for the business and perhaps purchase the underlying property as well, since we're talking about brick and mortar retail/service establishments
- Now here's where it becomes less clear - I can certainly finance 80-90% of the property value in the form of a mortgage. But reasonably, how much debt am I, through my holding company, going to be able to put on the business itself? Obviously the exact multiple is case by case specific, but anecdotally speaking, what kind of discount in terms of % debt/equity split would you see vs. a true, lower middle market LBO?
- As a sub-bullet to the previous question, are there any kind of appraisal tricks you could work on with the bank related to the property value, whereby you could have the bank provide a larger mortgage than the actual agreed upon sale price of the building and use that to finance some or all of the purchase price of the business as well (this could be a stupid question - I am totally ignorant here as I'm a renter and have never applied for a mortgage, but am aware that there are different appraisal values for tax vs. purchase value, etc - don't know how willing the bank would be to work with you on that point. Clearly you haven't built any equity in the house under which to set up a line of credit at this point, but is this excess funding based on a higher appraised collateral value vs. actual price paid something that could be achieved)?
- Repay bank debt, keep the time horizon relatively short before exiting
I'm really curious to hear your thoughts. I began thinking about this after reading the recent discussion on "The Fallacy of Homeownership as a Vehicle for Wealth Creation". In reality - and the tl;dr version - we're basically talking about the same thing, with the cash flows from the local business substituted for rental income...
Anyways, especially interested to hear from Heister and others who own land and other tangible assets as investment vehicles. What are the hurdles here that I'm not thinking of and what can be achieved in your opinion?