98% of the time, outdated financial records turn off potential buyers…

How can you ensure your business stands out in a competitive market?

In this episode, Michael Frew, entrepreneur and expert in business acquisitions, shares invaluable tips on structuring deals, organizing finances, and navigating the dynamic world of mergers and acquisitions.

In this episode, you’ll discover…

• The critical factor that signals to buyers that a seller means business.
• Why the M&A market is more competitive than ever and what buyers are really looking for.
• The benefits of creative deal structuring and how it can meet both buyers’ and sellers’ needs.
• How insurance products can mitigate risks in smaller M&A transactions.
• Michael Frew’s ideal acquisition targets and the latest trends in the online business space.

Mentioned in this episode:

• https://www.linkedin.com/in/michaelfrew/
• https://twitter.com/point_of_frew
• https://www.michaelfrew.com

Transcript

Patrick Stroth: Hello there. I’m Patrick Stroth, trusted authority in executive and transactional liability and founder of Rubicon M&A Insurance Services. Now a proud member of the Liberty Company Insurance Broker Network. Welcome to M&A Masters where I speak with leading experts in mergers and acquisitions. And we’re all about one thing here. That’s a clean exit for owners, founders, and their investors.

Today I’m joined by Michael Frew. Following a 20-plus-year career in technology, Michael turned to acquisition entrepreneurship, acquiring software and SaaS companies through a variety of online brokers such as Empire Flippers, FE International, and Quiet Light Brokerages.

He now manages a portfolio of cloud-based software companies. I asked Michael to join me today to share his insights on the new front and M&A, digital business acquisitions. And, Michael, it’s great to have you here. Thanks for joining me today.

Michael Frew: Great to be here. That’s a great intro and description. I’m impressed by my own self a little bit there.

Patrick: What I open with all my guests, please share your story of what brought you from early in your career to this point, because you’ve lived that life of the tech success story. And why don’t you share that with us?

Michael: Absolutely. Yeah, I would say that my career is very similar to what I think a lot of engineers and developers go through in their 20 to 30-year career. And honestly, I’ll tell you right off the start, I’ve considered myself a C minus employee. I was not a fantastic developer, I was kind of good enough, maybe not to get fired most of the time. And I started off in the .com era and kind of grew through there.

But what I encountered quite often, and I think a lot of other developers have this is we enjoy the technology, we love learning new things. But in many ways, in the corporate environment, we get on projects we don’t particularly enjoy, we’re in environments that don’t really work well for deep work. And that kind of getting us to get worse over time.

So for me, what started to happen is I had what I would call a quarter-life crisis. But I had multiple of them where I would just up and quit a job, step back from where I was, and look at how was I going to reengage with technology. Because developers and engineers, we get that golden handcuff problem.

It’s very hard to laterally move and say, I’m gonna go open a yoga studio. That’s not going to be the same income bracket. And as you get older, and you have more responsibilities, it’s a lot harder to do that. So in many ways, we have to stay in the technology sphere, but maybe look at it from a different angle.

So that’s where after about 20 years, I was going with the common thread that you need to start a business, keep trying to start a business, and like many other engineers, I’ve got dozens of failed projects in my archive folders. And a bunch of domain names that never turned into real businesses.

And that’s where I stumbled on actually acquiring businesses and acquiring projects that I would like to work on. That completely made a pivot in my career. I started with a very simple, very, let’s say, lower-cost business, just to test everything out.

Really enjoyed the experience, really enjoyed running my own engineering team, even dealing with all the financing and the taxes and everything that when you’re a W-2 and a 1099 is taken care of for you. Once I did that intro business, I realized this is absolutely what I want to do. And that’s where I started moving up into six and seven-figure acquisitions.

Patrick: And then when we think about where to find these companies, I mean, sometimes the more things change, the more they stay the same. In the old days, if you were looking for a company to buy, you would literally open up the want ads in the business section of your local business or business journal in a city. And there were tons of these tiny little ads in there for this type of company at this price. And so they’re all out there.

Now, we’ve got this online marketplace where not only do they go ahead and have listings for companies that want to get sold, but then they can almost facilitate the transaction, which can be a little bit risky. You were at the forefront of that. So talk about that process. How you found it, did you stumble upon it? And then walk us through where you got to now.

Michael: So it’s about a decade now that I’ve been in this industry, and it has really matured in that period of time. It was a little bit more wild west 10 years ago, and not as competitive. Not quite as structured. There weren’t really as many financing options as you find today. So in many ways, it’s much better now.

But as a buyer, of course, I recognize now there’s a lot more competition, there’s more people, there’s more money looking for the same type of businesses that I like to acquire. But the mature process of the online business space is really helping out. And it’s starting to be able to parallel the brick-and-mortar acquisition sphere as well.

And so we’re able to borrow a lot of the philosophies and the frameworks that you see offline, and we can bring it online. And you know, as we could probably get into, doing due diligence and acquiring online businesses in many ways is actually a lot easier because we’re not typically dealing with a lot of hard assets. We’re not typically dealing with real estate.

So on one hand, it’s actually a little bit easier to get into, especially for other developers and engineers like myself. And if you have a software company that you’re selling, it’s a lot easier to sell it because it’s so much easier to just sell the asset rather than an actual business.

Patrick: Yeah, and I can imagine you’ve got everything online now, so people pull records. I guess you’ve got an advantage with your technology background on evaluating these and seeing what idea is a good idea and a bad idea.

Michael: Yep. And so I stay in just a niche that I’m very comfortable with. right. So it’s got a lot of my tech background. I like working with other engineers. So typically on buying infrastructure companies, or something that engineers are the customer base.

But a lot of my colleagues in this industry, they have their own niche, and something that I wouldn’t stray over into. They are fantastic at let’s say, content sites, or they’re really good at running an Amazon FBA site. And so they acquire those businesses and kind of build their little empire as well.

So there’s a place for everyone in here, whatever your experience is, if you’re coming out of corporate, and you’re really good at advertising, there’s a ton of businesses that could really value advertising. If you think about it, so many startups are started by engineers started by developers, and we are interested in a few things. We want really good-looking code, we want it to run really well.

And the things we don’t pay a lot of attention to is marketing, scalability. And so when the business moves to that second phase, where maybe it has that first acquisition and someone like myself acquires it, those are the things you can really put that fuel on the fire if you have really good advertising experience if you’re really good at marketing, if you’re really good at building scalability and bringing in new customers. So that’s kind of where it fits on that business lifecycle.

Patrick: Okay, as, as we’re looking at, as the market has matured, we’ve got, you mentioned a number of the platforms and so forth, the role they’re playing is they can kind of help with some vetting, because, again, if things are online, that’s like buying anything online. There’s got to be some legitimacy. So talk about how that’s changed, where the amount of fraud and other real dangerous things out there have lessened a bit.

Michael: It’s definitely diminished. In many ways, the same as things on the internet have diminished with the opportunity to commit fraud. We have so many professional brokers now that are working in online business as before either companies or themselves, they have also started or sold their own businesses.

So they’re very familiar with the space. As a buyer, that makes it fantastic for me, because when I see a business show up for sale, that’s already been through a broker, I know that minimum-level standards have already been done. The accounting probably is going to make sense.

There’ll be questions still, but they do a fantastic job of getting rid of the looky loos sellers, or the ones that aren’t really interested in selling unless you give them 50,000 times the value that the business should really be. So when you get a business listing from a broker, it’s really quite helpful. And that’s something that’s really matured in the industry in that last decade.

Patrick: With the experience you’ve had, I mean, are you 100% success on these? Or what’s your average been as you’ve looked at a target that’s actually broken even or better?

Michael: Fortunately, I am not 100% successful. And I think that’s something that people, especially if you’re going to make this a career, it’s advantageous to go through even though during the time you are not happy about it.

So I strayed from that narrow niche that I was trying to specialize in. I acquired a business that was a little outside of that. It was a language that I didn’t quite understand. It was a development team that was a little bit outside of my competence level. And it was not successful.

And so, fortunately, that has colored my view in the future of what I’m looking to acquire. It easily is the best thing that ever happened. Like I said, even though during the time period, it was pretty horrible. So even with the acquisitions I’ve had, I’ve not been 100% successful. And as you know, as a buyer, you look through a ton of different prospectuses.

You look at a lot of different businesses. You can even move all the way up to an LOI phase, you’re going through due diligence, and then you walk away. That’s going to happen once or twice. For me, it’s about once or twice a year.

My cadence is roughly a business every 18 to 24 months. Because with a software and a SaaS business, you’re bringing in quite a lot of processes, usually bringing in a larger team. And it takes some time to do that.

Whereas other businesses, if you’re just bringing in, let’s say a new content site, you can probably buy five or six of those a year because you’re kind of putting it into your own machine. So it really depends on the niche you’re in. How fast can you do it and how long does it take to be successful and what your success rate will be.

Patrick: Without giving away some of your trade secrets or whatever. As you’re looking at all these you get used to, you’re seeing the same thing over and over again and so forth. Is there something that jumps out to you? Or is there something that if it jumps out to you may jump out to everybody? So what are one or two subtle things you look for where you think this is the difference between a breakeven or what could be a profitable venture?

Michael: I can think of two things right off the top of my head. One of them is where you list your business. That says a lot to sellers. Excuse me, that says a lot to buyers. Where a seller decides to list the business tells me a little bit about how they got through those gates of how authentic the business can be.

And so there are marketplaces where you don’t really have a lot of vetting. And then there’s really sophisticated brokers where I trust almost everything that they’re sending out to us. So that tells buyers a lot. So that’s kind of a little bit of a secret, a little bit of a signal. And the other is just how organized those finances are the first time we look at it.

Is it pretty current? I was looking at one today where the finances are actually 12 months out of date. So right there, I know, okay, this is probably is not a serious seller, it’s not even worth my time to look at it. So it’s something that I think sellers maybe don’t recognize how important that is to us, because that’s showing us all the metrics inside the business.

And in the end, that is going to be one of the things we’re going to review the most. So having that put together really well from day one, it establishes a lot of trust between the buyer and the seller.

And that’s what we need to move forward because you need that trust to get all the way to closing day and then that transition period where now you’re partners together for an indeterminate amount of time, especially if there’s an earn-out scenario. So getting knows finances together really well. That’s a very obvious one. But yeah, where are you listing it is also is a subtle one that tells us a little something.

Patrick: So this leads right into my next question on this, is just the profile these deals where we are looking at owners and founders that they creating something, sell, they’re moving on. Or are they looking to have a partner to get them to the next level? What’s the percentage mix that you’re experiencing?

Michael: You’re seeing a lot more of the former, where the owner is interested in selling it, maybe because they’re a true entrepreneur and they want to go back to zero and start something new. I imagine we’re in the middle of, we’re basically mid-2024 right now.

There are a lot of people that would like to start an AI business. And have a business right now that they can take advantage of AI but it’s not solely focused on that. And they might be interested in selling it. So you’re seeing a lot of those come to market.

I see a little bit less, where someone says, hey, I need investment, or I’m looking for a partner that is really good at marketing. Can we join together and move forward? But those do show up on some of the listings.

But typically what you’re finding if someone wants to be 100% out of the business so they can go work on the next thing, or move to a different phase of life where they’re kind of done with the software thing. So yeah, I’d say predominantly, what you’re gonna see are people that are looking to exit the business in its entirety.

Patrick: And then if it’s you versus a couple of other prospective. How often do auctions happen, or processes happen at this level? Because I often would ask, well, what do you bring to the table that a lot of other prospective buyers can’t bring? Talk about that dynamic.

Michael: Yes. So that has changed over the last 10 years as well. I’d say 10 years ago, I could be maybe one or two of the buyers that were interested in a good business. That is no longer the case, especially when you think about how low interest rates were for the last decade. You started to have way more money than there were good businesses.

And so it did start to get very crowded, especially for good businesses. You knew you were gonna be bidding against 15 or 20 other very qualified buyers alone. You do have to find ways to stand out. And so for me, it’s really of, am I the right person to take this business forward?

Usually, the entrepreneur has a mission for the business, they most likely care about the customers very much. Is that something they can transfer to me, and they believe that I can carry that forward better than any of the other groups that are bidding?

And that’s where you start to see that it’s not always the highest price that wins. It’s really selling to the right buyer that’s going to take that mission forward and move it through the next phase of the business.

So I would say if it’s a good business, very competitive, and that’s another signal. If you see a business that’s a bit stale, nobody’s really bidding on it. The first question is, okay, so what’s the problem with this business? And just like real estate. House has been on the market for a long time. What am I missing? What’s wrong?

Patrick: Okay. Well, that kind of theme is consistent throughout every level of M&A. Price, I mean, it’s important, but it’s not the be-all end-all.

Michael: Absolutely. Yeah. Structuring the deal specially for things that the seller may need. That isn’t a big cost to me. I love doing that. You know, and that’s a tough conversation to get the seller to really tell you, but if you could just say, I’m not trying to hold you over the coals here, because we’re going to do this as a partnership. Is there some way that we could structure this that’s better for your taxes? Would you prefer to have income in the future? Do you want a piece of equity in the business?

Because a lot of times people do have to sell even when they don’t want to. And they don’t want to lose that future growth. And so if you can say, you can keep 10% of the equity, I’ll run the business. And that helps me on price. That helps them with their eventual goals. So ways that you can structure that absolutely can help.

Patrick: I think the utilization of more dynamic structuring in the last year plus, has been the biggest change that’s been out there.

Michael: I have seen that as well. When I first started, I was all cash. And that was mainly because I was naive, and I didn’t know what I was doing. And there wasn’t much out there about this. My last deal completely structured differently, something I never would have thought of a decade ago.

Patrick: And then with the portfolio of companies that you have now, what is your plan on those? Without getting too internal with you. You’re not a private equity firm. What are some of the end lines that you’re looking there with your objectives?

Michael: Yes, so that’s the great thing is by not being a PE firm, it gives me a lot of flexibility. I get to decide, basically, whatever I’d like to do. So the first thing I always try and do is make sure my businesses are sellable in 30 days, and that’s more of in case I get hit by a bus, or I get hit by a bus or something bigger than a bus.

And I can hand the documents over to my wife, and she can run it, or she can decide to sell it and the buyer would have everything they need. So in the short term that would be a consideration of selling, but mostly long term, I actually enjoy, buy and hold.

I really enjoy running businesses. Using that cash flow to help finance the next acquisition and continue to grow it such that I can still keep my lifestyle that I enjoy. So not maybe picking up something too large, and just running the businesses comfortably with an operator in there after the first few years.

Patrick: One of the things that you can avoid is risk in the square. You’re dealing with good sums of money, you’re putting some prospectus out there and taking in these opportunities, but they don’t come without some challenge and some risks of loss. And I’m just curious with how you’ve been handling that.

There’s been a product for larger M&A transactions, called reps and warranties insurance. Where essentially, the buyer goes and secures protection in the event the seller reps that the buyer receive weren’t accurate.

And those inaccuracies lead to the buyer suffering financially. Well, the buyer has recourse through that with the use of an insurance policy, where rather than trying to grind it from the seller, they can go to an insurance company. There is a new product out there, that is for the smaller transactions.

These are sub $30 million enterprise value transactions, where the seller is the insurer. And if the buyer suffers a breach of those same reps, buyer notifies seller, and the seller gets the insurance policy to pay them. But don’t take my word for it. Michael, good, bad, or indifferent, what’s been your experience with rep and warranty insurance?

Michael: These innovations are fantastic for our industry. And this is part of that maturation process from what we had 10 years ago to now. If you look at some of the situations, some of your listeners may be aware of a lot of that Amazon aggregators that occurred over the last few years and have left a lot of sellers kind of hanging by with nothing coming out like they were supposed to get on the earnouts.

I could see where this would be fantastically helpful. It is definitely something I am going to take the advantage of when I am doing my next acquisition or my next sale. Because these are some of the biggest challenges is once you hit that transition in the closing day, it’s really just all trust after that.

And if you’re doing an earn-out where the new buyer is the one that gets to put the accounting together, that’s pretty hard to trust. And so having these formal structures around the acquisition couldn’t be more helpful. And I think it’s actually very encouraging to see that growing in our industry. So very excited to use it in the future. And what else can I say? It’s absolutely perfect. Love it.

Patrick: And I think it’s great. It just pulls a lot of friction out of the deal. Because ideally, the seller doesn’t want to be left on the hook for something that could happen years later. Buyer doesn’t want to get stuck buying a lemon.

So how do we bridge that gap between the two of them? And this is a great way that we’ve got a third party out there that can look at the stuff and move forward and get the two parties going on. I would say that at a cost on the high end about $15,000 per million dollars in limits and you’ve got a $500,000 – $600,000 acquisition, that’s a pretty reasonable cost.

And we look forward to a lot of that going forward. Now, Michael, as you’re going through your landscape right now, I mean, for our audience members, give me a profile of your ideal target. What are you looking for specifically?

Michael: Yeah, specifically, I’m very much a cloud infrastructure person. I really love the layer that is kind of underneath what you see on TV and everything. So with cloud infrastructure tools, I honestly don’t care if it’s the phase when we all cared about NFTs and blockchain or if it’s now with AI. Because they’re all running on top of my companies.

So I’m always looking for those. I’ve really enjoyed developer tools, engineering tools, engineering services. Again, I really enjoy the business-to-engineer relationship. Those are the customers that I’m looking to sell to. And then I have some kind of more broad, I’m looking for somewhere under, let’s say sub $5 million in market value.

The seller really shouldn’t be the face of the business. I like to keep my teams lean. So I’m looking for short sales cycles, and not really looking for the long enterprise sales cycle. There are specialists like me and colleagues of mine that are very good at that.

And that’s where I send the business right over to them and say, this is perfect for you. You are fantastic at that sales engineering for long-term projects. So for me, yeah, infrastructure tools, very simple. And I find them to come out, really good ones, a couple a year. So that’s where I have to be really ready to move, have my money and everything lined up, because they are competitive like we just spoke about earlier.

Patrick: Michael, what trends do you see going forward with this, in this platform? For purchasing, are you seeing more online markets coming, or the ones that are there are kind of getting greater services, greater capabilities?

Michael: It’s both actually. The ones that are there, and the incumbents are building better services. For example, like having insurance with the sale. And there are also every month, there’s some new brokerage, or new person that I need to know about that is starting to list businesses. So you have a little bit of both, which is fantastic.

So you have that startup opportunity to disrupt the market. But then the market leaders are also out there innovating because they’re looking to get as many for sale listings as they possibly can. So really, it looks like a very vibrant economy for this online business acquisition space. It’s a relatively new asset class if we look at the history of asset classes, where you’re talking about real estate and equities.

This is something that still is getting figured out. It’s still risky, like you said earlier because many times there is no asset behind the business. So yeah, there’s a lot that is still maturing, but it is getting better. There are more players in the market, and the incumbents are doing a great job as well.

Patrick: Well, fantastic. And Michael, you’ve got a real prolific social media presence. You’re out there on the web, and so forth. And you’re real generous where you’re offering advice and insight to folks that are new to this area. Which I think is wonderful.

This community, contributing to the community, only makes it bigger, more vibrant, and more sustainable. So how can our audience members find you? And talk about some of the things that you would offer for somebody that’s new to this sector.

Michael: Yeah, so as a buyer, I actually get an incredible amount of insight into what sellers need to do. And so I’m trying to put out as much information as I can of what sellers should be doing in the 18 to 12 months before they list their business.

And on the other side, as an engineer that moved into this, I also try and give all of my advice and mistakes that I’ve made in acquiring the same type of business. So I’m kind of talking on both sides, just because I do see both sides really well.

I put as much as I can up on my own website. It’s just michaelfrew.com. And my last name is spelled, it’s f r e w. I’m trying to put videos out on YouTube as well. Just answering questions that I get from people and I figure why not just throw that out on a video.

So hopefully that’s helpful. And really just trying to get the content out there because like you said, it makes our business better and it grows the community out here. And that gets more sellers into the market, it gets more buyers into the market, and it just makes it more stable. So reach out to me at the website.

Send questions if you have them. I love the more nuanced in particular they are the more likely I would love to answer them in public. And so yeah, please don’t be afraid to send something and I’ve really enjoyed kind of the off-the-wall question that even causes me to think a little bit, even though I’ve been in this for a little while.

Patrick: Well and for those that really have that itch that want to get out there. I mean, you’re using in many cases your own money. And so you don’t want to just wing this yourself or take some information from a class. Get out there kind of in the environment and find people like Michael Frew and look at their advice and take it take it to heart because you’re probably going to hear the same thing like five or six things over and over and over again.

Okay, those might be some fundamentals that you should not ignore. And then you’ll get a little sprinkle of some nice insight that’s groundbreaking, which is great. But I think that the best way to acclimate to a new environment is to familiarize yourself with people that have been there. M&A to us, I think is a great growth strategy.

It is a way that our communities in business and everywhere else can collaborate in a positive way where the whole is greater than the sum of its parts. And so we like to see where these collaborations happen.

And we’ve got folks like you that are guides along that path, which is great. You’re not on your own. Let’s take advantage of that. So, Michael Frew, thank you so much for joining us today. And we look forward to guests reaching out and you and I working together. Okay.

Michael: Fantastic. Great. Thank you so much for having me.