Net Income vs SDE Tax-Tax Cheating Add-Backs and You - Buying a Business SMB

[@edp1120]

Your videos and emails on the subject mains street business deals are by far the most explicative with real world examples. After looking at a lot of businesses in the web space over the years, I would say it's been quite a bit like the wild west where in many cases, you are taking on a lot of risk if you neglect to analyze the P&L and cash flow of these businesss because many of the sellers have historically not been running it as a business that they plan to exit one day and don't keep clean books..many times they'll throw vague numbers in a spreadsheet. As more private equity entered the space, it's gotten a lot better, but you still have a lot of brokers listing multiples alongside when you will get your ROI back. What I don't like about that tactic of the brokers that make it look so simple in order to get more bites on a listing is how that time to ROI number is false, especially in mostly cash deals. The buyer is paying in after tax dollars (sometimes multiple times taxed dollars if they use funds that have been subject to capital gains) but the ROI numbers are always factored on pre-tax SDE numbers. Some web brokers have even more lenient interpretations of SDE and when you look at the P&L, etc., it doesn't make any sense how they arrive at some of the multiples that they do. Usually this happens the bigger the broker gets, rather than with 'boutique' brokerages that have a tighter running ship. Regarding lowering one's tax burden, I remember doing some of those things when younger, but it's made more sense to me to lower that burden by contributing to retirement accounts, etc. with legal tax avoidance strategies. Great video

[@DavidCBarnett]

Thanks Ed. Your comments about brokers reveal what I've said many times... there are a lot of people calling themselves 'business brokers' who lack much of the knowledge to do a good job... even after trying to do it for many years. Always spend time 'measuring up' a broker to see what kind of person you're dealing with.

[@tianwu8936]

Thanks a lot David for answering my question! Good to know the conditional seller note technique.

[@DavidCBarnett]

Happy to help! It was a great question.

[@dorr9172]

Spot on!

[@DavidCBarnett]

Thanks D.

[@YouAREyoubeYou]

I lovvvvvvvve your videos!!!

[@DavidCBarnett]

Thank you, Glad you like it!

[@edp1120]

Question related to the purchase of business with seller's note that is subject to offset in the case of material misrepresentation (a little before the 14:00 mark): Can you explain how this plays out in the real world when, I'm assuming the buyer's attorney (since this clause would presumably be drafted by the buyer's attorney), informs the seller that due to their garbage add-backs etc., they are going to default on the note? How often have you seen the buyer go this route (sending a letter to inform buyer), and then how often does the seller dispute, and how have these scenarios played out in these instances?

[@DavidCBarnett]

In all the deals I've worked on, only one has had this clause used. The seller didn't fight or react in any way! The fact that the note is subject to offset for a material misrepresentation creates an incentive for sellers to be forthright and honest with buyers. If seller's fight hard against this, it gives me pause about what they're disclosing.

[@vjay6667]

Hi David, I am currently talking to a seller about buying his website, do you do any consulting for this type of acquisition? It's a messy situation without much documentation. I am trying to figure out how to do due diligence on a business that doesn't keep proper books.

[@DavidCBarnett]

Yes, use www.calldavidbarnett.com and we can book a call. You will have to use deal structure to manage the risks for sure, but I can be more specific when you show me what is available.

[@cortezwilliams5817]

What if the seller books and taxes are so bad that no lender will touch it but the company has been consistently grossing over $500k a year with zero advertising or marketing. My question is, if the company has equipment (newer trucks) worth the asking price of $250k, what about going through equipment financing? Has anyone ever heard of anything like this?

[@HolsteinDirk]

Found your channel "by accident" and I like it a lot, thanks for sharing detailed pieces of information. There is something I am interested in for a while and there isn't so much to find out about in general, as I know. It's about future contracts, time to build up and finance the machinery which is needed 1 year upfront, and when it's done produce and delivers the product, with a 5-year contract. Sounds to me like a 4 = 3 + 1 ratio when it comes to financing. Any ideas?

[@DavidCBarnett]

I don't quite get what you're asking. Do you mean you want to buy a machine that takes a year to build and you're making a deposit upon order then financing the balance when delivered?

[@HolsteinDirk]

@@DavidCBarnett let's say 20% upfront payment as a deposit to buy/order the machine because it needs prox 1 year to build it up. Machine ($80) is to add at Asset and upfront deposit ($20) is to add at Equity side, the difference to balance out would be dept ($60). The future contract would be on the Asset side too, later on, but the balance sheet and the ratio wouldn't be right anymore when the 'new' revenue is in the books. Sounds probably more complicated as it is I guess ;)

[@energyefficient2247]

Isn't that called Distribution?

[@DavidCBarnett]

No, a distribution is when you take money out of a business. Like a dividend for a corporation. What we're talking about here is personal expenses disguised as business expenses for tax reasons, then disclosed when trying to sell a business to show that the business earns more than what the tax returns say.

[@energyefficient2247]

@@DavidCBarnett Ok, so the personal expense should have been claimed as a Distribution or Dividend, but was not. Then they tell the buyers it was a personal expense, to make the business look more profitable.