TRANSCRIPT:
Welcome back to Financial Foundations, brought to you by Base Wealth Management, where we are the foundation to your financial plan. I’m your host, Dustin Taylor. I have your co-host, Alex Wolfe, certified financial planner, and I’m Kyle Howell, financial adviser out of the Lutz office. Today we are with Mike Mauger, who is a commercial real estate broker. Thank you for joining us, Mike.
“You’re very welcome.”
For our first question, how does someone know when is the right time to sell their business or building?
“It’s a great question. It’s a personal question. There’s a number of different scenarios that trigger somebody to sell a business. One, there may be a death in the family where somebody that was running a company needs to sell. So that’s more of an immediate need. There are some other people that don’t have family to pass the business down to, and therefore they need to sell because there’s no one else to run it after they leave or retire. And then the most prevalent is somebody wanting to leave the business because they do want to retire, and they have a relationship with a broker, somebody like me, that they can use to help facilitate that.”
The Current Selling Environment and Requirements
And what’s the current environment like for selling?
“It varies. It’s a market-to-market situation. If a business is profitable and it’s growing, it’s very easy to sell a business. If it’s none of those, it’s very difficult. In fact, I turn down a lot of businesses now because they’re not showing profits on paper. You need to show profit on paper. Otherwise, it’s very hard to get a loan for that through the bank because the banks rely on the financial results, typically from two to three years worth of tax returns. So, if they don’t show good numbers on those returns, it’s pretty much impossible to sell a business, unless it’s a cash deal, and then you can do that. But it’s one of those things where you need to have good numbers, and they have to be reflected on their tax returns.”
So it’s not just revenue; you need to actually show a profit.
“That’s correct. You could have a million dollars worth of revenue, but if you have $10 million worth of losses, nobody wants to buy your business.”
Business vs. Building Sales
Is there a big difference between the timing of selling a business versus a building?
“Yes. Typically, a building is a much more straightforward sale. You have four walls and a roof, and obviously, it’s similar to selling a house where you list it, market it, and attract qualified buyers. And then you go through a negotiation process, and then you get to a closing table. Unlike a business, where all of those things still occur, but in addition, you have to underwrite the underlying operations of the business. And sometimes that takes a lot of work. You need to understand the business itself. You have to be able to explain it, how it works to a potential buyer. And then the buyer has to not only inspect the building if one is involved, but they also have to inspect through a due diligence period the health of the business and have to understand themselves how they can run the business in a better fashion. So it’s a much longer process to sell a business than it is a building.”
Are you seeing any trends in the industry of certain types of businesses coming up for sale or certain types of property?
“It’s a cycle-by-cycle, location-by-location thing. The trend for me personally has been a lot of small businesses in the $1 million to $5 million range that are owned by people in their late 50s, early 60s that want to retire. So that’s a trend. The other trend is in the building space for me personally is to be able to market and sell land. There’s a lot of building going on in the area as you know, and there’s a trend, at least in my portfolio, for people that want to transact land because they want to build it.”
What type of building or property are they putting on that vacant land?
“Several different types. Mostly residential, a lot of apartment buildings, and some small retail strip centers, and then also office parks. Office buildings are in high demand, especially in the Pasco County area, because there’s so many houses going up, but they don’t have the equivalent number of offices to be able to house the professionals that live in those houses and need to have a place to have a professional practice: doctors, lawyers, financial advisors, those kinds of professionals.”
Yeah, it’s kind of interesting. We’ve obviously heard a lot in the news, I mean, ever since the COVID pandemic, about office space kind of being out of flavor in the real estate portfolios, but that might be specific to certain geographic locations, certain types of professions. But obviously, most doctors and lawyers, they still have offices, and other financial professionals. Interesting observation.
“My best year was the year that COVID hit, believe it or not. And most of my work was in office space because a lot of the people that worked in downtown offices that didn’t want to go there, they had to have a smaller office closer to their home, similar to what Kyle has here. So the demand for this type of product, the small professional office park scenario, went through the roof, and I did a lot of business in that year.”
That’s fascinating. I didn’t know that. Thanks for sharing.
Valuing a Business and Building
So Mike, you’ve helped many members of our community, you know, buying businesses, selling businesses. What is your process of coming up with the value of both the business and assuming that business comes with a building as well? What is your process of coming up with that value?
“There are two components to that. Obviously, the building is the easier of the two. For the building, we look at comparables, meaning similar buildings and similar characteristics, based on a square foot basis. Then we adjust things for condition, etc., similar to buying a house. You just find something that’s close and you put a value range on that. The business is a little bit more difficult to put a value on. Everything’s driven by numbers. Those financial reports are what obviously show those numbers. And we look at a figure called discretionary earnings.”
“And by that, I mean the net income that a business produces and adding back any expenses that the owner may have taken out of the business from a personal standpoint, whether it’s their salary, their medical insurance, their personal cell phones or cars. Things that a lot of small business owners do to reduce their income, to maximize their tax situation. So, back to the discretionary earnings, we look at that, come up with that figure, and then compare that discretionary earnings factor to other similar type businesses. Like if you have a pest control business, it may sell for three times discretionary earnings. And so, we apply those same multiples to the business at hand to kind of gauge the value there. It’s more of an art than a science, but there are typical rules of thumb, and the average business in Florida right now is selling between three and three and a half times the discretionary earnings.”
“So, as an example, a business has discretionary earnings of a million dollars, you would expect the sales price to be somewhere in the $3 million to $3.5 million range. And then I also typically increase that slightly only to accommodate some negotiating room, because no one’s going to pay you what you’re asking.”
Increasing Business Value for Sale
So when you come up with the valuation, and say somebody is not necessarily ready to retire right now, but they may be looking to retire in two or three years from now, what can these business owners do to increase the value over the next few years before that retirement date sets in?
“I think some of the more important things are to make sure that their financial reports are clean and explainable. A lot of people have some weird categories and classifications of expenses that nobody can explain, and that always becomes a problem. If you’re having to explain that kind of stuff, you’re kind of coming from a position of weakness or you’re a losing situation. So, if it’s clean financials, it’s much easier. Obviously, you want to show profitability and you want to show growth. So, if you can document all of those types of characteristics in your financial statements, that makes things a lot easier.”
How often do you sell a business—I don’t know if you sell it for a loss—but I mean like if they don’t show that profitability, but they still want to retire, like do they sell it, I don’t know, undervalued?
“Typically, a business that’s losing money is very difficult to sell. So, a lot of times they just end up liquidating whatever they have, whether it’s parts of inventory in a warehouse or furniture in a store, they would just liquidate it. It’s called liquidation value. I can’t sell something that’s losing money. Would you pay a dollar for something that’s losing $10? The average person wouldn’t do that, unless, I guess, unless they thought they could turn it around, maybe.”
Possibly. They have to just wait for you to liquidate.
“Yeah. I don’t know.”
Retirement Plans and Business Sales
So Mike, being that, you know, we’re a financial planning firm, and there’s somebody that’s looking to sell the business at some point in the distant future or maybe not so distant future, is having a retirement plan for the business something that goes into that factor, that valuation, so to speak, for somebody that’s coming in to buy and maybe hold on to the employees that are there?
“That’s a great question. I like to work with people like yourself, Kyle, to have a hand-in-glove collaboration or partnership, if you will, because there has to be a plan for the person post-sale. And that typically involves moving the money into some kind of account, whether it’s a tax-deferred 1031 exchange situation or if it’s just to buy mutual funds, you know, they have to have a plan for what they’re going to do with the proceeds from that sale.”
And not only from the sale, but just saying in general, they have maybe a 401k plan for their employees. Is that something that adds to the value for the sale for the new buyer coming in?
“It makes the sale easier. It doesn’t typically make or break the sale, but it’s like an added feature that makes a business more attractive, more of a turnkey solution.”
Correct. Correct. For somebody to come in and saying, “Yeah, we can keep every single employee here. They already have benefits.”
“Correct. Employee retention is huge. You don’t want to buy a business and then all of a sudden, you know, the people leave. That’s a disaster.”
Common Surprises and Tax Implications
Okay. Fantastic. So, do you run into any surprises when you come back to that valuation and you bring that valuation back to the business owner? What are they typically surprised at what you come back with?
“Well, at times small businesses have a tendency to not report certain income. In other words, they take money in cash. A lot of the cash businesses are a double-edged sword, meaning they lower their tax burden by not reporting that income, but they shoot themselves in the foot because that multiple of discretionary earnings, that, you know, if it doesn’t exist, they don’t get the multiple. So, if you put a dollar in your pocket to save on taxes, you lose $3 in the purchase price. So, it’s a double-edged sword. So, they get upset when we don’t include or account for that cash being taken as and non-reported, because you got to have something for that, Alex. Does that make sense?”
It does. We talked to Caitlyn a little bit about this who helps small business owners with their taxes and about how much income small business owners show. And one of that comes with that same kind of caveat is how much income are they taking in, in paying taxes on for like Social Security and things like that. And oftentimes we’ve come across people that don’t pay themselves enough and again kind of shoot themselves in the foot because then they have really nothing to fall back onto for Social Security in the future. So it’s like it benefits you now, but it’s kind of shortsighted thinking potentially, for harming yourself in the future. Yeah, that’s kind of where I was going with that.
“Okay, here’s a great example. About eight years ago, I sold a coin laundromat. This guy showed zero in terms of profits and revenues. So he just take the quarters out of the machines, stuff in his pocket, and take it to the bank and deposit. So how do you figure out what the value is? He’s making a lot of money, right? But he’s showing zero. So what we had to do was calculate the number of loads per day that he was doing. How do you do that? You either have somebody sit there all day and do a count or you look at their utility bills, figure out the water usage and the electric usage and kind of reverse engineer how much each load takes to calculate the number of loads and you multiply that by the number of quarters per load. That’s the way you can figure out revenue, and a lot of times those types of businesses get transacted because you can kind of prove it on paper.”
Mhm. Interesting. Yeah. I’d imagine that would be difficult with like a—I don’t know—one came to mind like a hair cutting business or something. Like, do you count the amount of hairs on the floor? Like, how do you figure?
Unique Businesses and the Sales Process
This is totally not on the script, but what’s the most interesting business you’ve ever helped transact the sale or purchase?
“Each business is unique in its own way, but the types of businesses are quite different. One that comes to mind is a mosquito control company where they had systems that they placed in their backyard and helped people get rid of mosquitoes. So, it’s a unique product, a unique selling process. Another one was, believe it or not, a head lice company where people that had head lice would go and get their hair cleaned. And so that was, that’s pretty unique.”
How do you connect buyers and sellers?
“It’s through the sales process. If I get a listing to sell something, obviously I have a network of people that I go to that that have potential interest in that. I have websites that we use as brokers. We have Business Brokers of Florida (BBF), that’s kind of like the MLS system for businesses being offered for sale. And then from there, there’s other public sites like BizBuySell, etc. So we generate the offering on those types of platforms. I do a lot through networking.”
“But once we have somebody that’s interested, there’s a process that the buyer goes through. They have to sign a non-disclosure agreement agreeing not to share the financial details or situation. And at that point, we can share, you know, the story, the details, the look behind the scenes so that can they can understand what the business is about and how much they make, etc. And then it’s a negotiation process. There’s a period of time called due diligence where they kind of go through all of the financial reports. They understand the business. They understand the employee base. They understand the 401k plans, if they exist. They, you know, just really shake down the business to get a good feel for it.”
“And then once they confirm it meets their expectations, they move into the next phase, which is getting financing in place. And that’s where a lot of the deals make or break because if you can’t get the loan for it, that deal is not going to happen unless you have cash, of course. Cash deals are easier. And once you get the financing in place, another 60-90 days to getting to the closing table. So it’s a long process, but, you know, one that’s very worthwhile, especially when you’re helping people to achieve their dreams of either buying or selling.”
Tax Guidance and 1031 Exchanges
Well, this has been really helpful because I honestly don’t know an extreme amount of information about brokering deals on real estate and businesses, to be honest. But when it comes to our clients and helping them with their tax situation and connecting them either to a CPA we work with or one that a client’s already working with, how do you, or if at all, help them with like the potential on taxes owed on a sale of a piece of property or the business? Are you involved in that at all?
“Well, to calculate the tax obligation, I leave that to the professional. I have the client refer or work with their CPA, and obviously, I’m an information provider to the CPA so they can do the correct calculation.”
Right. Before you mentioned cost basis and that playing in a factor on the potential taxes that the business may owe. Do you ever help them figure that out or is that mainly you get the CPA involved?
“I typically help them figure it out through their CPA because the CPA has all their underlying records to be able to define that.”
Okay, great. One thing that we’ve kind of already brought up is the potential to do a 1031 exchange. Can you talk to us a little bit about that?
“Sure. In its simplest form, it’s when you own an investment property and you wish to sell it, and you don’t wish to pay taxes on it, you need to buy another investment property so that you can roll the gain from one end to the next. And you can continue to do that until you either want to take your money off the table, at which point you would pay the tax, or you pass away. And then you hand the properties to your beneficiaries, and they get a stepped-up basis. So if you bought it for a dollar and it was worth $10 at the time of your death, when they take it over, their basis starts at $10. So they can then take advantage of avoiding the tax on that $9 gain, if you will. That’s the simplest scenario.”
“But there are other situations where there are large gains and the person doesn’t want to buy another building because it takes a lot of time and effort and sweat to manage a property. It’s just it’s not easy. I’ve owned personally an apartment building. So, you know, you get those calls in the middle of night. It’s very difficult. So, a good way to get around that is to work with a financial advisor like Kyle to be able to move the funds from the sale of your investment property into a fund that Kyle would help put together. So, you don’t have to own an individual property. You can own a part of a larger group of properties through the Delaware Statutory Trust (DST). I highly recommend each property owner that is in that situation to evaluate the DST.”
Selling Relationship-Based and Succession Planning Businesses
Do you often facilitate the sale of businesses where the client relationships are, I guess, really important or the basis of the business? For instance, you mentioned the coin laundry earlier, that’s kind of cut and dry, but what about a marketing firm where the relationships are the important thing?
“Well, as an example, a doctor in a medical practice—typically the value is in the doctor himself—so it’s hard to sell a business if that person is going away. Similar to a sole practitioner, a plumber, electrician, they may have a lot of clients and the contracts, but if that person goes away, the business kind of goes away. So, it’s, it’s, it’s a tough sell.”
Do you manage to sell them still or do you not really focus on those? You tell them, “Sorry, tough luck.” How do you handle it?
“Yeah, in the past I’ve helped sell a couple of those, but at a significant price reduction. And today I just won’t take them on as clients just because I know it’s too difficult. I have so much other, so many other situations and opportunities that I’d prefer to work with that I know can be successful. I don’t want to sign up for something that, you know, I’m not going to be successful at.”
Have you ever worked with a succession planning where the next generation of the family is going to be buying out a parent or something like that?
“Yes, I have.”
Is it tough managing the relationship or you find that the next generation isn’t ready to take it over?
“It’s all situational, but a lot of times they aren’t prepared to take it over. They don’t have the experience or the education or more likely the desire to take it over. And so in those situations, I can help to the extent I can or recommend that potentially they should just sell it and go do something else.”
So Mike, what makes you different than the other brokers out there?
“There are a lot of excellent brokers out there. I think where I stand apart is a couple different things: my experience. I’ve done this for a number of years. I love to negotiate, and I think one of the biggest things is my persistence and my ability to work with the financing component of a deal.”
“A lot of people fail at being able to provide and talk to and work through the underwriting process that you have to go through with a bank to be able to get the loan so that you can ultimately buy the business. And so where I think I set myself apart from a lot of the competition is my financial background. I come through the financial ranks of a CFO. So I know all of what they’re looking for, and I can help the client provide that to the bank so that they can get the loan. So I find that to be a real key differentiator in my situation.”
And lastly, what’s some advice that you would give someone who’s looking to sell in the next year or two?
“Start with your financial statements and make sure you have a good accountant, bookkeeper. Make sure the numbers are explainable. Don’t take cash as revenue if you can avoid that. And just be able to tell a good story. That’s in what presence of a website, you know, that tells a lot of people that what you do, and it’s a good way to present yourself to the public. So having a strong website’s important and just having a strong Google review base, that’s another thing. The reviews are very important these days, and everybody wants to see kind of behind the scenes what that business is all about, and one of the ways to do that is to evaluate what kind of reviews people are giving them. So those are some of the things that you should be starting to look at. And then lastly, and most importantly, you should be talking to a person like myself that knows the process that can help prepare and lay out the steps that are involved. There’s probably 20 different steps that we can carve this into. And you just need to understand the process and work with somebody that can get you across the goal line.”
I was going to add to your last statement there, just having a plan, right? And making sure that not only their ducks are in a row from the finance standpoint on their books, but also what is their next step, and having that plan of what to do when they sell that business and making sure that they’re working with the right financial people, whether it’s their financial planner, their CPA, or, you know, that team approach and making sure that they’re not overpaying, you know, taxes when that sale does go through. Or, for instance, there could be a way to defer the taxes on the sale of the business. Not only a 1031 exchange on the building, but maybe a deferred sale through a trust on the sale of the business. And I’ve seen that with people that are retiring because there’s some nuances that come with a deferred sales trust to where you have to wait 20 years to pay your tax bill. And if you have a big capital gain on the sale of your business, it might make sense for somebody that might be in their 60s, late 60s, or pushing 70 that’s retiring to defer that tax bill for 20 years because they may not be around when that tax bill comes due in 20 years, because they’re at a progressed age where they’re ready to retire. They’re still in relatively good health, maybe they’re not in good health. They want to be able to pass the money down to the next generation and leave a legacy, and the best way to do that would probably be through a deferred sales trust. But you got to have all that plan in place first.
“Yes, it’s important to have a good financial team around you, including all those people.”
Contact Information and Closing
All right, thanks Mike for joining us. How can people reach out to you and work with you?
“They can call my number 813-995-3864. Google my name. I’m all my listings, both business and buildings, show up through all the various websites and obviously work with and through Kyle. He and I are part of the same networking group, and I’m pretty easy to get a hold of me if you want to get to.”
Awesome. Thank you. If you’d like more financial insights, you can visit our website at basewealthmanagement.com. You can subscribe to our podcast, watch our YouTube videos, or check out more articles. If there’s any questions or topics that you want to see us cover on the podcast in the future, send those in to us at question@basewealthmanagement.com. I’m Dustin Taylor.
I’m Alex Wolfe.
And I’m Kyle Howell. Happy listening.
