The Argument for Self-Funded Search

ordan Carter and Robert Graham formed Search Investment Group (SIG) to fill a need they both experienced as self-funded searchers.

Whereas searchers using the traditional search fund often operate within an ecosystem of their investors and/or business school, the resources available to self-funded searches are fewer.

It’s a more solitary search.

Regardless, Jordan and Robert are big advocates of self-funded versus traditional (see the first takeaway below), and through SIG they offer services to self-funded searchers that they missed during their own searches: advising, deal sourcing, negotiation, financing, and ultimately transacting.

You’ll learn a lot in this episode from a couple of self-funded searchers who have strong opinions about how entrepreneurs should buy a business.

Acquisition Tips from the Episode

Top takeaways from this conversation

🧍 Self-Funded Over Traditional

Jordan and Robert, both self-funded searchers themselves, believe it’s the superior model.

You get to keep a much larger percentage of the acquired business, which can often result in a better financial outcome. (The very best traditional search fund acquisitions are actually the biggest successes, but these are outliers.)

Perhaps more importantly, you retain control of your destiny. Since self-funded results in you owning more than 50% of the business, you are the majority shareholder and decide when or if you want to sell, whether you want to grow aggressively or just cash flow the business, etc. The big strategic decisions remain yours to make.

Contrast this with a traditional search, where the average searcher achieves 22% ownership of the acquired business (according to Stanford stats cited by Robert), and there is an expectation that you will exit the business within a certain number of years.

Also, under the traditional search model, the searcher can be removed as CEO by their investors. (Not common, but it has happened.)

🎩 Buy Bigger

Jordan & Robert encounter searchers who want to “buy small” for their first deal and acquire a business that, let’s say, sells for $1M and generates $250k to $350k SDE.

This is often because the searcher lacks the confidence to acquire a larger business of $750k or $1M in EBITDA.

“We do hear that a lot. A lot of people look at a million-dollar purchase price and go, ‘Wow that’s a big investment, and I want to make sure I prove myself on that one, then maybe I’ll do a bigger self-funded search deal later.’”

Jordan advises against this.

“I will tell you that buying a business anywhere between $3M to $8M purchase price still feels absolutely tiny. These companies are really small...You’ll find once you step into that company, let’s say it’s a $5M purchase price, it’s not more than you can chew. You’ll be just fine.”

The other problem with businesses generating $300k or less is that that isn’t enough to enable you to grow.

“I think very quickly, after even 60 to 90 days of being the new owner of that business, if anything you’ll be like, ‘Wow I wish I could have more. More staff, more resources to bring to bear.’”

💰 Turning $200k into $4M+

The other big reason bigger is better: it’s a more efficient use of your capital.

Let’s say you have $200k to put toward your acquisition.

You could use that money alongside an SBA loan to acquire a $1M business (purchase price) that you own 100% of after paying off the SBA loan over 10 years.

Or, you could put $150k toward funding your search & deal costs for a $5.5M business, leaving you with $50k to put into the transaction itself.

You finance 90% of the purchase price with the SBA loan ($4.95M — right at the SBA limit) and raise the other 10% ($550k), including your $50k. Even by only putting $50k of your own money into the deal, it will be structured such that you own 75% of the business.

So instead of using your $200k to own a $1M business after 10 years, you’ve used it to own 75% of a $5.5M business, or $4.125M in equity value.

And, the smaller business came with more challenges.

After 10 years, explains Jordan, “You’ve put in the same effort potentially, you’ve had more headwinds, you’ve had a tougher time recruiting people, you can’t invest in the projects you know you want to invest in.”

💸 How Much Money You'll Need

The aforementioned $150k in search & deals costs — this is an important component of a self-funded search. Indeed, it’s where “self-funded” gets its name and is the key differentiator between the self-funded and traditional search models.

Robert estimates that you should allocate: living expenses for 2 years (average time for a search), plus $50k for broken deals, plus a little cushion. So the final figure depends mostly on your own personal overhead.

What does $50k for broken deals mean?

“You should have cash set aside for a couple deals to go sideways,” says Jordan.

You’re highly unlikely to close on your first attempt; deals fall apart. Jordan didn’t close until his third try. “I had some heartbreak. It happens.”

Robert says to expect at least 1 or 2 broken deals. Assume that full due diligence and quality of earnings cost around $50k, but that you only spend half of that, or $25k, when a deal falls apart. So if that happens twice, you’re at $50k.

🗺️ Be Prepared to Move

In the traditional search model, you’re expected to be willing to move to wherever you find the right target acquisition.

Is the same true in self-funded?

Yes, at least if you want to work with SIG.

“The chances of success in the search fund world are limited — period,” explains Robert.

“If you look at the Stanford study, and the Stanford study is just based on traditional searchers, who are all looking nationally for the most part, all usually have pretty good backgrounds because they’ve been able to raise half a million dollars to search, and have a full two years to do it, and plenty of resources at their disposal — and one of out three doesn’t find a deal.”

Then, of the searches that do come to fruition, 50% of those don’t provide adequate returns or fail outright.

“So your chances of success in the traditional world, according to the study, which is the best data we have, is about 33%. So, if you limit yourself to, I want to live in Houston, I’m only going to search in Houston, that just hurts your chances that much more.”

🧒 No Deal Experience? No Problem

Many entrepreneurs considering buying a company are intimidated to find a lot of professionals with financial industry experience in the space, especially former private equity types.

These former PE pros have years of M&A experience analyzing industries, sourcing deals, evaluating businesses, and negotiating.

Not to worry, insists Jordan.

Just the opposite, in fact.

“Some people come into it with private equity backgrounds, but we actually believe that sometimes can be a detriment,” he explains.

“Because you try to bring in all those key learnings from middle market private equity where everybody is super sophisticated, knows the whole deal of how to do a transaction.”

But the size of company that searchers are looking at are different. Most sellers, for example, will never have sold their company before.

“This micro-cap market is uncharted territory in many ways.”

👩‍🎓 What Makes a Good Searcher

There are 3 things that Jordan and Robert look for in searchers they might partner with:

Humility
Ability to learn fast and adapt and integrate outside learning.
Hyper focus on actually closing a deal.

Number 3 is particularly important. Searching has a binary outcome: either you buy a company, or you don’t.

“It takes that attitude and that openness and willingness to get outside of a comfort zone to make sure you get this win,” says Jordan. “You have to be focused purely on that. We firmly believe that.”