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Andrew Sherman Contact Information:

LinkedIn: https://www.linkedin.com/in/andrewjsherman/

Email: asherman@brownrudnick.com

Elizabeth Shea (00:44)

Hello and welcome to the latest episode of Branching Out! I am very excited to be here in the studio with Andrew Sherman, who has been a longtime friend of mine. We won't talk about how long. Hello, Andrew.

Andrew Sherman (00:56)

Good to see you.

Elizabeth Shea (00:58)

Andrew comes to us as a partner, a senior partner at Brown Rudnick law firm. We're going to be having a conversation about what it's like to be involved in an M&A environment. Andrew comes to us as a member of the M&A team for Brown Rudnick. I think he'll bring some very interesting perspective. So, I'm very excited to have you here today.

Andrew Sherman (01:16)

I'm excited to be here with you. It's ironic that we're recording today because I'm just on taking a break for an hour from working on the fifth edition of my Mergers and Acquisitions book with an excellent contribution from you. So, you’re giving me the writing break that I need to rest my hand and just exercise my voice.

Elizabeth Shea (01:36)

That's excellent. Well, I read your first edition and it's just terrific. It's a great Bible for anyone that's considering an M&A transaction. So that's very cool. I'm excited to see your next edition.

Andrew Sherman (01:46)

Well, thank you, thank you, thank you.

Elizabeth Shea (01:48)

So, before we start this conversation, I did have to share that I looked up your LinkedIn profile right before we got on this. And of course I've been connected to you for quite some time. And the fact that we have 737 mutual connections is quite a testament to our relationship and how much we've been involved in this industry together. Wouldn't you say?

Andrew Sherman (02:05)

It is, although I would predict a thousand for as long as we've known each other and for as many mutual contacts, I think we need to set the new bar at a thousand mutual contacts. But we got a little work to do. I don't want you to get complacent at TreeFork.

Elizabeth Shea (02:15)

We'll do that! I think that sounds great.

Okay. Well, thank you again for being on this podcast and let's just start with the basics. If you can tell us a little bit about your background, your history. I mean, you've been an attorney in this region for quite some time and very prominent. Tell us a little bit about what your day in the life of Andrew Sherman looks like.

Andrew Sherman (02:36)

Sure, so just very quick background. I actually dropped out of college in the 70s and started an entrepreneurial venture, went back to school at night and knew that I wanted to either be an entrepreneur or be a resource for entrepreneurs and growing companies. I finished up college in the early 80s and went on to law school.

When I was running my own business, I was always impressed with the lawyers and the accountancy advisors and how smart and helpful they were. And I thought, “yeah, that's not a bad way to spend my career.” So, since the mid-eighties, I've been serving as kind of an entrepreneurial growth advisor, transactional advisor and lawyer to middle market M&A. I've done some lower middle market. I've done some big public company stuff, but most of my practice is either on the sell side or the buy side. At a minimum, I play in a lawyer role. Sometimes I play in a more rabbinical role. M&A is a very emotional transaction. It's a very strategic transaction, you know, we try and make sure the client's getting the right advice.

I've been on buy side, I've been on sell side, I've been with private equity buyers, I've been with strategic buyers, I've done cross-border deals, I've done high tech, low tech, hospitality and everything in between. And of course, both of us being beltway insiders, I've done a lot of work in the government contractor space as you have. So, there's lots to talk about. And coming up on my 40th year of practice. So very proud of the career, proud of the clients I've helped exit, proud of the clients that I've grow through acquisition, which we'll talk about, you know buy versus build analysis in a few minutes.

Elizabeth Shea (04:21)

That's terrific. I do remember back when I became a member of EO, you had been a longtime participant of that organization for helping entrepreneurs grow and to prosper.

Andrew Sherman (04:33)

I filed the Articles of Incorporation for EO in 1987, and I'm still the outside general counsel, so that's another 40-year anniversary that's coming up soon.

Elizabeth Shea (04:42)

That's terrific. How fun. I love it. I love it.

Well, first let's start with some trends. What trends are you seeing today that people should be thinking about?

Andrew Sherman (04:49)

Oh God, there's so many. We're recording this session in mid-December, so everybody's looking at 2026, 2027 saying what to expect. I'm a little bit of a business news junkie. So, I always have CNBC or Bloomberg on and I'm absorbing everything and trying to figure out what I need to tell clients. I've heard pundits talk about how 2026 is about to be the most robust economic year we've ever had. I hear doomsdayers saying the exact opposite.

You know, I think the first thing to recognize is that M&A is cyclical. You know, if you're on the sell side as an example, what your multiples will be is a reflection of both your individual microeconomics, if you will, but also of the market macroeconomics.

Elizabeth Shea (05:23)

Right. A little bit of both.

Andrew Sherman (05:48)

If you're in a hot area versus a cold area, if you're in an area where private equity is already eaten up and their stomach is kind of full and they're in digesting mode, that could affect price. So, one of the first trends is this “YOLO” that started during COVID where there's a lot of baby boomers like you and I that are looking to exit their business. When COVID hit and it was bad at its peak, people were thinking of selling their businesses to pursue other things, other ways to spend their lives.

And for many entrepreneurial led companies, eighty, ninety, even a hundred percent of the entrepreneurs’ net worth was tied up in their business. That's a scary place to be. You're in the middle of a global pandemic and your entire net worth is tied up in your own business.

So, we saw a significant uptick in baby boomer and baby boomer-ish sellers that were looking to do other things with their lives. Well, here we are now a couple of years later and some have sold, some have not. Some had artificial business valuations because of the government assistance programs. And I want to come back to that in our gotcha section, cause that's more of a gotcha.

Think about it, if you were a chain of restaurants, how could you possibly get properly valued in 2022 or 2023 when no one was going out to dinner? It didn't mean your value was zero, but you had to get past the other side of COVID, stay open for a little while, prove to the market that your brand and your format was still viable. Only now, in 2025, 2026-ish, are you ready to maybe enter the marketplace.

Now, if there's an uptick in number of sellers, there's got to be a corresponding uptick in the number of buyers or valuations will be depressed. And that's where the things get murky for 2026. There's a lot of cash out there, particularly in corporate coffers. But they're a little slow to reach into their pocket, you know, kind of like when you were 16 years old and you need a little money to go out on a Saturday night, and your Uncle Harry had money but wasn't quick to offer you $10 or $20 as well. That's where buyers are right now. They're still in risk on mindset. I'm seeing it affect the deal structures and the volume of deals, but I'm still relatively bullish.

Remember that each time we get a quarter point interest rate cut like we did earlier this week, the cost of capital to the buyer goes down. And when cost of capital to the buyers goes down, you tend to see an uptick in buying because they can borrow and use the power of leverage to do acquisitions at a lower cost. I don't want to get too technical on this, but that's definitely one of the things that should — emphasize the word should — drive markets next year.

And then you get things like the impact of the tax bill and tax refunds and consumer-oriented businesses. I know you don't want to spend an hour on the AI train and the impact of AI on M&A and on companies’ business models, but it should also drive valuations. If I was a local government contractor and I had 127 people on my payroll and maybe next year, I'm only going to have 92 people on my payroll because of AI in some way — directly or indirectly — then I'm arguably more profitable. But am I? We know some businesses around the beltway where their revenue is completely dependent on how many humans they have deployed. So, it's a murky time.

It's hard to say it's a buyer's market or a seller's market going into next year. It may just be a market where a number of variables impact price and terms up and down throughout the year. 2027 — I don't know. That one looks a little weird as we get closer to the 2028 elections. If I was thinking of selling my business, I might want to try and get the deal done in 2026 and not wait just because of the potential murkiness around what the markets look like two years from now.

Elizabeth Shea (10:23)

I couldn't agree more. One of the things that I've always believed and have talked about with our clients is that sometimes you need to be ready to sell when the market's ready for you to get the highest price — potentially if that's what's important to you — versus selling when you're ready. So, I like the fact that you're looking at what the predictability might be in the future.

Andrew Sherman (10:42)

Elizabeth, that's a great point you're making. This issue of readiness is also a little bit confusing because technically speaking, you should be ready at all times. Whether you really are mentally ready is a whole other webcast or podcast. But being ready and making decisions that a buyer would make . . . the hardest thing for entrepreneurial sellers is realizing that the decision-making process may be a very different part of a larger conglomerate or larger enterprise.

You went through that yourself, if I'm not mistaken, with the transition from SpeakerBox to a larger acquirer. I'm sure the decision making looked different, budgeting looked different, hiring looked different, culture looked different. And are you making decisions?

I'll give you an easy example. You're thinking about hiring a new senior member of your team. Instead of just looking at that candidate through your eyes, maybe look at them through the eyes of the buyer. Is this a candidate that will be accretive to my value or dilutive to my value? Will this decision be accretive or dilutive?

One of the people that usually gets picked on is your CFOs. Many small enterprises finally grow up to the point where they need a CFO and yet the CFO is the first to go in an acquisition because they already have a finance department and they probably don't need more finance people, at least in some cases. Now, if it's an overseas buyer or a strategic buyer in a different vertical, then maybe it's a different story. But often the case is that every decision we make as potential sellers should be looked at through the lens of the buyer.

Elizabeth Shea (12:34)

Right, right. And I think that one of the things that we've always talked about is, how do you make sure that you're already ready and your business is ready externally as well as internally? So that's part of the premise of TreeFork is to make sure that we're talking about like, how you are demonstrating your brand to the outside world so that you're showing the value that you bring. And that may not be talking about a CFO, but to the extent that you talk about your leadership team, that's really important.

Andrew Sherman (13:01)

Right. And how do you build a culture of a company that's easily transferable? You know, in some ways it's like building a house. If I build a house and I've got very specific wallpaper patterns and very specific shelving and storage that's around my particular needs, it's harder for a buyer to walk in and envision themselves in that house. The reason realtors have you paint your house with neutral colors and, you know, want things to be as standard as possible is so that the buyer can envision themselves living there. You know, not that it's so unique to you or so dependent on you that it's going to turn a buyer off. And it's the same thing when selling a business.

Elizabeth Shea (13:50)

Absolutely. We like to say that we're the stagers for your real estate transaction.

Andrew Sherman (13:53)

Yes, you are. That's exactly the model you've built with TreeFork.

Elizabeth Shea (13:58)

Right, exactly. So, there are lot of business owners out there that are contemplating a sale or at least contemplating building their business to be ready for a sale. What advice would you give some of those folks based on your years of experience? What are the things that buyers look for? What should they be really focused on, zeroing in on?

Andrew Sherman (14:15)

Well, the hardest thing to first zero in on is — and I've shocked a lot of audiences when I've said this — it's not about you. It's not about you at all. It's about them. They're the ones writing the check. I mean, you may think it's about you, but you're going into it the wrong way.

You're selling your business to a buyer that either sees very high financial performance — and we'll talk about strategic versus financial buyers in a moment — or sees some puzzle piece that you satisfy for them. And too many business owners go in thinking, “well, I've got to do this, and I've got to do that, and I'm going to emphasize this.” No, your biggest job is to immediately do reverse due diligence on the buyer.

Say, how does buying me solve a problem for them? And not to give away the punchline, but the bigger your solution is to their problem, the more they're going to pay for getting you. You know, we're on a deal right now where an overseas buyer is literally dying to get in front of the federal government — and not just anybody in the federal government, but the Department of Defense. Well, we've got a company for sale with 18 years of past performance, very well-liked by a lot of people inside the Pentagon. And of course, they're valuable, not just inherently valuable because they've been performing on their contracts. They're valuable to that particular buyer who will give them entree to multiple channels within the Department of Defense. I refuse to call it the Department of War. I still would like to think it's the Department of Defense.

So, the value proposition that you're looking to build in your presentation materials, in your CIM, in your killer PowerPoint, in your executive summary is about how your company solves a problem or creates an opportunity or both for the buyer. And that's the number one huge piece of advice.

Number two huge piece of advice is what we were talking about just a moment ago, the intangible assets. You and I share a passion for making sure that a company monetizes and harvests and recognizes their intangibles, whether that's part of their culture, their processes, their systems, their training, all of these intangible systems that are often understated in the presentation materials that companies go to market with.

Back to the house analogy — if you sold your home tomorrow and unbeknownst to you in your attic were ten gold bars (and this is a much more powerful example with the price of gold to where it is right now) and you didn't take the time to go up in the attic and my purchase agreement says that I get everything that you leave inside your house — those 10 gold bars are mine now, not yours.

And it was your responsibility to go up into that dusty attic and see what you had up there before conveying the house! One of the things that we try and focus on well before the company goes up for sale is where are those Rembrandts in the attic? Where are the intangible value drivers that a buyer will find valuable but isn't going to pay for unless you point out to the buyer that they exist?

Elizabeth Shea (17:54)

Right, right!

Andrew Sherman (17:55)

If the gold bars are up there and you know it, you can include the price of the gold bars in the price of the company. But if you're unbeknownst . . . here's one thing that will never happen, I'll bet you my entire 401k this never happens. I'm your buyer, you're the seller, and there's ten gold bars in your attic.

“Hello, Elizabeth? Yes, I know we agreed to a purchase price of $10 million, but it turns out there's ten gold bars in your attic. So, we're going to have to upwardly adjust the purchase price to $14 million. Is that okay with you?”

If you believe that phone call happens in real life — boy, have I got Swamp Land in Florida to sell you, because you are a gullible seller! If you've built things of value that solve problems or create opportunities for buyers, it's your job and your advisor's job to help you put those things on display and make a big deal about them in the company because that's where true inherent value happens.

Any company can create streams of EBITDA. Any company can multiply that stream by a number that hopefully yields enough value. That's the easy part of business. The hard parts are recognizing what intangibles that we can't see or touch have we also built that will also add value to the M&A process.

Elizabeth Shea (19:24)

And that the buyers see a valuable asset. I think that's really the key — and that's why we talk about wanting to make sure that you not only showcase those, but you know what they are to begin with and you know why a buyer values them.

Andrew Sherman (19:37)

And know that they have value!

Elizabeth Shea (19:39)

Right, and know that they have value because I think it may not appear on a balance sheet anywhere, but it's just as valuable to a buyer, potentially if it's something that they're looking to do.

So, you touched on strategic versus financial buyers and just the differences and the nuances around that. We talked from a communications standpoint that you want to be marketing yourself differently to a strategic buyer than a financial buyer. Can you talk a little bit more about how you've seen that happen in real life?

Andrew Sherman (20:03)

Well, in real life, financial buyers are quants. They want to buy something for three dollars and sell it for six dollars. You're either worth three dollars or you're not, and you're either going to be worth six dollars or you're not. The gap between three dollars and six dollars is something that . . . of course not that all financial buyers are egotistical, but some of them are. They've been to the fanciest business schools around the world, and they think you don't know how to get to six dollars, but we do.

And they either see that pathway to $6 or they don't. And if you're intent on selling to a pure play private equity — not a hybrid buyer, because there are hybrids out there now — you've got to have a strong financial value proposition. And you've got to be able to demonstrate the pathway to the math that the financial buyer will find attractive.

One way to think about it is financial buyers are looking to date you. Strategic buyers are often looking to marry you. And you might dress differently for the date if it's going to be a one-date or two-date situation than if you're looking to get married for the long term. And that is really the critical difference. We're looking at a strategic buyer right now that's situated into our neighbors in the north or a Canadian company. They've bought dozens of companies. I'm not aware of anything they've sold.

They are buy and hold, buy and hold, buy, hold and build. And so, they're more interested in, how do you as a strategic seller fit within their portfolio of companies? What cross selling and upselling and synergistic opportunities will there be? How do you fit within their strategic puzzle piece? It's a very different value prop and presentation to your exact point if you're selling to a quant that's just interested in the quant part.

And also, some of the intangible value drivers that we were talking about a few minutes ago may be of less interest to the quant because they'll say, “well, your culture is interesting, but can it drive profits? Your distribution channels are interesting, but can they drive profits?” The strategic buyer is more likely to give you credit, if you will, for these intangible assets as long as they can eventually be monetized or add value in other ways to a strategic buyer.

Elizabeth Shea (22:38)

So, is there any difference from a legal standpoint or from a transaction standpoint that you've seen that people should be aware of?

Andrew Sherman (22:47)

Yeah, it gets into the guts of the purchase agreement, which, unless anybody's listening to your podcast as a sleeping pill, I don't want to get too far into. I want to keep it upbeat. But, remember that M&A is a gigantic game of hot potato. Do you remember the game Hot Potato as a kid? I don't know if all of our listeners will remember Hot Potato, but Elizabeth and I do.

It was a game where you'd throw the ball around in a circle and when the teacher blew the whistle and you still had the ball, you were out. And that's the way it is with M&A and risk allocation. You're negotiating risk back and forth, back and forth. And then when the teacher blows the whistle — which is basically the lawyer reaching the closing documents — you're holding that risk or you're not holding that risk. And there's a lot of risk levers like indemnification and earn outs and hold backs and other things that buyers do to mitigate risk.

So, a financial buyer will have their categories of risks — unpaid taxes, balance sheet adjustments. Their risk hot potatoes are going to be different than strategic hot potatoes. For strategics, it might be deeply testing the strength of those relationships at the Pentagon. It might be deeply doing due diligence around your track record and past performance because they want what they're buying. If I was buying your house because you had a beautiful, beautiful outdoor area and swimming pool and you decide to knock that all down prior to selling your house, then you just destroyed the value proposition! I was so excited to have all those backyard parties and relax in my new backyard and you just sealed the pool with cement.

So, there will be different structures, different financings, different valuation methodologies between the two types of buyers. It's your job as seller to understand those things and to surround yourself with people that understand those things. The right team can make or break a transaction and give you very nuanced advice on the differences between the two types of buyers that can really make a difference.

I remember one transaction I worked on a few years ago, the seller was happy with a $40 million purchase price. I said it wasn't enough. We went back and forth. We punched out some of their intangibles. The purchase price was just under $400 million. So, you know, these are real dollars that can be had when you do things properly.

Elizabeth Shea (25:24)

That is a perfect segue and a great story by the way. Wow. That's a perfect segue to a question that I have about — when is the right time to engage a team and who needs to be a part of that deal team? Because I've heard some people go at bat without having any representation either legally or with a business banker, investment banker. What's your advice on when you should engage?

Andrew Sherman (25:54)

If you're listening to this podcast with interest and you're on the edge of your chair, the time is now. If the things that you and I are talking about are resonating, it's good time to get the right lawyer, the right accountant, the right strategic advisor, and then really understand the value proposition of a TreeFork.

That advisory team will pay for itself 10- and 20- and 30- times over if they're engaged. You may say, “well, I have a lawyer.” Yeah, you have a lawyer that did your trust in a state. You have a lawyer that handled a small commercial dispute that you had. That's not the same as having an M&A lawyer. “Well, I have a bookkeeper.” Okay, a bookkeeper is not the same as having a prominent — it doesn't have to be a big four — but a prominent accounting firm that when they do the financials for your company, a buyer is going to trust those financials or do a quality of earnings analysis around those financials. They need to stand up with integrity and the more they stand up, the less negotiation there is in the letter of intent. The investment banker and their role in the transaction and making sure that their value proposition is clear.

The same advice goes — we've been a little heavy on the seller so far — for buyers. There are hundreds if not thousands of businesses just around the beltway that are stuck and hitting this growth glass ceiling and they're not going to grow organically or not at the pace. So, they default to traditional MBA analysis of buy versus build. You will find that if you run a good buy versus build analysis that it's often cheaper and faster and better to grow through acquisition than to grow organically, especially if you're hitting growth ceilings over and over again.

And look at the assets that you pick up, look at the assets that your buyer acquired when your company was for sale. I'm going to make you blush now — I don't know if the listeners can see this — but they couldn't just create an Elizabeth Shea robot. The only way to get access to Elizabeth Shea was to buy her company.

So, until cloning becomes more prominent, if it's people assets that you need, and you're not able to recruit them, you're going to acquire them through M&A. So same advisory team on the buy side with one exception, and that is that on the buy side, you've got to know where your financing is going to come from. So, a great commercial banking relationship. If you're going to be using leverage or access to private equity or family business offices, there's almost a whole second podcast we could do on great best practices for buyers. But, those are some of the tips for buyers.

Elizabeth Shea (28:54)

I'm going to take you up on that! I literally had a guest that talked about the fact that there are some pieces of advice that she would have liked to have given to buyers because, her process was such that she thought, if we had done X, Y, Z . . . So, we're going to have to come back to that. We'll do it. We'll do it on the buy side.

Andrew Sherman (29:09)

No problem, we could even do a panel discussion, and I'll be happy to share the mic with her.

Elizabeth Shea (29:14)

I love it. love it. Great insight. This has been fabulous. So, I want to talk a little bit about some gotchas. Like what are some gotchas? You alluded to one of them earlier in the area of government assistant programs.

Andrew Sherman (29:26)

Yeah, let's talk about that gotcha real quick. Many, many, many companies, and for good reasons, took PPP (Paycheck Protection Program) and EIDL (Economic Injury Disaster Loans) and ERC (Employee Retention Credits) throughout COVID. And I get that. Believe me, I'm not trying to play Monday morning quarterback. But your business models were affected by that assistance. And the question that's got to be asked is, what is the inherent performance of your company without those things? One of the big gotchas that a couple of recent sellers have not figured into the mix is the EIDL loans are not transferable to the buyers. Those have to be paid, and the SBA (Small Business Administration) has to approve the transfer.

So, when these programs are being heavily marketed by the government as a solution to you keeping people employed and keeping your businesses open — and many of us ate up those programs like Georgetown Cupcake — they're now paying the price of accepting that assistance because companies are saying, “you say you were profitable in 2022, 2023, but let's back out the PPP. Let's back out the ERC.” And all of a sudden, you look very naked. So, making sure that if you did accept any of these programs, that you've run your financial forecast and you've run your financial reporting, taking those programs into account.

And also, there's a reverse process called a recast. Let's say that during the time you had SpeakerBox, you were running certain personal expenses through the company, but a buyer wouldn't be running those expenses through the company. You can add back those expenses to the profitability of SpeakerBox because those wouldn't be applicable if you were already under the umbrella of the buyer. So, make sure that if you're backing out profitability due to PPP or ERC, you're adding back in profitability if your accounting and law firm take you through a recast process.

Elizabeth Shea (31:38)

Right, right. And that typically is part of the process just to make sure that there's some realistic financials moving forward as a combined entity.

Andrew Sherman (31:44)

Yeah. One other quick gotcha — I know we're running short on time — is being crystal clear on post-closing expectations. That is a definite gotcha. I know it's one of the questions you have for me coming up and we'll talk about it again, but I can't tell you how many disconnects I've seen between what a buyer expects from the seller after closing and the seller has already bought a condo in Florida and their golf lessons. There could be real disconnects between what you want out of life as a seller and what the buyer wants out of you as a buyer. And everybody's got a story around that one.

Elizabeth Shea (32:23)

Everyone does. It's really interesting. And they're not all horrible stories. They're just stories and their differences of expectations and what to expect. So, when you consult with buyers or with sellers, how do you advise them as to what to expect?

Andrew Sherman (32:37)

Well, that's a fantastic question. I usually get more holistic than a client would expect. If the real reason you're selling your business is so you can be in Arizona more often with your dying mother, then let me know that. Because then I don't want to commit you to a 60-hour a week consulting contract in Pittsburgh if you need to be in Scottsdale and the whole reason you're doing this is to be in Scottsdale because your mother may only have a couple years left.

Tell me if you're having health issues, if you're in the middle of a bitter divorce, if you yourself are fighting some illness. We had a deal in New Jersey where the guy had dreamed for 40 years of selling his business and providing those resources to his children, and he died in the middle of the transaction. He never got to get to the closing table. And it was very emotional for the family. They still got the proceeds, but dad wasn't sitting at the closing table with them, and they almost derailed the deal as a result. So, if there's personal external factors motivating the transaction, make sure your advisors know about them.

And here's one more. Do not, do not, do not hide the poop under the rug. The buyer will find the poop and then make a big deal of the fact that you tried to hide the poop under the rug. If there's poop under the rug, lift up the poop — get one of those plastic bags in your hands like all the dog walkers in DC have — and let's clean up the poop together. Don't think that I've got some ugly things about the company and if I don't tell the buyer, they'll never find out. That's not how the process works. And remember, people like me are paid on the buy side to find the poop under the rug and then make a really big deal out of that, even if it was a minor poop from a little poodle. It's going to be made into German Shepherd-sized poop by the negotiating team.

Elizabeth Shea (34:33)

Yeah, well, at the end of the day, it's about trust. And if a buyer is going to be acquiring your company, they need to know that there's trust and that there's transparency.

Andrew Sherman (34:46)

And the minute that trust is breached, a smart negotiator will lean on that breach of trust on almost every open deal point. And that's not a happy place to be if you're a seller.

Elizabeth Shea (34:59)

That's very true. Okay. So, what's one more piece of advice you can give to end this on a positive? We can keep going!

Andrew Sherman (35:04)

Oh! Here's a good one that we can definitely talk about. So, there's a trend in M&A deal structure to impose on the seller what's called rollover equity. It's really been with both strategic and financial buyers, but particularly with financial buyers.

So, Elizabeth is thinking of selling her company for $10 million. I'm just making up a random number. The term sheet comes in at a $10 million valuation. And you're like, “oh, that's perfect! That's exactly what my financial advisor told me I need to retire!” Except it's not $10 million. It's actually $8 million because $2 million is going to be rolled over into equity. Oh, and then it's not $8 million, it's $7 million because a million is going to be in a holdback. Oh, wait, it's not really $7 million. It's $5 million because there's a $2 million contingent earn out that may or may not be met. And after taxes, you're sitting on $2.5 million.

And so that $10 million on paper, which looked very good when you first opened the email, just became $2.5 after taxes. And if you're trying to get your affairs in order, and you know you need a certain nut to do retirement, make sure you're factoring in roll over equity, which could be very illiquid. Hold backs, which may have hits against them before they're released from the pro. Earn outs, which may never come true.

There's a little bit of funny math that goes on because entrepreneurs tend to focus on top line numbers more than they focus on bottom line numbers. Make sure your advisors are telling you what could happen to the purchase price over time. And if there's rollover equity — this is the point I really want to get to — make sure you're doing reverse due diligence. Who are these people? Do I want to roll $2 million of my purchase price into their entity? Do I trust that I'll ever get liquidity out of that 2 million?

One last issue, I know we're running late, is there are a lot of financial buyers who are not themselves capitalized. When we think of private equity, we think of BlackRock and Carlisle and KKR and people quite literally sitting on tens of billions of dollars in cash. If they go to the bank to borrow, it's just because they're using the power of leverage. But there's also a bunch of pledge fund buyers. So, these are buyers with fancy names. They usually are the name of something from nature and a color. So, Greenbird Capital.

Well, Greenbird Capital is some guy sitting in his boxer shorts in his living room who's unemployed, but he's running around as Greenbird Capital trying to buy companies. And if you say yes and sign a letter of intent, he's gonna go try and raise that money. And he may or may not actually raise the money, but you think you have this great offer from Greenbird Capital! Greenbird Capital, cracking myself up . . .

Elizabeth Shea (38:19)

Hahaha, you crack me up!

Andrew Sherman (38:20)

And it's a guy in his underwear! So, make sure that your financial buyer is properly capitalized and can afford it. It's no different than somebody walking into your beautiful home in Potomac and signing a real estate contract to buy it and has $5 to his name. It may be a signed purchase contract, but they're not going to be able to get to closing anytime soon. So, beware of Greenbird Capital of guys sitting in their underwear and their living room.

Elizabeth Shea (38:55)

No, that's great advice because it does happen. And we have often talked about really considering the people that are actually acquiring you and doing the deals. That’s one of the pieces of advice that I've had from some other guests has been like, look at the buyers too and ask more questions. It's really important.

Andrew Sherman (39:11)

Yeah, due diligence is a two-way street. And I think that's part of the TreeFork value prop. If you're going through the preparation process and the discipline that you put companies through as TreeFork, then why would you not exercise the same discipline in looking at your buyer candidates?

If you're a typical midsize, lower middle market company in and around the beltway, and you've got one hundred or two hundred or three hundred people working for you, those three hundred people are counting on you to do your due diligence on the buyer, because that's where their job's going to be! And if you care about your people and you care about your culture, and you want them to get excited about the acquisition, then it's really your fiduciary duty as a steward to do pretty extensive reverse due diligence.

There's a deal that is about to close, hopefully by December 31st, where the sellers chose the better fit and left some money on the table because for their people, that was a better buyer. That's what true stewards do. It’s not just about them — it's about the fit for their people, the future and career opportunities for their people. It's not the first time I've seen a seller generously walk away from slightly more cash because of a better strategic fit.

Elizabeth Shea (40:22)

Absolutely. Absolutely. I actually have a gentleman on my advisory board who did exactly that a few years ago and said, it was just the better deal and a better suitor. And, he was very happy about that. It was a very successful.

Andrew Sherman (40:51)

And ultimately — this is a small town, everybody knows each other. Your legacy is your brand, and you'll get remembered by that. People will talk about you ten and twenty years later that they used to work for you and you didn't try and squeeze every penny out of the buyer, and you put the needs of the employees ahead of your own. And man, I'll tell you, when my day comes, I would want that to be my legacy more than, you know, that I jumped over a dollar to get a penny.

Elizabeth Shea (41:23)

Right, right, I totally agree. Well, fascinating!

Andrew Sherman (41:28)

How do we do? We did okay?

Elizabeth Shea (41:30)

I think we're doing great. We're good. I think this is very, very interesting information and fascinating content for our listeners today. So, I really appreciate it.

Andrew Sherman (41:39)

All right, well I hope that all of your listeners have a wonderful set of holidays and they benefit greatly from this podcast. And naturally, if you need me or need to just bounce an idea around, all of my information's on the Brown Rudnick website or my Amazon author page or even my Wikipedia page.

Elizabeth Shea (42:02)

I mean, if you want to check out your Amazon page, it's quite prolific!

Andrew Sherman (42:07)

Yeah, there's plenty of good stocking stuffers on the Amazon page if you like giving business books as gifts.

Elizabeth Shea (42:15)

Yes. And anyone can find you on LinkedIn as well. Look for your 29,000 followers!

Andrew Sherman (42:18)

Absolutely. Yep, there's still room. I've still got a few spots left!

Elizabeth Shea (42:24)

Andrew, it's been a pleasure. It's been a pleasure knowing you for as long as I have. You've been greatness to this community. So, thank you so much.

Andrew Sherman (42:31)

Our friendship has been a blessing.

Elizabeth Shea (42:34)

Okay. All right. Thank you.

Andrew Sherman (42:36)

Bye bye.