Buy the History, Sell the Future,BigRedCar
June 5th 2018
Buy the history; sell the future, Big Red Car? Huh?
Big Red Car here on a lovely Austin By God Texas day with the sun shining and the world spinning.
So, I get into a chat with a couple of CEOs, experienced chaps, who are talking about buying and selling companies.
They ask me what I think and I say, “Buy the history; sell the future.”
“What does that mean, exactly, Big Red Car?” asks one of the CEOs. He was baiting me. I took the bait.
Selling the future
When you sell a company, try to get the buyer to focus on the future wherein your revenue will be growing and you profits will come along for the ride.
Take as an example, the recent acquisition of GitHub (28MM developers use GitHub) by Microsoft Corp.
GitHub was valued at $2.5B in 2015 (VC funding valuation, which is a problem in and of itself) and MS is buying them for $7.5B in an all-stock deal. That is some incredible value multiple, no?
Backstory is that MS is trying to get back to their roots as a software company and recently killed their own GitHub clone, Codeplex. MS is also the largest initiator of projects on GitHub with more than 1,000 employees actively working projects which reside on the GitHub platform.
Still, GitHub was on a run rate to hit $200MM on an annual, basis but was still unprofitable. They were burning cash, but at a manageable rate.
Bottom line — Git Hub hit a lick by selling a $200MM annual run rate, unprofitable business to Microsoft for $7.5B.
They sold the future.
Buy the past
If you are buying companies, you will want to get the seller to focus on the past, the historic financials of the enterprise.
Let’s be clear — sometimes this cannot be done. Take a look at GitHub. Microsoft knows what they are doing — well, we assume they do — but they paid an enormous premium to perceived value. Maybe not? Only the future will tell.
Microsoft has made a huge number of acquisitions in its lifetime (more than 200).
As a buyer, you want to try to get the future for free, but buy only what is provable.
This phenomenon relies on detailed due diligence wherein you take a hard look at the accounts rather than closing you eyes and focusing on the sizzle.
Again, sometimes, it cannot be done.
This is the approach Warren Buffet takes, old fashioned financial analysis to determine revenue, expenses, profits (yes, profits), margins, and compound annual growth rate.
So, that’s it, dear reader. Buy the past; sell the future. Decide which side of the table you are on and pick the appropriate approach. Does it work perfectly? No, nothing does.