The First Deal I Lost to a Memory

The deal was real. Eight figures, an optimal structure, capital identified and sitting at the table. We were far enough along that the investor group was assembled and the checks had names on them. Then the seller walked.

There was no blowup in diligence and no skeleton in the earnings. The business was what he said it was, which is rarer than it should be. He walked because of a number, and the number was minted in 2019.

I have lost deals to quality of earnings, to timelines, to competitors with faster money. This was the first one I lost to a memory.

Where the Number Came From

Every owner has a number. Somewhere back down the years, at a conference or across a dinner table or inside a banker's teaser for a competitor's sale, somebody said a figure out loud and it stuck. Multiply your earnings by eight. A guy two towns over got ten. The number arrives casually and then it never leaves.

His arrived in 2019, and if you wanted to mint a permanent number, 2019 was the year to do it. Debt was nearly free. Multiples in the lower middle market were the highest anyone had seen. Buyers outnumbered good companies and bid accordingly. A valuation spoken in that year was honest. It was a reading off a real thermometer, taken on the hottest day of the decade.

By the time we met, the number had hardened into the retirement plan. His wife knew it. His accountant had built projections on it. He had repeated it so often it had the texture of a fact.

There is a second thing that happens while the number sits. He spends it. Never literally, but the number gets allocated all the same: the lake place, the piece set aside for the kids, the pledge he intends to make good on once the sale goes through. Each year the number sits unchallenged, it picks up another commitment, until the figure a banker tossed off over dinner is carrying a whole retirement on its back. A buyer who shows up with a smaller number is no longer negotiating over a company. He is asking a man to take furniture out of a house he has already moved into.

He had repeated the number so often it had the texture of a fact.

Paul W. Swaney III

What Changed and What Did Not

Between the year the number was minted and the year we sat down, the cost of a borrowed dollar roughly doubled. Every turn of leverage got more expensive, and since leverage is where a buyout's price lives, the math moved for every buyer in the market at the same time. What an honest buyer could pay in 2019 and what an honest buyer could pay across the table from me were different numbers for the same company. Nobody did anything wrong. The thermometer came down.

The arithmetic is dull and merciless. A buyout price is mostly borrowed money, and the same cash flow supports far fewer borrowed dollars when each one costs twice as much to rent. Every disciplined buyer's ceiling came down together, quietly, with no announcement and no single day you could point to. To a seller it looked like every buyer in the market had agreed to lowball him at once, and in a sense they had. The agreement was arithmetic. The company stayed sound while every ceiling above it dropped.

Here is the part that made it hard. The business had grown. Revenue was up, the team was deeper, the customer list was better than the one the 2019 number had been quoted against. He had done everything right, and the market repriced his company anyway. Our number landed on him as a demotion.

I spent longer than I should have trying to structure my way across the gap. A seller note here, an earnout there, rollover sized to give him a real second bite. Structure is the reflex when price will not close, and I kept reaching for it. None of it worked, because the gap was never financial. The extra few million was never really the point either. He needed the number he had been telling himself for five years to be true, and no earnout pays that.

The Walk

The call, when it came, was gracious. He did not renegotiate, did not shop our terms, did not send the banker back in for one more pass. He said the timing was not right, which is what sellers say when the price of selling is admitting the old number is dead. I thanked him and meant most of it.

I want to be careful with the tone here, because it would be easy to write him as a fool and he was not one. He built something real. The discipline that built it is the same discipline that held the number. Owners who cave quickly on price have usually been caving quickly on things for twenty years, and it shows up in the company. The stubbornness that cost me the deal is part of why the deal was worth chasing.

I can spot the anchored seller earlier now, and the tells show up in the first meeting. He quotes what a competitor got, and the exit he cites is always from the old world. He asks about price before he asks about process, and he asks nothing at all about what happens to the company afterward. The owner who is actually ready asks who will run it, what changes in year one, what happens to the people. The owner still guarding a number asks only what you will pay, because in his mind the sale already happened years ago, at a different price, and you are the paperwork arriving late.

A seller anchored to an old number is not ready, and no amount of process makes him ready. The market has to finish the argument, or time does. Usually it takes both.

Why I Could Afford to Lose It

A fund facing this seller has a clock problem. Capital deploys on a schedule, the pacing model wants the platform closed this year, and somewhere in the machine there is pressure to bridge the valuation gap with optimism. Some of the worst deals in the lower middle market are old numbers that a fund eventually agreed to pay. Three years of underperformance later, everyone remembers why.

I do not have that clock. When he walked, I could let him, because there is no vintage year demanding I win the argument on someone else's timeline. I did not chase, and I did not make the walk expensive. Some walked sellers come back, and the ones who do come back to whoever kept the door open without leaning on it.

There is a version of this piece that scolds sellers about market realities, and every banker reading this has drafted that speech a hundred times for clients still living on the hottest day of 2019. I am not writing that speech. The owner will get there or he will not, and the business is his until he does.

The market finishes this argument with every seller eventually. When it finishes with him, he will find my number has not changed.

Paul Swaney is the founder of Swaney Group Capital, a fundless sponsor focused in the lower middle market. LeverUp® is published weekly. More if I have something else to say.