Dear Fellow Shareholders, What a difference a year makes. Rewind the clock to 2020-2022. Crypto was surging, SPACs were peaking... But as with all cycles, they come to an end.Well, it’s 2023 and now our strategy is back in vogue. Thankfully, we’ve spent the past 3 years flying mostly under the radar, and now own a group of companies that generate $95 Million in annual revenue and (redacted) Million in cash flow.
As we dive into the update, it is worth reiterating our commitment to our shareholders. Our business model is:
- Buy quality cash flowing businesses at fair prices
- Recruit, support and properly incentivize top leaders to run them.
- Keep overhead, bureaucracy and stock-based compensation as low as possible.
- Redeploy generated capital into #1.
So what happened in 2022?
We strengthened our balance sheet. We set out to raise (redacted) Million in equity, but ended up over-subscribed at (redacted) Million. The share price was a 400% increase over our previous round, reflecting validation from the market that we’ve built shareholder value in the past 3 years.
We will use the money for future acquisitions, and have a buffer for any rainy day/rainy years.
We also now have ~100 new shareholders directly (and 500 indirectly via SPVs) who can bring us deals, help diligence in areas of their expertise, etc.
This is a huge win for us.
We did all of this while keeping our headcount very lean at Enduring Ventures itself. We still have five full time employees, including your two founders. Stock-based compensation for our team remains at $0. Taking a cue from Constellation Software, members of our team have to buy stock at market price with half their bonus if they want to be a shareholder.
Business Acquisition Updates
We acquired four new companies, and now have a total of 19 companies in our group.
One exciting update (but warning, it’s a tease) is an investment we made for $(redacted)M that is seeing a 36% cash on cash return(cash flowed from month 1). The business has no debt, and is strong enough that we think it can generate free cash flow while growing earnings 100-200% per year. We love the team, we love the business…BUT we are keeping this in stealth for the time being because we prefer less competition to more competition, and readership of this letter has grown.
In our next acquisition, in March of 2022, we partnered with Tiny to acquire and turn around Abstract – a source control tool for visual designers. We run the business day to day and bought 30% of it. The business’s profitability went from losing a substantial amount to making a substantial amount in our first year after taking over management (wish we could be more specific publicly…). The Enduring Technologies team ran the turnaround and today operates the business day to day. Our net equity investment here is zero, as we were able to return our acquisition capital within 30 days of the acquisition.
UpCounsel made a bolt-on acquisition in the legal space for $(redacted) Million of cash and stock. The company grew 500% in the year before the acquisition. We believe this could be one of those situations where the acquired business becomes larger than the original business that bought it. We are especially pleased about this because it was funded entirely from the UpCounsel balance sheet. Our original (redacted) equity check has not only bought us UpCounsel itself, but a second high-growth company through the magic of compounding cash flow.
We acquired Big Island Motorcycle Company, a motorcycle and beach gear rental business in Hawaii for $(redacted). The wonderful sellers of this business financed 2/3 of the acquisition and handed off the business in perfect condition. They even kindly recruited Big Mike, our general manager, before departing. In our first year, this business generated $(redacted) in EBITDA. We have already substantially paid down the seller financing and will soon own this business debt-free. We highly encourage you to fly to the Big Island of Hawaii to check on your investment. For shareholders, first hour of rentals is on us.
Finally, the Enduring Technologies team acquired and relaunched Jyve, which previously reached $25 million in revenue. Jyve 1.0 was a victim of some bad timing and was put into liquidation in 2020. A chance connection to the company’s founder spurred a resurrection of Jyve 2.0 via a purchase of its assets. What we saw was an exceptional concept, some fantastic software, but a need for a more measured and cash flow-disciplined rollout. We were able to recruit two members of the previous team to join us to relaunch the business. This acquisition was funded from cash flows generated by our other technology businesses, so it did not require new equity. This one is early, but please keep an eye on it.
Our Overall Financial Performance
Our operating companies delivered $95 Million of revenue for 2022 and $(redacted) Million of operating cash flow.
It is important to note that we are minority owners in some of these businesses. All but one ran cash flow positive without the need to inject additional capital. As you can imagine, we are very grumpy about the one that did not. We primarily reinvested the cash generated by our businesses in the following ways:
- We funded executive teams focused on broadband, home services and technology. This totaled $(redacted) Million in expenses. These teams are responsible for sourcing new acquisitions, providing specialized skill sets to their companies and (in some cases) raising capital. These reduce profitability of our consolidated financial statements, but we look at them as long-term growth investments.
- We invested approximately $(redacted) Million in capital expenses. This included higher-speed networks for our broadband business, trucks for our HVAC companies and motorcycles to rent for Big Island.
- We strengthened our balance sheet. As of writing, we hold approximately $(redacted)million on the balance sheets of our majority-owned companies.
- We made additional acquisitions as outlined above.
- We spent $(redacted) Million on the core team and operations at Enduring Ventures.
- We paid down acquisition debt.
As you read the company updates, you will note that we are not directly referencing EBITDA as a performance indicator (despite many of the businesses having impressive EBITDA). We consider EBITDA a poor measure of business performance for our purposes. If we spend $1 upgrading our broadband network, it doesn’t lower EBITDA. But if we pay that same $1 to bring in an exceptional CTO, it lowers EBITDA, thereby making our performance look worse. Yet both expenditures are investments and both mean there is $1 less in the bank account.
Taking this further, depreciation is a real expense, as anyone who has flown United or rode a Lime scooter can attest. Taxes are a real expense. Interest is a real expense. What matters in the end is how much more money is in our bank account at the end of the year than the start, after taking care of all our responsibilities and investing in the future.
We are going to work in 2023 to do a better job in our reporting of identifying what is “essential” spending to maintain the current level of earnings of a business and what is “growth” spending (building managerial capacity, IP, or buying capital equipment).
We have also stopped looking at EBITDA as a useful measure in analyzing the attractiveness of an acquisition, focusing instead on non-cyclical free cash flow after maintenance capital expenditure. Our ability to accurately measure and diligence this number will be a much greater measure of our satisfaction with an acquisition in the future.
How Our Thinking Has Improved
2022 was an exceptionally dangerous time to buy a business. Many companies achieved unusual results in 2021 and 2022 that are unlikely to be repeated. Not surprisingly, they are trying to sell at multiples of peak earnings. Supply chain shocks rippled through countless industries in a myriad of unexpected ways. Low interest rates enabled consumers to finance larger home projects than they could afford out of pocket. Many real estate markets and adjacent businesses went through unprecedented booms.
We handled this environment by keeping our focus on the fundamentals, saying a lot of quick no’s and a few more lengthy no’s after extended diligence. In total, we reviewed over 1,000 potential acquisition opportunities. We expanded our pipeline and recruited a dedicated analyst to hunt for needles in the haystack of businesses for sale. We continue to favor businesses with low to moderate capital intensity, high recession resistance, low customer concentration, obvious areas for improvement and scalable business models.
We have gotten very interested in the notion of mini-moats. When you have a billion dollar balance sheet, you can pay up for a national or global moat, such as unique IP or a well-known brand. When you are somewhat smaller, you don’t have this luxury. Yet to compound capital, you need to own businesses that are at least somewhat protected from intense competition for long periods of time.
A mini-moat is a localized or specialized moat that discourages new entrants. As an oversimplified example, take the only ice cream shop at the zoo. Perhaps there is a long-term lease in place that precludes other ice cream shops from being established nearby. On a hot day, that business has exceptional pricing power and no marketing cost. Going one step further, let’s suppose the company has deep industry knowledge around leasing concessions within zoos. They have proprietary data on what kind of revenue you can expect and what sort of terms are reasonable. It would be very difficult for another small business to compete directly. However, the market is too small to attract national corporate competitors. This is the sort of micro-moat that can sustain indefinitely.
We can safely admit that we entered the world of small business acquisition a bit naively (is there any other way?). Superficially, the prices of 3-5x cash flow seemed almost too good to be true. Having the benefit of hindsight, we now see those prices as extremely fair representations of the risk-adjusted return. Small businesses often can’t afford a full management layer, can be heavily affected by macro shocks, and can often be overly dependent on a few key employees. If you buy wrong, you have just bought a very stressful job.
That said, we don’t have to buy all the small businesses. If we stick to our discipline, we can target the top 1% of all opportunities for review and close on the top 0.01%. The businesses we are most excited about have extremely reliable “core” earnings while having large unexploited opportunities for scale and growth. They have kind and collaborative owners who are eager to see their business grow to new heights. They have areas of expertise, but also obvious areas of improvement.
Ability to grow the business organically without acquisitions has become an earned learning of ours…which brings us to our next learning.
We target both substantial cash flow AND substantial organic growth potential
A business that isn’t designed to grow can be a good business, but it’s not for us.
Let’s go back to our ice cream stand example. A business like that may create $300k of cash flow per year. Now if we price it perfectly, and it’s run by the most industrious ice cream manager in the world, perhaps the business could achieve $500k in cash flow but never beyond that.
But what if we acquire it, and our industrious manager decides to move? Either your managers will need to run the ice cream stand, or we will need to scramble to find a new manager.
The learning here is that small businesses are a lot of work no matter how stable they seem from the outside. If you’re taking the risk that comes with downside of an SMB, the picture only gets bright when you have upside growth (the expected value equation gets better).
Taking the example of the ice cream stand one final time… if we believe that the foundation exists for growth through geographic expansion (opening new ice cream shops at new zoos with low capital expense), then it may be a match for us. If we are buying one ice cream shop in one zoo, then no matter how profitable it is, it won’t be the right fit due to its natural cap on earnings.
Since we don’t buy businesses to be resold, we’re not an ideal executor of rollup strategies. As such, we are now bringing in financial partners for our existing rollup strategies and not actively pursuing the creation of new ones. Instead, we need each business we buy to be able to grow from its own cash flow.
Being in the business of people
We are not in the business of good ideas, or thoughtful models. We are in the business of people.
The more time we spend meeting with business owners, the more we are reminded that financials tell a tiny fraction of the story of a business.
Everything about the business can be learned from the people involved.
This means at time of sale we want to spend a lot of time with the owners, their family and their teams. Meals, activities and the like.
They’re called “transactions” but there cannot be anything transactional about this experience or else we will fail. The moment we pay the seller, and receive ownership of the business is merely the first step of a very long journey.
We sometimes receive questions: “how many deals would you like to do this year?” “how much money do you plan to deploy?”
We could never answer this, because we aren’t in the capital deployment business. We are in the business of increasing the value of our shares. When we find companies that we love priced at levels that make sense to us, we will make acquisitions.
There may be years when we make few or no acquisitions.
The work we do puts us in a unique and privileged position. We travel the country to meet with small business owners. These small businesses power our economy and, as you can imagine, represent a wide swath of people.
What we see on the ground are people building a future for their families in one of the greatest countries in the world. Although the news may sometimes suggest otherwise, we recommend you ignore the negativity in favor of the bigger picture.
We believe in primary sources for research, and every week we go to the source. Everywhere we look we see people working hard, to create opportunities for their children. Despite the speedbumps of the last few years, the American economic engine is alive and well.
We are bullish on the USA for the next century, and believe there is no safer bet than owning high quality businesses located right here.
We are regularly on the lookout to acquire companies with the following characteristics:
- Cash flow positive with a long track record (we prefer 10+ years);
- Companies with a durable moat driven by their brand, or unique offering;
- Annual pre-tax earnings of $3mm or more.
If you know of any of these businesses for sale, please give us a call or DM. You can even make a pretty penny by referring these to us if we buy (see our scout program).
DISCLAIMER: Please note that the content of this blog, including any letters or communications shared herein, is for informational and educational purposes only and should not be considered as professional investment advice, tax advice, legal advice, or any other form of professional advice. The information provided does not constitute an offer of or solicitation for advisory services, nor is it an offer to buy or sell, or a recommendation to buy or sell any securities or other financial instruments. Readers should consult with their own financial, legal, tax, or professional advisors before making any investment decisions. Past performance is not indicative of future results and there is no assurance that any investments or strategies discussed herein will achieve their objectives or avoid losses. The opinions and analyses presented are based on our own interpretations and are subject to change at any time without notice. Neither the author nor the publisher assumes any liability for any direct or consequential loss arising from any use of the information in this blog. By reading and utilizing this content, you acknowledge and agree that you bear responsibility for your own investment research and decisions, and that you have read and agreed to this disclaimer.
