Episode 4: Zane Tarence of Founders Advisors on
What Makes a Business Investment Grade

Episode Transcript

Shiv: Alright, Zane, welcome to the show. Excited to have you on.

Zane: Yeah, I'm glad to be here, my friend.

Shiv: Yeah, I'm excited for the audience to learn from all the different experiences and transactions that you've worked on. So before we get going with that, why don't you give everybody a background on founders, advisors, and all the work that you guys do.

Zane: Absolutely. We are in Dallas, Texas and Birmingham, Alabama and Austin, Texas. And we're a boutique investment bank that mainly deals with technology and industrial tech as well. And we have 44 bankers right now. And basically, Shiv, as you know, we're river guides to help, really, founders - that's the name of our company - navigate beyond the bank capital continuum. So when a founder starts really figuring out their product market fit and they're ready to grow, but they're not sure, ‘hey, should I use debt, equity, a combination? Should I just continue to try to fund it myself?’ We come alongside them and help them understand the institutional markets.

Shiv: And so then they engage with you to help them figure out what the best partnership or partner for them would be. And so what is that? Like how does a founder figure that out in terms of depending on their stage, what type of partnership would best serve their business and their goals as a CEO or as a founder?

Zane: Right. And I think it starts where you said, Shiv - what are your goals? You know, where, where are you right now? And what do you need to make sure your company reaches what your strategic goals are? And sometimes you've kind of figured this out. You just need the fuel to really execute on your growth strategy. Sometimes maybe you haven't figured it out yet and you need the right people and they cost money. And so really it's having a self-awareness. What I say, Shiv: ‘What are you trying to do? What are you trying to accomplish?’ And then we, or somebody like us, could come alongside that founder and show them their options.  

One of the things I see all the time, and when I was an entrepreneur long ago in my own software company, I just didn't understand my options. So once you understand what you wanna do and you have a real business, most entrepreneurs are just fascinated by the number of options they actually have with beyond the bank capital.

Shiv: And what are those options, just for the listeners? Like if I am a founder, let's say I've built a SaaS business to 10 million in ARR, I have the option to potentially go raise venture capital. I get that if I want to exit, that's an option. But what are the different, the plethora of avenues that I can take as a business owner to get to my goals?

Zane: Right. And at that size, at different sizes, you have different optionality. But really when you get to even 3 million ARR, if you have the right fundamentals - and some of those we'll talk about today - when you're assessing your business to see if you're investment grade, you really have the options all the way from - most entrepreneurs start early. It's like, ‘Hey, I went to my home equity line of credit or went to my friends and family or my 401k plan.’ That's the early stage. As you grow, you start getting options for angels, okay, angel investors. And typically angels are in the regions of the country. They've made their money in a region and they wanna support that. Then you get to the super angels. That's when a collection of angels from different regions come together. 

So as you move up and your company gets more investment grade, then you get to the VCs. You get to actual institutional capital that's allocated to - you know, once you reach a certain stage, you can get minority money to grow your business. And typically that comes in as mainly primary capital. So that money is put on your balance sheet to execute on your plan. You typically don't get to take chips off the table and you don't want to at that stage because your company hasn't reached the valuation you wanted to. So your equity is too expensive. 

Then, Shiv, it moves on over to small growth private equity groups that are writing five and $10 million checks. And what they'll let you do is take a few chips off the table as well. Cause a lot of entrepreneurs are like, ‘Man, I've worked really hard. Everybody's gotten paid except me. It might be nice to take a few million off the table and it would make my spouse happier.’ Those of us that have spouses that have been entrepreneurs know they're like, ‘Hey, you've been doing this a while. Where's the money?’ 

And then you get a little further and you have the opportunity for a minority recap where maybe you sell 40% of the business and take some significant money off the table, then it moves to majority recap - and there's different flavors of all these, these are the big flavors - to where you might sell - the most popular I see in the SaaS world and tech world is about 60% of your business and you keep 40%, but you get a value-added partner that brings not just money, but all kinds of resources, right? To the table. Just like you work with a lot of those private equity groups, Shiv, you're a resource they bring to the table for their companies to really help them grow in sales and marketing. So, that is an unbelievable structure when you qualify for that. And that's typically, in the market today, when you hit seven and a half million ARR and you’re growing well, you can really qualify for hundreds and hundreds of these groups, you know, that like writing 20, $30 million equity checks. So you take a good bit off the table and you still own that 40 or 45% with a partner. And typically they're underwriting this for a 3X cash on cash return. So I see so many of my entrepreneurs that second bite is so much bigger three, four years later than even the first bite. 

And then you can do buyout funds that, when you really get rocking a buyout fund, might come in and buy 70% of your business, give you a lot more capital. Maybe you're ready to slow down in the business. They'll bring in - they'll have options to bring in operating partners. Or if you want to slow down a little bit, because at that stage you might be taking real money off the table - 50 million, 75 million off the table. 

And then you've got that strategic buyer where you have somebody in your space or an adjacent space that says, ‘wait a second, I've got to have this business. I'm an operating company. There's so much synergy. I need this niche product to put in my sales system. It's a complimentary product. I want to buy 100% of your company, Shiv.’ And that's really the other side of the continuum. Obviously, you can go public. You can do an ESOP. One of the most popular things I'm seeing, and sorry you triggered me on this question, Shiv -

Shiv: That's good.

Zane: - because I'm seeing all these different options all the time. What's happened in the last year - it's really become about 35 or 40% of my business - is management buyouts, where the owner of this company might be ready to move on and they've got a really good management team or family that's good. They let that management team raise capital from a private equity group to buy them out. And then that management team is well prepared. The financial buyer loves it that you raised up an amazing young management team. So we're seeing a ton of management buyouts and those usually come in the form of buying the original owner, probably 90% of their stock out. The original owner sometimes will keep 10 or 15%, but the management team will keep a lot and the funder of the MBO will keep a lot. So those are some of the options. Then you have ESOPs to where you can sell the business to your employees… all kinds of options. And that's the reason I tell entrepreneurs, when you are prepared and you're truly investment grade, then you have options. When you're not prepared, guess what? I can't get you any of those options because people look at you and say, you're not investment grade.

Shiv: And so that's a great segue. And I think we should talk about that. And that's kind of what your book is about. I have it here in front of me, which is called 17 Reasons Why Your Investment is - Why Your Company is Not Investment Grade and what to do about it. So talk about that. Like what can founders do and what are the things that institutional investors, strategic investors, the lenders… all of these folks that are part of this ecosystem are looking at when they're evaluating a business to decide whether or not to invest in that business.

Zane: I love that question. And this is Captain Obvious. You know, your listeners are gonna say, ‘Thank you Captain Obvious for coming and telling us these things.’ But here's the deal. Most entrepreneurs know these things, but they still don't execute on it. They let the day-to-day grind and just, you know, reactionary, keep me from these things or they just don't know how to measure it. They don't understand the lens of institutional bias. 

So let me give you some of the top ones that really matter and that we can assess. There's even really strong assessments out there and you know we've built one that we're trying to give the entrepreneurs to learn this. But let me tell you some of the main ones. Number one, growth. Are you having healthy growth? The relationship between your profitability, your EBITDA growth, your EBITDA margin, and your revenue. Those are two different things. And of course, you know, and all your listeners that are in the SaaS world know the rule of 40 that's really kind of changed into the rule of 50 or the rule of 60. But it's the healthy relationship of growth, both revenue and even on margin. Now, here's the deal, Shiv. It's growth against your cohort. It's not growth against another industry - if I'm a managed service provider, growth against a SaaS company. It's a growth against your cohort. That is huge. Because I've had companies that are not growing. I mean, year over year, their growth is going down, but compared to their competitors, they're doing a ton better. So growth is huge. A growing company - you must be it because investors are investing in the future and risk-adjusted future cashflow. That's a big one. And I know that's where you're focused. And when we see a company that's struggling with their lead volume, their conversion rate, that's a real indication you're not going to give me as an investor that predictable growth I want. So that is just huge. 

With that is the quality of your income streams. Have you got mainly recurring revenue or is it reoccurring revenue? What's the combination of any one-time revenue and your recurring revenue? It's the quality of your revenue centers and the gross margin tells a lot about that. If you've got certain areas of your business that are consulting - which are awesome now, we're seeing CAS, consulting as a service, trade in some of the ranges as software as a service or infrastructure as a service. But it's that blend of the right income streams that are super attractive to these investors and how they're growing and what the future is. So I gave you two, there's a lot more, but I'll pause or you know me, you'll have to interrupt me.

Shiv: Let's dive deeper into the first one and I want to talk about quality as well. But let's start with the EBITDA versus the revenue argument because even especially in the last couple of years with the way the markets have gone, we've kind of shifted to a market that's more focused on austerity and profitability as the driver. So how important is the EBITDA margin and the overall profitability of the business? How's that gone in terms of importance compared to revenue growth? Because tons of VC-backed companies that may have been growing even 100% year over year or more than that have been burning a ton of cash and we've seen their valuations kind of plummet. So would love your insight on that as investors are evaluating target acquisitions now.

Zane: Radical shift, as you said - it is not growth at all cost anymore. It is profitable growth. It is efficient use of capital. That's what's very attractive now. And so I would encourage every entrepreneur to really look at their economic model, their economic denominator and say, ‘Hey, am I growing - mainly, margin? Do I have the right margin? Can I grow that?’ So it's huge. And we all know Shiv, revenue growth destroys your income statement. There is no way to grow aggressively really spending a lot of money on good consultants like you. So we've got to understand that relationship. So get profitable, make sure your economics work.

Shiv: And when you look at that work - because one of the things that we notice when we work with companies is that even if I come into a large business, like a hundred million, $200 million company, or a small one that's doing five to $10 million, and we analyze their marketing budget and their spend and programs, we find a ton of inefficiency in their go-to-market spend where you can probably get either the same amount of pipeline or revenue from 30% less spend. Or with your current budget, probably find 30 to 50% more pipeline. And so that kind of work becomes even more important when you're focused on efficiency and profitability. So is that the kind of work that you're recommending that founders try to do across all disciplines, not just marketing, but in sales and product and services and, and other managed services areas that they're investing in?

Zane: In every piece of their business, Shiv, you've got to have a rigorous view of data. And we're finding out it's extremely hard for some small companies to have good data. And so therefore they don't have operational predictability. What experts can do in these different areas of even, you know, better financials, of course, sales and marketing toward growth, IT and security… you can figure, you can get the correct data and then make these decisions. And remember, the lens of every institutional investor is data. They don't want to hear an entrepreneur yakking. They're like, ‘Stop it. You said you have a competitive advantage. Let me see your gross margin compared to your competitors. Period.’ So yes, being able to look at the right data, experts - number one, be able to get the right data. Number two, be able to understand it, read it, and say, ‘Here's what we need to do.’ I love that approach. And really, I see institutional investors, that's what they do. That's what they're doing with their portfolio companies. They're continually trying to understand the data. What does it mean? And then let's make data-driven decisions.

Shiv: Mm-hmm. And you said something there that's, I think, worth digging into. You said operational predictability, right? And that connects to your second point on the quality of the income stream. So how are investors looking at recurring revenue, which is very popular in SaaS, versus reoccurring where maybe it's project-based, but it's a reoccurring client that's bringing in business, and versus one-time revenue or other income streams like consulting services? And how is that affecting valuations and... and the investment grade or score or whatever it is of the business. 

Zane: Yeah. And I'll write this on the continuum coming from a consulting background myself, Shiv. I love continuums. That one-time revenue is on one side and it's just not worked much because the investor is saying, ‘Wait a second, that's one time.’ Now we've got to remember it has a relationship to further down the continuum. I'll give you a four to a six on reoccurring revenue. Okay. It happens again, but I don't really know when, but the data can show me. My clients are going to spend this much money with me maybe every year, this percentage of their wallet, it's growing. That's reoccurring revenue. So let's use one example in a managed service space, because I've just saw huge - done several of these deals lately, and they have all three kinds of revenue. And I'll tell you where they trade in managed services, managed service, that one-time revenue where I design a new network for you, whatever, that might trade for 0.8 to 1x revenue. You move on down to a four to six on the continuum reoccurring. People come back to me to do a certain level of maintenance on their software or help them with an implementation. I did. It happens. I get a certain percent of their budget every year and I've had the client three or four years. That will trade that reoccurring revenue maybe for two to four times in some MSPs. If you can really prove it happens again, dude, just like my grocery store. Shiv’s been shopping here. He lives here for seven years. Pretty predictable he's gonna come in, right? Now, if you get over there to where they sign a consulting as a service contract and say, ‘Hey, I'm gonna spend $1,500 with you a month to help me keep up my NetSuite implementation or do break patches.’ That's where sometimes, even in today's market, six to eight and a half depending on the quality of that revenue. So you ask a wonderful question. People say, ‘Zane, what will I trade as a multiple of EBITDA?’ And I look for it and say, ‘Oh, I'm gonna trade on revenue. What's my multiple revenue? What's my multiple gross margin? It's your multiple of the sum of the parts of your different revenue streams. And I'm gonna look at those based on margin, based on recurrability, and I'm really gonna place each one of those revenue streams on a continuum. And so that was a super question, Shiv. So, therefore, what if I can move some one-time revenue, two or three notches down the continuum? That can create tens of millions of dollars in enterprise value for me based on that. And so anyway, now - and I got to say this because a lot of businesses say, ‘Zane, but I'm a software company, it's pretty complex installation. I have to get the clients set up, I have to get their data over, but that's one-time installation, training, consulting, and you're really playing a hate card against that.’ And I say, ‘Wait a second, that is some of the most important work you do.’ Why? It has a direct relationship to your retention. If you have a failed install and you get bad data, they're not going to keep your software. So I love to - one time, you know, training implementation, uh, you know, getting the data migrated, that's hugely valuable in the company because it gives you happy customers that enjoy - that enjoy your software and keep it.

Shiv: So let's use our business as an example, because something that you said there triggered a question from me, is that we do project-based work, and our revenue is reoccurring in that we work with private equity groups. Every time they buy a company, they'll bring us into an investment. But it's unpredictable. A PE firm might bring us in twice a year. A different one might bring us three times a year. And another one might bring us in once every two years. And so when we're looking at that type of a model, the benefit of our business is that our margins are very high on a per engagement basis. When we look at shifting through to more of a retainer model, and we've seen other folks in the marketing space provide retainer services, like there's tons of agencies out there that do paid media work, as an example - they have recurring revenue, not reoccurring, but their margin on that revenue is significantly lower. And so how do you compare that? Because that feels like an apples-to-orange comparison. And I'm sure you see that - not just with our situation, but other businesses as well.

Zane: All the time. And again, we're going to look at all the different qualities. But let me tell you, the higher margin business is very, very exciting to a banker. And when I'm underwriting you, even if that moves you down the continuum from recurring to more reoccurring, I might still give you a lot of value for the reoccurring, especially if you have velocity among accounts, meaning you have enough historical data to say, ‘Look at this private equity. They typically buy, in a good year, three companies a year, three platforms, you know, some add-ons - you'll probably be working for the platforms. We, on average, get a couple of those a year. In a bad year, they might only do one platform - like we've been in. But if you have some data - you know, three years of data - and then you have velocity of several private equity groups that have used you more than once, and you have a high net promoter score with them, I'm gonna say your business is pretty daggum predictable. Because I know these private equity groups, if I study them, have a certain amount of a size fund. I know they're in the business to invest in platforms. I know you've done great work for them. I know they're gonna hire you again. So I might rate that revenue - high margin reoccurring revenue with private equity groups - very high. 

Now, what am I gonna look at? Another one of my 17 reasons. How happy are your current clients? Before... somebody, an institutional investor would invest in you, they're going to say, ‘Hey, give us several of your private equity groups we worked with.’ Now - and there's ways to do scripts where they don't know if you're getting an investment or selling - but they'll ask that private equity group, ‘If you get another opportunity like the platform that Shiv and his team worked for you on - How To SaaS would you use them again?

That question is a determinant for them if that's reoccurring revenue, right. And you get some of your big private equity groups. If you show they're using you multiple times, brother, I could probably argue that that's recurring revenue. I just don't know exactly how much it's going to be, but that’s why consulting companies, as I mentioned to you, are trading very, very well. If you have a methodology, a system and you can deliver predictable results and you have some really interesting, good clients that are in business to buy companies, I think we would zone you pretty far close down the continuum to recurring.

Shiv: Right, that's really great insight. Okay, so now that that's addressed, let's talk about some of the other areas related to revenue. And there's a couple from your book that jump out to me. One is just revenue concentration risk. And then the other is founder-led sales and being too reliant on the founder. So I think those two are kind of intertwined a little bit. So maybe let's discuss that further

Zane: Okay, the first one, if you have revenue concentration, unless you're a defense contractor and you're just dealing with the six buyers in the US government, then it's relative, your customer concentration is relative to that industry, right? You're going to have only six potential customers, but you're going to look at your market. And if you have more revenue concentration, and there's rules for different industries. But like for you, if - and again, you have to be a certain size, you know, because when you're growing, you're going to have some really big customers, but you don't want over - in a consulting business, you know, you probably don't want over 35 or 40% of your revenue from your top 10 customers. Because it feels like risk, right? Also, I don't want - in certain SaaS companies that they're horizontal SaaS but they have a huge focus on the hospitality space - that's industry concentration. Or what happened to vertical SaaS in the hospitality space during COVID. So any - what investors hate is risk. What they love is growth. And if you have concentration around an individual in one of your big customers, they love you, but you don't know anybody else in that big company. What if Sherry or Bob retires, right? So diversification in every area, just like in your investments, how smart would it be to have all your money in any one stock? It is not smart. Same with investors. They're looking for lots of customers - no one customer you're relying on them and no one point of failure in any client. I have so many people that were assessing their company, Shiv, and they have some really big customers and we talked to all their C-suite, ‘Hey, who are all your contacts in that client?’ If they have one, we'll say, ‘Guess what? I'm so sorry. We're going to have to take that revenue out of your multiplier.’ So that million dollars you get from that client, it's like it does not exist because the buyer is not going to pay you for it. So that's the first thing. Did I answer that first question about the importance of diversity?

Shiv: It did quite a bit. I guess the drawback of this is that - well, not the drawback, but I guess the takeaway for founders is that when you have these accounts and even if it's 30, 40% of your revenue, to make sure that it feels predictable is to have more inroads into that business. So more than one type of engagement, more than one type of product or whatever you're selling into there. That way, even if the key contact leaves, you have that revenue to be more of a stronghold.

Zane: Yeah, and Shiv, sorry to use your business and you can cut me off if you want to, but let's say you have some of your huge private equity groups like a TA Associates. If I was looking at your business, if you've dealt with more than one partner there - maybe one's in one of their industries, is in the security industry, the other’s in their data industry. If you have more than one partner that's done business with you, that tells me you've been discussed and the partners - means they love you, they're reusing you. If you have an operating partner - they have a really big bench of operating partners. If an operating partner has recommended you, that's awesome. If you've got one champion, only one that gives you only their deals. I'm going to treat that as a little less valuable.

Shiv: Right. Yeah. So what we do is - our strategy is we usually start with one champion and we use that to get a pilot inside the company. As we get that pilot, that becomes a case study and then we get introductions to other partners and other operating partners. And before you know, we probably know five, six people at the firm. And then over the course of three years, it's like a land and expand strategy where we're trying to get other partners involved into the deals, and then it doesn't look like it's just from one partner. And then that first partner likely still brings in a bunch of deals, but we're still connected to the firm in other ways.

Zane: I love it. And again, we all start in accounts with a champion. There's nothing wrong with that. But somebody - an institutional investor is gonna do their due diligence and they're gonna say, ‘Is this spreading?’ Because that tells me - the one number I need to know if you're gonna grow or not, is whether or not people are promoters. If in the firm they're saying, ‘You've gotta use Shiv in the first hundred days, it's created hundreds of millions of dollars of enterprise value.’ If one of their partners is saying that, you, my friend, are a good investment. So that's the reason it's so critical to be able to show the data and demonstrate your net promoter score is huge. 

Shiv: And then let's connect that to the founder-led sales component, is that you have a ton of founder-led businesses that can grow to three, five, even 10, 20 million with the founder being the main rainmaker or account executive for the business. And all those key accounts and those key contacts, the way they interact or buy from the company is through that relationship. And so how does that affect valuations and what can businesses do to diversify themselves away from that?

Zane: I don't know if I want to say this on the podcast. If it was just you and me, I would say it. So I'm going to be vulnerable. You're looking at one of those founders. My first software company, I was a selling CEO. And I was responsible, you know, for a lot of our big new sales, right? If you can't - and it costs me, and I learned that, being naturally bright like I am, the older I get, your organization needs to create sales. Not an individual. So it needs to be your systems, your processes, your thought leadership, your account-based marketing. All these pieces needs to produce your pipeline and convert it, not a person. Because if a person does it, what does that feel like to me as an investor? Risk. What if your competitor offers him three times the salary plus 10% ownership? So. Please, please, if you have an ego person that says, ‘Hey, I'm selling this, I'm doing this, I'm important.’ Let me tell you, that'll mess you up when you go get investments. They'll mess you up in due diligence. They'll hold you hostage.

Make sure your systems and processors are driving it. Not a person. People work the process, but if people are working the process, guess what happens if that person gets cocky and tries to hold you hostage? You're like, ‘Dude, I can get other people to work this process. Now you're good and people matter in sales, in marketing, but brother, I am not going to let you get control of my business because you made it about a person.’

Shiv: And so how does a founder or a business do that? Because founder-led sales is one of those things to even like, you know, we struggle with that sometimes where a lot of deals are contingent on my relationships with private equity investors, right? And so we have a full-time salesperson now, our chief client officer does sales in terms of upsells and cross-sells to existing clients, but I'm still actively involved in that, right? So - and there are tons of founders like this who are probably even more involved than I am. So what are the steps to get to having less of a dependency on that founder to drive the revenue?

Zane: First of all, and again, I have this problem. So I'm trying to be self-aware. Be aware that it's an issue, that I'm jumping in, that I'm being there. If everybody's saying, 'Well Shiv, I want you to do my project.’ Well guess what? You've got a solo consulting firm. You've got to be aware that you've got to sell the systems, the methodologies, the processes, and your methodology and process to hire the right consultants to exercise your methodology. You have got to sell your systems, your processes, and your amazing people that aren't cowboys and cowgirls. They're very, very systematic. They're amazing thinkers, but you have a methodology that is tried and true and can be measured with the data. You cannot - you gotta realize that. Also, if everybody's always asking for you, you gotta force yourself to jump down, and I get this in my business - ‘Hey, I thought you were gonna run my process.’ No, I've got better bankers than I ever was, we've got unbelievable methodology. You've got to be able to transition. And for me, sometimes it was ego - ‘Oh, they want me, and look, I sold it.’ If I'm not there… Guess what? Cost me a fortune in my companies. I have to be willing to mentor and coach and allow others, delegate them to go actually make those early, early sales calls too and build those relationships, right? You've got to transition it. You've got to be aware - transition it when you sense yourself jumping back in - it's like a coach. If I was coaching a soccer team or basketball team, Shiv, and I used to be good, I'm wanting to run out on the field and say, ‘Daggumit, I'm just going to do it myself.’ No, you do it through your team, your playbook, all your practices. So it's hard. Shiv, I don't see it getting done without an outside consultant kicking the butt until your nose bleeds.

Shiv: Also do that work. For what it's worth, like from our side, so I started the business in 2019. I was the main salesperson, the main consultant, the main marketer. And so the first thing that I spent time getting off my plate is building out a consulting team. We went through many iterations and I was involved actively in consulting up until last year, and now I don't touch a deal once we sign it, it's entirely handled by our team. Since then we've been slowly working on - I have a head of marketing now. We have a salesperson. But slowly getting to the point where that business can sell and do marketing without me. But we're still, I would say, a year, a year and a half away from being fully non-shiv dependent. And that's the work that has to be done, right? It's building up the processes and the systems and the playbooks and actually rinse and repeat and getting it to a point where people can actually run that without you.

Zane: That's right. And I always say this, and you and I have a common friend that's written a book, you know, from founder to CEO. It is the exact journey you just mentioned. It's a different skillset to say, ‘I'm going to do it through other people. I'm going to build a brand and systems to deliver on my brand promises. But here's the deal that I'm convicted with.’ Even if you were selfish, egocentric, couldn't give other people credit. It's much more fun to grow up people in your business that can do this. But let's say you weren't, you're gonna create so much more enterprise value if you do that strategy, if you delegate. Here's the deal - you wanna go fast, go alone. If you wanna go far, go as a team. What's your - the journey you're going through is creating amazing sustainability, enterprise value, freedom, an unbelievably valuable company. You could probably do a certain amount a year, just you. Everybody get out of my way, I'll go do it. But guess what? You're never gonna scale. And nobody's gonna want your business because it's all you. It's not a set of - and that is the core of being institutional grade, investment grade. And it's just a huge difference. And until a CEO sees that, and I tell some people - they say, ‘Well, I can just do it faster.’ I'm like, ‘You're not worth a dime. I sure hope you make a lot of money every year and you go invested in apartment complexes. Because don't be expecting to exit.’ And I don't mean to be a butt hole, but that's the truth.

Shiv: Right. Right. And I think that's the takeaway is that it might take two, three years for a business or a founder to de-risk the business of themselves, but the ROI on that might be 10X or 15X the enterprise value.

Zane: Absolutely, absolutely. And guess what? It's a more fun business to own, to shepherd the joy you get from growing up, you know, your teammates. It is the way you have more cash flow. Guess what? You have more predictable outcomes for your client because you've got such an amazing team and methodology. And you're consistently giving a level of service for you - it's your service, you know, that you're delivering. You've really productized your service. As long as you're doing it, I don't know if it's just you or if it has anything to do with your methodology.

Shiv: Right. And as we shift focus here, so let's say we're going away a little bit from the sales and marketing side and the founder side, like, what are some other reasons that you're seeing that companies are not yet investment grade?

Zane: Yeah, the big ones are, they forget to have a barrier to entry. When you really talk to them and you look at their business, there's no reason. I just can't come in as a competitor and set up shop and beat you. The biggest thing I'm seeing, I can come in and hire your lead developer. I can hire your CMO. I can, I mean, I can hire your key people away, because your company really doesn't have that barrier to entry. That's probably one of the things that it takes us a while to figure out. But there's tools now. There's, you know, a thermometer that we can look at and say, does this company really have a barrier to entry? So that's - I'm seeing a lot of deals that look very promising, but they, after you really dig in, they don't have any staying power.

Shiv: How does that work in the software world or even the consulting world? Software is becoming more and more commoditized as we go here. Every vertical has 50 players. And then consulting services, you could have technically 15, 20 players in the same space offering very similar services. So how does that factor in?

Zane: I don’t want to discourage anybody. That is a great question. And guess what? It's incredibly more difficult today than it was 10 years ago, 10 years ago than it was 20 years ago. In the tech space, there's a commoditization that's happening at warp speed and AI is only accelerating that. 

Shiv: Yeah.

Zane: So Shiv, here's the answer. I see it when companies are being evaluated by institutional investors: growth and market share. There's no patents on software anymore. There's no, ‘Well, I have this magical, unbelievable developer that's created.’ There's none of that. The world's flat. There's so many good developers. You have got to show that you're getting market share faster than the competitors. That's your only barrier to entry that I really... Now, data, there's data. We just did a deal with a business, a little company that sold for, let's just say, hundreds and hundreds and hundreds of millions. It was a data play. They started off as an operational software system, but they found out, ‘Oh my goodness, we've created this unique data set.’ So data can be a barrier to entry, a high rip and replace cost can, but I'm telling you, if you can't show that you can go to market and accelerate over your competitor's market share, you ain't gonna make it. And what's happening, the investors are gonna come after that one that's accelerating,

Shiv:  Right.

Zane: Try to make you a platform company and go buy all the ankle biters. And if you're one of those ankle biters, you think your valuation is gonna be anywhere near the one that had the market share? No, I'm looking at the rental, the SaaS space around U Store It. All the rental, I don't know if y'all have those in Canada, but everybody storing their junk and everybody uses it. Unbelievable market. There's so many software packages in that space. There's two - they're going to be worth a fortune. The other ones, they don't blow.

Shiv: That's the tricky part, right? Because the way to gain market share, there's really two ways. One is to grow organically. And by organic, I mean, sales and marketing and new client acquisition and building pipeline and all of that. And then the other is inorganic. And there you need an institutional investor that believes in a space and buys up all the smaller players to build a bigger platform. But in order to do the second one, you actually need to be the leader in the first one, And then they kind of build a platform against you.

Zane: Exactly. And so again, I'm so big into that velocity and speed and that growth, because if you can get out of the gates fast, the institutional investors will look at you because they say, ‘Man, they must have something different. Let's put our money with them.’ And as you said, do an inorganic growth strategy by acquisition and Shiv, you've witnessed this like crazy with all your private equity customers. And I have too. Their playbook now is M&A. Used to - in the cases that, that private equities made, their business cases that they presented to their investment committees, M&A was not in their base case. They were using a model to say, ‘Here's how we're gonna grow organically, new products, new salespeople, new territories, go international.’ Their base case now is an M&A model.

Shiv: Right.

Zane: And so you gotta be a leader. And this reason people say, ‘Oh, I'm just gonna be a basic little software company, do my best,’ you're going to get left behind because these, these gazelles have all the capital to hire all the great employees, to hire all the great consultants like you, they're not going to be able to compete. They're going to have the best product managers. So, I tell people if you're not coming out of the gate swinging, you can spend a lot of time and energy and forget to ever have any enterprise value. And 10, 15 years ago, I saw people win, but now, man, you better have something. Now, here's the other side. And I'm going to speak out of two sides of my mouth. Sales and marketing is unbelievable, but here's what else. Product market fit. We all know that just wins. You have got to obsess over your product. And does it solve a really critical problem that these customers see the value every month, they're going to keep it, it calls them to switch. You gotta have an unbelievable product. You know, you could go into a company all day and their product not be good. When they sell it, they don't land and expand. They don't give referrals. And then it's just a leaky bucket, right? And I've seen a lot of those. So you must have a relentless product-led strategy and then you better get out there and get market share.

Shiv: Yeah, and so in that part, I think, especially in the early stages, talking to customers, getting feedback, honing in on the product, and then taking - once you have that product market fit turning almost into a sales and marketing organization and ramping up your market shares as quickly as possible.

Zane: Yeah, and Shiv, I'm sorry, when I started - you know, I'm getting older now, but I ran a consulting practice at IBM Software. When I started, it was all about the technology. It was all about all that. I've said before, it's offended technical people like myself, that a true SaaS business that actually has a product and you have a true, you know, SAM and SOM, Serviceable and Obtainable Market and Addressable Market, it is all about sales and marketing. You're more of a sales and marketing company than you are a technology company. You're actually a payments - you get payments, you know, and you're sales and marketing. And so many of these tech companies are run by software engineers. I love them. I was one of them. But oh my goodness, you're going to lose your shirt if you don't see yourself as a sales and marketing company.

Shiv: And connecting back to this point on investors and them looking for a winner in this space to back as their platform, how does that compute with the amount of dry? You're in this space, so I want to just connect the dots in this is how much dry powder is out there right now. And if you're a founder and you've - let's say a founder has built a company that does five million. I would think that just that alone would be attractive enough for the amount of dry powder that's out there because so many private equity groups on the lower end of the market - there's like - I would say probably five, six, seven, eight, even, thousand private equity groups that can write check sizes somewhere between five to $50 million.

Zane: Yeah, there's about 8,900 right now in the US. 8,900 private equity funds, the smallest, managing 100 million, biggest managing 100 billion. Yeah, here's the good news for the smaller software entrepreneur. It's the add-ons and bolt-ons. The platform company, there's not going to be many winners that get the TA Associates, the Summits, the VISTA equities that are their platforms. Once these private equity groups get a thesis around the vertical SaaS market or a horizontal, they get a thesis or tech-enabled services, which we're seeing very hot.

Shiv: Right.

Zane: The good news is they're going to aggregate the market. So you can be a $5 million investment grade SaaS company and the platform that's winning, they still can't minister to everybody in that niche. Let me give you one example. I was just talking to my buddy, Ross Crowley, has about 295 businesses.

Shiv: That's ministry brands, right?

Zane: Yes, he'll be speaking with you at Silicon Y’all. He was telling me, and he's built 6 billion businesses where he saw a thesis, bought a small platform - but they were being done, you know, were doing it right - but he's bought so many companies. As he looks at this, he gets the thesis, and then like, let's say his first company, Ministry Brands, they sold association software, their first customers were churches. Guess what? One SaaS church package, they call it CMS church management system, doesn't fit a mega church, 50,000, and then a little bitty Baptist church, or a synagogue, or a Catholic parish, or, you know, it doesn't fit. You build vertical software, it still doesn't fit every one of every church, right? And so what he did is went and figured out how to get all the niches together. And then it kept Ministry Brands. He kept them separate. So if you were searching for that 200 member Baptist church, he had the perfect price point for it. If you were searching for a mega church, there was another brand. Genius. So for software entrepreneurs, the riches are in the niches. Make sure you own your niche. Even if it's hyper-small, people say, ‘Oh, it's not a billion dollar market. You're wasting your time.’ Listen, not many of us are gonna sell our businesses for a billion dollars. Make sure... you're a hundred million, $200 million niche, that somebody like Ross that's aggregating that space says, I have got to have the number one player in Baptist churches below 300 members. If that makes sense.

Shiv: That's a fantastic example. I think that there's a good takeaway there for founders everywhere, even if they're running small companies, if their niche is big enough that there is a path to an exit that may not lead to them being the platform, but enough of a meaningful event that can change their lives.

Zane: Oh, unbelievable. The number of platforms I've seen, I mean, add-ons, I've had a lot of add-on customers that get to that five to $10 million in ARR. Listen, that's go-home money. At least it is in Texas and Alabama. You know, they're making 50, $60 million, but guess what else? Guess what else? They roll it into the platform. So several of my people like that sold to Ross, they rolled their niche company in there, but they didn't sell 100% of it. They believed in the vision and they were able to take chips off the table at a good solid multiple and then roll some of their stock into a business that was gonna trade at a much higher multiple and multiplier because of the size and the strategy. So here's what it allows you to do. The institutional grade in your niche - and you'll be invited alongside the platform businesses and you'll have your cake and eat it too. Take 20, 25 million off the table and still own 40% of that platform that is so de-risked, Shiv. They've got so much money, such a good strategy. They're going to roll up the space. That is a great investment of your money is to roll some of your stock with them.

Shiv: And then you have a second turn where you almost make more than the first one. Yeah, that's great. So let's say there's the founders listening to this podcast. How can they interact with you, work with you, or learn more about what the right strategy or exit path for them would be? How would they find Founders and what would be the best entry path for them?

Zane: And one of the things that's my passion project, because I'm an assessment guy, I think we've showed you, Shiv, we've made this pursuit of enterprise value a data-driven approach. We built an assessment, and I'm actually giving this to entrepreneurs to help them understand, am I investment-grade? It really takes my 17 reasons and 12 - basically, and algorithmically lets you see in a 17-minute assessment, how squared away am I? Now there's not any questions, but there's branching logic that helps us understand a snapshot. I would encourage people to look at this and take this assessment. You can just search us. It's foundersib.com, foundersinvestmentbank.com. The assessment's there. My name's up there. My 44 bankers that each have sectors in the tech space. And we would just be glad to... The first step is self-awareness. Let's take an assessment. see where I am and then one of my bankers can even cover the assessment.

Shiv: That's fantastic. And then last plug, maybe we just talk about the book and maybe that's something that founders can go get themselves and read potentially if they are interested in learning more about those investment-grade reasons.

Zane: Man, thank you for saying that. My little book is the hardest thing I ever did, but it's the 17 reasons your company's not investment grade. Just look at the recommendations and the takeaways. It's what I just see in all the diligence of private equity groups and strategic buyers. Get that on Amazon, listen to a podcast. If you can't do anything, just listen to the takeaways and the recommendations around those reasons so that you can gather the data to actually prove you're from Missouri, a show me state, that you actually have those ingredients. You can actually prove it with data. They don't want to hear yak yak. They want to say show me your data.

Shiv: That's awesome. Well, Zane, I think that's a good place to end the episode. So I appreciate the time and we'll be sure to share all those links on the blog post for the episode and hopefully the audience can get a ton of value for that. So, thanks.

Zane: Man, I hope they do, Shiv. I appreciate your work and looking forward to hanging out with you at Silicon Y’all. See ya.

Shiv: All right, thanks, Zane. Catch you next time.