Monday, December 08, 2003

{The tests…are they due today, or do you want them Wednesday?}

Well, I wanted them today. If you turn them Wednesday, you won’t find out what your scores are until finals week. But I’ll take them on Wednesday. And the last day to turn in extra credit would be Wednesday. I really wanted them today, so I could get them corrected and back to you by Wednesday.

This is a structure that has very big windows from floor to ceiling all the way around. The front door is here, and there is a small amount of parking out in front, but, really only for a few cars. And, in back, there’s a little more parking. And there’s a door way here, and a spiral staircase that takes you upstairs, and there’s a big garage door to the bottom part. And there’s some additional parking down here. There’s no parking on either of the side streets.

And these are the primary partners or players. I have changed the names to protect the innocent. So there really is no Ted and Carol or Bob and Alice; that’s after a movie theme, I think, I picked up somewhere along the line. But this is, essentially, a real story and a real financial situation, where a business was born, and where they got the money and what they needed. The inventory cost projection was $250,000 to $300,000 that they needed in cash. And when you’re starting a business, people want you to pay up front, don’t they. It’s usually COD, ok, collect on delivery. Now, once you’ve established yourself, you can often have your clients pay you up front, and your vendors give you terms, 90 days, 100 days, 120 days. Each industry is a little different. In the carpet business, their typical billing cycle is 120 days. So you’ve got that carpet in your store for 120 days free. Hopefully, you can get it sold before you have to pay them. Today, with tight credit and tight money, that industry might have changed a bit. But back when I was calling on carpet stores, that’s what they had.

But initially, when you’re buying inventory, you are an unknown entity and they don’t know you… They can see your credit and they can talk to your banker, but they may be a little leery. So, more than likely, you’re going to have to pay up front. Once they begin a relationship with you, then they’ll extend more and more credit to you. And you want to get as much credit from your suppliers as possible, right? That’s one rule in business that you try to use other people’s money as much as you possibly can. 

But they were going to purchase this land; and the land was on a corner that had major intersections on it with stoplights. There was a stop light here, here, here and here. It’s a major intersection. This is like six lanes, like the two lanes with a turn lane… This is like two lanes, here, two lanes, here, and this is like three lanes, because there’s one lane of traffic and a center turn lane. These are pretty major streets, ok, located in Spokane. And, so, it’s a great location for a lighting studio.

To purchase the land, they had in their project, put in a budget amount of $250,000. The man was actually asking, at the time, $350,000. But they were convinced that they could get him to come down on that price, because of the steep grade. So you’re looking at a piece of property that for many applications is unbuildable. It was a very steep grade; I don’t know if it was 30% or 40% or what… But because there was no parking available, it eliminated a lot of options for this spot. So if you want to be in the restaurant business, it wouldn’t make a good restaurant. It just would make for a good restaurant. But it would make a good lighting studio, because in a lighting studio, you want to be able to look up to see their inventory, right. Because their inventory hangs from the ceiling. So three of these major dimensions are looking up.

Now, the old facility that was in Spokane, was a facility that had a door in front, and some picture windows, like this, but it was a main street kind of store. If you’ve ever been to old Spokane, it was a railroad town…it’s a town that Mr. James Hill put on the map with his northern rail route. It was a classic railroad town. Well, the lighting studio that had been in town for years, and had served the community quite well, the family had lived upstairs in a small apartment…there were about three windows up there. And their store was downstairs. They had kept their inventory in the basement. It was one of those deals where you drive down the ally, and you’ll see a little door with a loading ramp that you slide stuff down into the basement, right? And that stuff gets unpackaged and brought up to the store upstairs to be hung up.

The ability to see the inventory was limited, and the size of the store was limited. The man who wrote this plan…this is one of my cousins, Ted, wrote this as a student paper in a class that he took. And he had to do a business plan, a marketing plan, and an operations plan, kind of, all rolled up into one paper which he had to hand in for a senior class before he could graduate. So it was kind of a culmination of his doing a marketing plan and other projects in other classes over time.

And he and his buddy had started this, Bob…they were fraternity brothers with a marketing plan. And I think they did an operations plan in another class, and now this was their class that they took together and their final project. And the competitive advantage that they had in opening a new studio was that this old studio was very inadequate. Most people who were buying really nice lights were going where to buy them? They were taking a drive to Seattle. Seattle was a much more cosmopolitan town, it had a number of fancy lighting studios, so if you really wanted nice lights that’s where you would go.

By the way, Spokane grew dramatically, because of Northwest making it a hub. And many planes came and went from there. Boeing had manufacturing facilities based out of there as well as Seattle. And so, economically, Spokane was just booming, it was doing very well. Anyway, it was way more business than this first little store could handle. So there was a need for a lighting studio. Clearly, there was a big need, ok?

Now, this Ted, who was a cousin of mine, had gone to a pretty prestigious school out west. And he had met this Bob, who was from out east, and they had become friends in the fraternity. Ted’s dad is my uncle Jim, and Jim was in the roofing business; he was a roofer. And he made some pretty good money in the roofing business. Because he made good money in the roofing business, he could afford to send his three sons to college. And all three of them went to pretty prestigious schools. I wish I had been able to go to such a prestigious school as Ted went to. And I won’t talk about specific schools, but you can imagine on the west coast that there are a couple of good options.

As fraternity brothers, they got to know each other pretty well, and their girl friends got to know each other as well. And so when they were putting this paper together, they had this fun dream that they’d go out and have pizza and whatnot, and talk about how they could put all this together; they could actually make and run this lighting studio. And Carol had some retail experience and liked working the sales floor, and Alice had some design experience and knew how to do some design work, and could work with the planners and the builders.

They felt that they had a competitive advantage, because Jim saw all of the building plans before anyone else in town got to see them, for the lighting purposes, anyway.

So when you’re building a building, one of the first things that has to happen is that the roof has to on, right? So you put in your concrete structure, then your frame, and then you build the building around that, and then you put the roof on. And then the heating, mechanical, and plumbing contractor comes in. While that is going on, the electrical work is done. But the lighting is one of the last things that happens, right? So, essentially, they had the option to look at every major building that was going up in the town before anyone else looked at the blueprints. And, so, they had a chance to submit a bid, a very competitive bid, which was their competitive advantage. In the business plan that they turned in to their professor, the professor highlighted that with a magic marker and said that this was brilliant. They actually did get an A+ on their paper and they turned it in. Of course they got an A+ because they had a really nice color photo on the cover that an artist had created of what this studio would look like, and they spent about $50 to have the artist create that. And it was pretty impressive; they had a nice table of contents, and all the paperwork was there with all the numbers, and how they were going to finance it.

Initially, they were going to get their $250,000 for the inventory and the land by borrowing from Uncle Jim. Uncle Jim had a very successful business. Jim was a smart entrepreneur. He was in the roofing business. Now, this was my dad’s sister’s husband’s kid, ok? And I know that’s kind of complicated, but he moved out to the west coast, and he originally lived in Oregon. And he loved to be on the beech; he was a beech bum, basically. And my dad went out and felt sorry for his sister Vera, who lived in this shack, as he called it. Well, imagine the kind of place that Jessie wants to live at…on the beech in Hawaii. I mean, that’s where they lived. It was actually paradise…it truly was. I saw pictures of it and movies of it, and they really lived in paradise.

Well, he was a roofer. And he would go out and roof a house, and then he’d play. And if he needed more money, he’d take another roofing job, then he’d go and play some more. So he never worked steady, ok. He had enough money to buy his fishing gear and do what he wanted. He hunted clams and he had his dogs, and they had a fishing boat, and they really had a great lifestyle.

My dad felt sorry for the sister, because he thought that she should have had more things in life. But she actually died quite happily and had a very good marriage. The son grew up feeling poor. And I don’t know if any of you have ever grown up in that environment, where mom and dad didn’t have any money for you when you wanted something for your birthday or Christmas or when the other kids were signing up for sports and there parents were there to help out. But this kid had to come up with his own money. He was very money motivated, and he worked very hard. He decided that he was going to be the biggest roofer in Spokane. And not like his dad, the littlest roofer in Spokane.

He went to trade show one year, and at that trade show he witnessed…. And you want to go to trade shows to learn what’s new and what’s cool and what’s happening, right? Even if you can’t afford to buy the new equipment, you need to aware of what’s out there. Well, at this trade show, he saw a device that really impressed him. It was a power air gun. And it ran on compressed air. And instead of having an apron for every roofer, and instead of having to go up on the roof and putting your nails down one at a time, you could have this power nail gun, hook it up to your truck, and bam, bam, bam right down the row, and increase your productivity by quite a bit. He was pretty impressed.

Because he was a hard worker and a saver, he had money in a bank account. He went to the bank, took out the money, and went to this supplier, and bought this air gun. He put on a truck, and this improved his business. He became one of the bigger roofers in town. His competitors eventually followed suit, by having similar equipment. But by the time they had one of those systems, he had four. And by the time they had three of those systems, he had nine. So he was able to stay a step ahead of them. A couple of years later, he went to another trade show…. And by the way, all he did was cedar shakes. That’s what they have out there. If you haven’t been out there, they don’t have asphalt shingles like we have. It’s like this building, it’s a California design, or west coast design, it has cedar shakes. All of those nailed, ok? It’s a heavy product to haul up there. Well, he went to this show, and the same company who had sold him the power nail guns, now had trucks with power nail guns as part of the equipment, and the truck was a lift-bed truck. So it would take the product up to the roof level. So instead of having guys haul these up on their backs, and having common laborers busting their buts to get the materials up on the roof, now, they could do this much faster and easier.

A semi would show up, it would be all set to go, and it would raise up on to the roof level, and the product would be put upon the roof, and they would start their power nail guns, and away they would go. They could do a job like a huge building, like this, in one day. And that was from start to finish. So they had a competitive advantage.

Well, he did well and make a lot of money. Pretty soon, he was the largest roofer in all of Spokane. He didn’t do the flat roofs, the kind where you have the gooey tar and all of that stuff. All he did was shake roofs. But he did many commercial projects. And much like these buildings on campus, they are pretty. So he had built up a nice business.

He actually built a warehouse where they cut the trees and make the shingles. So he could buy the shingles right from the producer and he had his own semis that would ship them to another warehouse that he had in Spokane. So he ultimately had his costs way down on virtually everything. And his crews were very efficient. I think he had, at the time I visited, 35 or 45 crews who were out doing operations.

When I visited this guy, he lived in a house that my mom and dad said I had to stop and see. The first microwave oven that I ever saw was in his home. He didn’t care what it cost…he didn’t even know what it cost. It was a big gleaming, shiny thing from Amana. It was kind of amazing…this is where I learned to cook bacon in a microwave. I was impressed.

He had nine guest bedrooms—nine guest bedrooms. Now, he had several children, and they would have holiday events and what not. But all of his children lived in the area, so the only one that didn’t have his own home was Ted. He was the youngest. The other two brothers worked in the business. Ted had worked in the business for a while and didn’t really like it. The oldest brother was really the one who was going to take over the family business. So there was no room, really, for Ted in that business, in his opinion.

But when we visited, we were pretty impressed. They had an Olympic-sized pool. So the house was built in this L-shape. And you came in to the front door, here, and there was a little curved drive way that went off this way… And then you had beautiful views looking out this way, because the house was built on top on an elevated part of the property. And so you could see the tops of these beautiful pine trees as you looked out the windows. But in the middle was where they had all of their fun stuff. They had a swimming pool, and a nice deck. They had two water slides and two diving boards. I had never been to a private home that had that much stuff. And then they had boats down at the marina, which wasn’t that far. They had jet skis on the river and all of that stuff, snowmobiles for the winter. Actually, it was the first time that I had ever seen a trailer designed to haul twelve snowmobiles. This was something that they normally would have used to haul wood shingles, but they had converted it to haul snowmobiles. But my dad said that I would be impressed, and I was.

But the wonderful part about this story is that Jim told me that this house cost him zero. I said, “Wait a minute, man. I am not a fool! You can’t tell me that this house cost you zero.” He said, “No, it didn’t cost a penny.” And I asked him how a house like this could not have cost him anything. And he said that it actually did cost him something, but it’s how you put it together that’s really critical. He said that he did it by doing something that is called “trade-up.”

A guy might need roofing done for his mom’s house, but he’s an electrician. So he does the electrical work and puts in the electrical system in my house, and then I do the roofing. So I’m using my company as a way to pay for my house, but it’s not really legit. And I asked, “How about taxes?” And he goes, “You got to have a really good attorney; you got to have a good tax accountant, otherwise, there could be issues.” But he said, “I expensed all of this stuff via my business, and it’s all on the up and up, and it’s all legit…” And he said, “Because I know all the contracting people…I know a swimming pool guy; I know a guy who has the slides; and I know a guy who does furnaces…” I mean, he had three furnaces in this house; it was amazing. He said, “That’s how it was. I didn’t have to put down any money except what I had to put down on the land.” And he said, “And I bought the land, because my business needed to expand twelve years earlier.” So he had gone out and had found a beautiful mountain hilltop, and he had bought the land. It was just about 100 yards from his house was where he kept all of his trucks and his warehouse for his local operations. So, he basically lived in this little compound pretty inexpensively.

Well, when it came time to put this building together for this lighting studio project, they had estimated that this was going to cost about $250,000…maybe $300,000 at the most. But they would do it with sweat equity and trade up. So, in other words, they would take many of the same players that Jim had already identified and asked if they wanted new lights in their houses.

Well, in the lighting business [or in any business for that matter] There’s a critical thing called a margin. If I am a building contractor and I do masonry work or if I do carpentry work, my margin might only be 10 or 12 percent. If I’m lucky, it’s more than that. But in the lighting business, the margins go anywhere from 500 to 3,000 percent, ok? Now, if it’s a commercial job…you might be bidding on the lights for Inver Hills, and you might bid those only at 18 to 20 percent above cost. But even on commercial jobs, they were getting from 15 to 45 percent. So it’s a business, where if I do trade out, who wins? They guy with the better margins wins, right? Because it’s what ever your costs are and what ever my costs are. What ever the retail value is compared to another retail value. So you’re getting a retail value of $10,000 in lights, and I’m getting a retail value of $900 for a furnace, right? That worked out to their benefit. So that was a part of how they were going to finance this. In that the building would show a face value, when it’s appraised, of a certain dollar amount. But they would have in it considerably less. And so they can leverage that. Does this make sense?

So they put this plan on paper, they turned it in to the professor, and got their A+. By the way, they also went to Jim’s architect friend, and had him do architectural drawings of the building and some cost estimates, which impressed the professor. I mean there were actually square foot costs included.

[Could they, then, leverage the building to buy the inventory?]

Yeah, they ultimately did, when it was all said and done, to a certain extent. So the professor was very impressed. He was impressed that they had a competitive opportunity, they had a great location, they were building a nice building. Now, if any of you saw the first building on 44^th and France that the Burger Brothers put up… Anybody ever been there? The old Burger Brother’s store? I guess I’m dating myself…they sold their business. But they build a building that was made of prestressed concrete. You’ve seen them, they come on a semi, and they set up, and string them together, and then they put the roof on.

That was the kind of building that it was set to be. It was going to have a big basement, where they would do their inventory, and they would park their commercial lighting studio trucks at night. And then this huge top floor, right? In the basement, they had designed, initially, some office space. And the original plan that they had was for Bob and Alice to come in and live in that space, while Ted and Carol would live in their house that they had just started to build. And they would be able to live in that office space until the project was up and running.

Once that project was completed, and the business actually started to generate and actual cash flow profit, after their break-even, then they would move out of the basement, and they would be fine. If anyone would have asked where they lived, well, they lived with Ted and Carol, at their house, right? They really didn’t live there, however, they lived in the property. But that’s how the program was going to work on paper.

So the professor was pretty impressed with what they had put together and how they were going to finance this. And I think, originally, they were going to borrow some money, because Jim wasn’t willing to come up with all of it. And I think they had said that they were going to borrow money at 10 percent based on Jim cosigning on a loan. So, oftentimes, you can have family cosign, but if you don’t pay it back, then they are responsible, right? Now, that could cause some problems down the road, but if you have no credit…I mean, these guys had just graduated from college, right? They didn’t have any credit. So it’s like, ok, we’ll put this together.

So they listed the name of the bank and how much they were going to borrow, and they were going to get so much money. Initially, they were going to get $25,000 from each of the partners. That was their initial buy-in. And then they were going to be able to borrow the rest of the money. And they wanted to be equal partners.

As it turns out, the guy who was selling the property wouldn’t sell the property for less. He insisted on $300,000. I think he came down by about $12,000. And that wasn’t going to work; they needed to pick up the property for less. So they scraped the idea and left.

Now, Bob…his dad had connections out east, so he got a job with a big marketing firm. And Alice had grown up in the Midwest, and so she thought going out east would be kind of exciting, and so they moved. And Ted went to work for the family roofing business. It didn’t take very long for him to get sick of that and to realize that he really wanted to do the lighting studio. In the meantime, the guy had put up his own for sale sign on the property. And so he realized that this guy was starting to panic. And what was happening was, because of this steep grade, people would pull up along the top and dump their trash out into this empty lot. There was nothing but some streets and some curbing surrounding this property. They would pull up along the curb and just dump their garbage onto this empty lot. They would throw tires or whatever they had in their trucks or station wagons. And before long, the place was covered in garbage.

Well, overtime, the property had gotten worse and worse. What happens, when that happens to your property? What does the city do? You, you’re in the building inspection program…

{They’ll condemn it.}

They’re going to condemn it. They are going to charge you to clean up your property, and so you get a notice in the mail giving you so many days. So they knew that this was eventually going to happen. The city had already sent them some letters about their property being a problem. Well, when Jim’s wife was driving by, she happened to notice—and this is an absolutely true story—a huge rat with its baby. And so she called the city and said, “I was just at this property, and I saw a huge rat with its baby. There must be nests of them in there. This is really scary; I didn’t like this…” And, of course, they know the name, right? This is a very wealthy and influential family in town, and it was like, “Yes, we’ll get on this right away.” So that probably triggered this guy putting up this for sale sign. So Ted looks at this and thinks that he can now buy this property for less. I’m going to make this guy a low ball offer. So he goes in and he sees the guy, and he says, “I will take this problem off your hands.” And the guy asked, “Well, what are you going to do with it?” And Ted says, “That’s none of your business.” Because when you’re negotiating, you don’t share anything, do you? You hold your cards to yourself, right? But he said it was none of his business. But he said the property is no good for this and that, and I’m really struggling. “When I bought that property, it was going to be the best location in all of town. And I died with the thing. I put in sidewalks, and streets, and they’ve assessed me to death, and this is killing me, man. And, now, there’s people complaining.” He went on to say, “I’ve got to sell this…” And Ted says, “I’ll tell you what, I’ll give you $15,000 for it.” Well, of course the guy blows up; he’s pissed as hell. So Ted walks out. He calls him back on his cell phone and asked him if he had calmed down a little bit. And the guy goes yeah. Then Ted says, “I’ll tell you what, I now realize that was probably an insult, and your probably right. I’ll give you $25,000 for it. But I’m going to pay you cash, and I’m going to pay you $25,000 in cash right now.” He said, “Between my partner and I, we’ve got $25,000 that we’ve already put in the bank. You can call this guy, and he’ll tell you that this amount is sitting in that account for that purpose.”

They actually had two of these potentials, but the only one that he could actually claim was this one, because Bob was still living out east. Well, he called Bob and said, “Hey, remember that business plan that we put together…I really want to launch that. I am going to do it.” And Bob says, “I’m really sick of being out east; I hate the traffic; my wife doesn’t like it out here either. We like the west coast lifestyle. We really want to move back to the west coast. Let’s do it.” So he quits his job, and gives up the lease on his apartment, and takes what ever money they’ve saved and they move back. Actually, these guys lived in Jim’s house in the beginning, because they had all that extra space. But they started this thing for real.

They go back to see the guy again, and he’s like, “Ok, I’ve been getting more complaints, now.” Well, in the meantime, everyone of Jim’s employees does what, when they go by the property? The call him. Actually, because they do work for the city, they can tune their radios to the cities frequency and they can call in saying, “Hey, I’m sitting here on the corner, and I’m looking at this rat and this rat, and they’re doing this and they’re doing that.” So, by this point, they’ve got this little organized campaign going to put the pressure on this guy through the city.

The city, ultimately, sends this guy a letter that says we’re going to charge you $10,000 to clean up your property. Basically, they would take city trucks and equipment, and plow it all down and haul it all away, right. So they were going to charge him $10,000 to clear the land. They were also going to send him another bill for $18,000 to fence the property. And he has like 60 days to do that. So once that happens, they know that they need to go back and put some money on the table. So they walk in with, now, $50,000 in cash, and put it on the table, and say, “We want to buy that property.” And the guy’s negotiating back and forth, he’s saying, “No, no, no, you give me the $50,000 and we’ll do a contract for deed for $200,000 at this percent. And  there like, “No, no, no. We’ve got $50,000. That’s all we’re going to give you.” They get up, at one point, and they walk out. He goes running after them and says, “No, no…I have to sell this property; I have to get rid of it by this date!” And he says, “I’ll tell you what boys, if you’ll do a contract for deed, I’ll do that contract for deed at 6 percent, and we’ll do it for $175,000, and you give me the $50,000 as down payment.” And they said, “No, that’s not good enough…We want to build a property there, and we need to have some equity in the land. And if we don’t have any equity in that land, we can’t fulfill our dreams.” And he says, “Well, ok, what are you going to do?” And they said, “Ok, tell you what…we’ll do the same deal, but we’ll give you the $50,000 down in cash and we’ll let you carry us on contract for $150,000 at 6 percent. That way we can own the property free and clear and move forward on our project.” He accepted that; they went to the lawyer and drew up the papers. Now, these guys own this lot; and they own the lot for $200,000.

What’s the lot really worth? They had actually had it appraised, in the meantime, and they found out, from the real estate appraiser, that with the proper building, a good structure, it would yield the city some nice tax money…ok? This property was probably worth $350 to $450,000. So just by negotiating, had they created instant equity? Yeah. So they were pretty impressed. They own the property, now. They take some of Jim’s trucking equipment and they trade out with a guy who owns a dump loader, and they get rid of all the garbage that’s on the property. And they did out their little hole and they do a trade out on the foundation, and they do a trade out on the structure. And the building, as it goes up, is really beautiful. It’s got…the aluminum window frames that are galvanized…I’m not sure if that’s the word I’m looking for…

[Anodized]

Anodized…anodized black aluminum—it’s beautiful. It’s a white building with black anodized trim on the doors and windows. It’s got nice signage… They buy an old van that they got for about $3,000 that had a bunch of miles on it. They had another buddy who needed some lighting stuff. But they completely redid the motor and transmission, while another buddy did the body work. So they, essentially, have a brand new van that looks brand new, but really is an older vehicle. And away they went. They’ve got their structure going.

Except, along the way, they had to borrow some money to finance the materials for this; and they had to borrow some money for the inventory. They originally went to the parents of Alice, Carol, and Bob, because Jim was going to cosign for a certain amount of this. And the parents had each said, “We’ll be in for $12,500.” So basically, we’ll give you half of what your commitment is. So they had about $12,000 from each of those parents, so they had a nice little chunk of money to actually get this thing going. It was unsecured. No one had any claims on that. The deal that they had, with the parents, is that you don’t us any interest—and most parents probably couldn’t do this—and when your business gets going, you pay that back just as quickly as you can.

[Did they call it a gift, too, in the meantime?]

Well, they probably did. They probably wrote it off as a gift, and that’s probably how they did as a tax thing. Because you can give to your children a certain amount each year, right?

[And that would keep their liabilities down on paper, right?]

Yeah, it would keep their liabilities down. So the bottom line is that they were able to pull together some dollars to make this happen.

Now, they went to the bank, who was Jim’s banker, and they said, “Ok, when we were writing this, you talked to us about a loan at 10 percent…” And the banker goes, “Hold on boys, that was a long time ago. We’re in tight money, now. We’re looking at 19 ½ percent prime rate. There’s no way I can loan you money at that rate. There’s not a chance. We’re actually in a tight money economy and I don’t have that kind of money.” And they said, “Well, what do you mean? You need to loan us the $250,000 to buy the inventory, and we need to borrow a bit more money to finance the building. We still owe for the roofing, and the cash registers, and the signage, and the carpet….” And he says, “Well, I don’t know what I’m going to be able to do, boys, but I can loan you $100,000.” And they’re like, “Well, that isn’t enough. We’re in trouble, here.” And he said, “Well, you can go back to you dad, right?” And they said, “No, we don’t want any more partners.” When you think about it, they could have sold stock, right? But if they sell stock, it’s much more complicated, isn’t it. Now, you’ve got more people telling you what to do. They wanted to keep it simple. They wanted to have two primary owners, and that was it, the two couples.

They couldn’t borrow enough money to make it happen, so now they are panicking, they’re in trouble. They own the lot… but, “What in the hell are we going to do?” And the banker says, “Boys, don’t worry about it. There’s money all over the country, but it’s going to cost you more. If I remember right, didn’t your plan include some healthy margins in that business? Wasn’t you’re average margin something like 400%? Well, with that, you can pay all the interest in the world! Screw it, you don’t care about interest. It doesn’t matter! You have plenty of money coming in the door! Because you’re just taking these people to the cleaners! It’s not a problem; I wish my bank could take people to the cleaners like you are!” And then their eyes got like this big, and they’re like wow. And so they said, “Well, what do we do?” And the banker says, “It’s not a problem. I will loan you the $100,000, and I will write a letter of referral that I will send to some other bankers. And we’ll get those other bankers to go in. And as long as I, the local banker, am keeping an eye on this project, and I am committed to it and believe in it, and as long as you have a certain amount of equity in it, they’ll go for it.” And they said, “Well, how much can we borrow?” And the guy says, “Well, if you ask a bank, they should give you $250,000 easy. It shouldn’t be a problem. I know where some money is…up in Alaska.” All of the oil money was up there, right? That’s when they were making the pipeline. They had all of those workers that would take their paychecks and automatically have them deposited in their accounts in Anchorage or Nome. So those banks are dying for people to loan to, right? They are, like, looking for anyone. So you go to the banker’s conferences and you find out who’s got excess money to lend.

But he found them some money in Alaska; he also found them another $250,000 from Florida. Why does Florida have all that money?

{Lots of old people down there}

All of the old farts…my mom and dad, when they sold their business, took all their money and opened up an account in Florida, didn’t they. Now, they kept their bank relationship here, because you always want to keep banking relationships, particularly when they are long-standing banking relationships.

What’s another reason that Florida would have all that money?

[Drug money…]

Absolutely…people would come with suitcases full of cash, and they would deposit it in banks. Well, they passed a law saying that anyone who deposits a certain amount…

[Like more than $10,000.]

More than $10,000, it has to be declared. And, so they cut down on an awful lot of that. But there’s still drug money coming into Florida banks. I mean, there’s no way around it. Well, if you’ve got money coming into accounts, you need to loan that money out again. So you’re going to be very aggressive in making loans. By the way, a lot of real estate developments and a lot of real estate projects in Florida went belly-up, because the banks were giving them too much money—“Well, build it bigger! Build two of them! Oh, don’t build just one gas station, build four!” And they were just handing people money. There was too much money down there, and that was kind of a problem.

Now, you see unfinished projects that are a result of some of those crazy days.

When it came right down to it, the banker in Spokane, when it actually came time to get the money, was only able to give them $50,000. He was at his limit. In other words, his bank had hit their reserve account maximum, at which they could not loan out anymore money. And it just happened that it had fallen on a bad day for these boys. But they weren’t worried.

What do you think the interest rate was on the Alaska bank? Now, you’re dealing with people who have no scruples, here, especially the Florida bank….

{22 percent?}

22, pretty close…who said that? Alright, the Alaska bank wanted 21 ½ percent interest. They were giving the oil line workers 11 percent on their accounts. So they were making 10 ½ percent on every dollar that came in. Now, that’s…you can make a lot of money when you do that, right? And they, actually, sent to these young people that they felt guilty about charging them 21 percent, but, indeed, the prime rate was 19 ½ percent at the time. And they were lucky to get this loan, and that the bank had the money.

By the way, this $50,000 dollars…they, ultimately, ended up signing that at 19 percent. And because Jim was a good client at their bank, they gave them the “friends of the family bank rate.” Nobody borrows at less than prime, but if you know the bank, maybe you can get that down. Are they going to pay this loan off first?

[No…]

Or are they going to pay this loan off first? Yeah, and the bankers said, “Don’t worry about it, boys, you’re not going to get killed at 21 ½ percent interest for long, because the economy is going to change. And as soon as I can loan you more money, I’ll loan you more money at, maybe, 18 percent. And you can take that money, and pay off this loan. So that’s not a problem.” So he said, go ahead and secure that loan. So they secured that loan. What do you think the Florida rate came in at? It just blew me away when I hear it.

{25 percent…}

Wow, I wouldn’t even have guessed that on the worst day, but it came in at 29 percent. 29 percent interest…. Now, what that means is that if you’re paying 20 percent interest, in every five time frames, you’re paying as much as the principle all over again, right, plus the nine percent—I mean, that’s outrageous! And those bankers had no qualms about putting 29 percent on that. The guy in Spokane said, “You need that money, because the first loan is going to pay for everything that comes to your building. And you need that money to do the inventory. And he said, “Actually, this loan is for $250,000, but it goes up to $500,000. So, if you borrow $250,000 at 29 percent, and then six months later, you need another $100,000, you’ll have it. And then, if another six months rolls around where you need another $100,000, you’ll have it.” And he said, “That’s beautiful, I mean, you really want that.” The Alaska bank was like $250,000 and it was a done deal.

What do you think this bank [Alaska bank] took for security and interest?

{The building?}

They wanted the building, they wanted the most secure thing. And because they weren’t very far from the building, they were interested in the building. The Florida bank was not interested in the building at all. What did they want for security?

[The inventory…]

The inventory…yeah. Because inventory…they can hire a moving crew and ship it down to Florida. That’s an easy thing to move around, it’s an easy thing to deal with. So this was tied into the inventory, and this was tied into the building. This initial property was not attached to anything. This was a signature note that Jim cosigned on, and the banker felt confident because of the value of the land. He knew that the land was worth a certain amount, and he’d get paid off.

Ultimately, by the end of the first year, they had paid off the Florida bank, and they had refinanced a little bit of it from the local bank. But they had done pretty well. And I don’t have the exact numbers, here, but I think in that first year, they had done something like $75,000 profit from the commercial accounts.

[Net…]

Yeah, and they had something like $115,000 in residential or retail that they sold to the public.

[In their first year?]

In their first year. Because people were thrilled not to have to go to Seattle to do this, and the town was booming, and they knew everyone in the town, right. They spent their money on local advertising; they had a great location; they had everything going for them. I mean, they absolutely had everything going for them.

So they paid back that first loan, and by the end of the second year they had paid back the second loan, and then in the next year, I think, they did something like $175,000 in commercial and something like $215,000 in retail. And then in the next year, they did something like 3 or 4… the one figure that I last heard about was something like $900,000 in profit combined. Now, I don’t know if that was 3, 4, or 5 years afterwards. But it’s like, wow! Those guys really cleaned up! They did incredibly well.

When I had heard about all of this, I said to Jim, “How could you dare to do that? How could you dare to sign, how could you give them a loan?” He said, “Rusty, you teach your kids how to swim; you teach them about life saving; you give them a lifejacket; you bring them to the edge of the creek, and you kick the suckers in the water… And sooner or later, you’ve got to produce on your own, right?” He said, “That’s what my dad did with me, he gave me $900 and said, ‘start your own damned roofing company if you don’t want to work for me.’” He took a risk; he borrowed a whole bunch of money; and he started his own company, and it was successful. So I believed in that; I believed in the kids; and I believed they had a good plan. But the quality of their plan is what really carried it through. And the thought process that went into it was what really carried it through, and the fact that they were able to maintain the ownership in a way where they didn’t have to give it all up. They maintained control.

Last I knew, they were both living in very fancy houses, much nicer than mine. I live in a very nice house, in Apple Valley…I’m pretty proud of what I’ve done. But my mom said that when her brother visited that he was absolutely blown away.

The roofing company, I think, has been sold. And whether they are still involved in the lighting business or not, I don’t have a clue. But they took a chance; they pulled the money together; and it worked out pretty well.

When I first heard about this story, I thought “Well, that can’t be right…it’s illegal to loan at 29 percent…” Well, that’s not true in the business world. With a business loan, you can charge any interest you want. So, only in consumer loans, is there a cap on interest. In a commercial loan, the amount on interest is based on the foreseen risk that the bank is up against, right? And they saw that there was a certain amount of risk in a retail operation.

[It’s too bad they didn’t have one of those American Express Gold cards…could the interest been as high as that?]

Probably not…. Which brings me to my next point. Are there creative ways to finance a business that aren’t right out of the text book?

[Oh, yeah…max those cards out.]

And you need to research those; you need to know that there are community organizations that want businesses to develop in their area, and where you can get tax increment financing from them. That’s how Cennex built their brand new headquarters in Inver Grove Heights. The moved from Concord, where their old building still hasn’t sold. They still own that; no one wants to buy it. They rent it out for something, now, they get some value out of it, but they got such a good deal from Inver Grove Heights, that they couldn’t pass that up. So there are lots of ways to finance a business.

Now, in this case, they just played some equity games with the property and the sweat equity part in the building of it, but away you go. But there’s one thing you can do, as far as financing…I call it, “go fishing,” where you have a business idea. You describe that business idea in the classified section of the newspaper, ok… So you’re in the want ads, right? Your in the section that says, “business opportunities” and you might run the ad in St. Paul, Minneapolis, or Chicago, Kansas City, or New York, or LA. You got to go more than one place, right? And you give a brief description and a phone number. And people who see that will call you.

Now, who looks in those places in the newspaper everyday? Well, it’s people who have money that want to invest. They look for those kinds of opportunities. A friend of mine, who passed away a while ago, so you can’t borrow money…but I used to tell students that if you had the right idea, and if I was impressed enough, I would have been willing to run it by him or his wife…but that’s not an option anymore, unfortunately. But he used to look in the business section…and he’s the one who told me about this…he said that a lot of guys like me, who’s dad made a lot of money from deluxe stock, and because he graduated from high school as a multimillionaire…the stock that was put away as his college trust fund was way more than what he needed to pay for college, ok…. All he did for a daily job was play the stock market, he had a Great Lakes place up in Brainerd and had quite the lifestyle.

But everyday, he would look in the classified section, and he would look for what, he thought, were the best classified ads. And he used to say that those were the smartest people. So the quality of your ad is critical, right? Don’t chintz, don’t go, “Well, this is costing me $10 per word!” Don’t chintz, put a good ad in that’s well written.

Anyway, he responded to an ad, and the ad read something like, “The best investment opportunity of the California century.” That was the ad. Well, that caught his attention. He read on, and it said, “We’ll make money from Hollywood. Brilliant idea. Call such and such…” Well, of course, he’s going to call, right? He had to call. He finds out that this is a guy who built a platform for filming high speed chases. It’s a movie filming platform that goes 250 miles per hour. It will work on virtually any terrain that’s not pure rock, ok. It will go as fast as the terrain will allow it to go. And this filming platform is level. They use multiple…the same thing that they use in the blimp, when they take pictures from the blimp. What’s on a compass that supports a compass so it doesn’t bounce around?

[Oh, maybe a gyro or something?]

Yeah, there’s a gyro. But there’s another thing that connects the gyro, so that it moves and it floats. Well, what they do is they use multiple players and then they have multiple suspensions. And you could put on this platform…they had three sizes: one, two, or three cameras. So you could get a forward picture, side pictures, and a back picture. And you could follow along with what ever your action scene was.

Well, this company had predicted that action movies were the thing of the future. And here’s how many would be produced in Australia, New Zealand, England, America, etc., over the next so many years, like all of the Arnold Schwartsneger movies, right? Well, Mr. Hirsh invested in this. He called the company up. When he heard what they were doing, and when he heard that they would have the only product like this in the world, he was intrigued. They said, if you are interested, we will send an airplane to pick you up. We’re bringing in groups of investors at a particular time. So he said that he was interested. So he sent in his little invitation, which he had to list all of his bank credit and all of his stuff, so they could check him out and know that he was legitimate. And indeed he was legitimate.

They called him back and said to be at the airport at such and such a time, where there will be somebody there to pick you up. Well he gets to the airport, on the commercial side, and there’s this Lear Jet pulls up and they escorted him onto the plane, and he’s there with a bunch of other wealthy people. He had a great time, they ate caviar, and drank Champaign, and told stories. He went out and saw the product, saw it tested. Every single one of the people that was on his plane invested. He said that they must have done at least ten or twelve of these sorties, bringing people in to finance this deal. But they had enough money so that they could get production up and rolling. Well, I don’t know how much the product costs, but it must have cost a lot. And then they had the plan for better vehicles and better filming abilities. And, so, probably, now, this company that company is one of the best as far as dealing with all kinds of action movies and all kinds of action sets.

How did they get their money? They went fishing, didn’t they. They put an ad in the local paper. So if you want investors, that does work. And I asked bill, I said, “How did the other people on your plane find out about it?” One of them had been contacted by an insider in the industry. One of them had invested in another buddy’s scheme, and that buddy had found out about it. But the other ones all found out about it via the newspaper. So that’s a viable way of looking. That one tip is worth your tuition for the class.

How do you get $50,000 right now, today? There’s a business opportunity that opens up in Lakeville, and you need $50,000 right now, and you don’t have $50,000. But you want to sign the deal tomorrow.

{Ask friends or relatives…}

Yeah, you can ask friends or relatives, but there’s a price for that. By the way, Ted and Bob paid off their parents before any of the banks were paid off. You always pay your relatives off first, because there’s complications that could happen.

How else could you raise $50,000?

{Ask Rusty Mitchell.}

Ask Rusty Mitchell, and Rusty Mitchell’s wife will say no way. At some point in my life, I might be able to do that. Ok, have you got a job?

{Yes…}

Do you have a line of credit, and is it good?

{Yes…}

Yeah, and your proud of it. My daughter, by the way, is hoping to get a $10,000 scholarship by writing an essay to a credit union on why credit is good. I think I’ll help her write the essay.

Well, you’ve got a good line of credit…ok. You go and you get four credit cards, right off the bat. Each one of those might have a $5,000 balance or they might have a $10,000 balance. Now, when you start accumulating credit card debt, then that will be reported on credit rating, right. But, initially, they don’t know that you have just applied on the same day for four credit cards. And do you have a ready reserve checking account?

{Yes…}

Ok, so you can’t get another one of those at the same bank. But what you can do is go to another bank and get another ready reserve checking account, right? So when I heard this at an SBA workshop, I thought, “Well, that’s pretty clever.” You can take a small amount of money… By the way, if you want to borrow money, how much are they going to loan you? There’s a general rule of thumb, here. Let’s say you need a million dollars, how much are you going to get in a loan from a bank? If there’s some risk involved, probably $100,000. The max rule is that most banks will only match what you put in. So if you come to the table, and if you don’t have anything, you’re not going to get anything, right? You have to have $10,000, and if you have $10,000, they will match that. Now, sometimes it’s a fraction of, because it’s a risky thing. And you share the risk amongst some players, and if it’s more than a genuine, normal, risk, you share that with the SBA in an SBA guaranteed bank loan. But that’s pretty much what you’re going to get.

Well, this SBA guy said that you can go out and you can take your credit cards and get an immediate cash advance from each of those accounts, right? Every month, you pay the minimum on each one of those balances. So your credit rating stays good, doesn’t it. You take your ready reserve account, and you write the check out for the maximum amount to a small business loan bank who will do what? They will take your $25,000 and loan you, with a new account, $25,000. Now, you’ve got your $50,000. Each and every single month, you pay those balances so that you don’t hurt your credit account. What do you pay it with? The $25,000 that came from that bank loan. Hopefully, in the meantime, you’ve put some money into the business, and you’ve started to generate some revenue. Or, you take some money out of your personal income stream, because your line of credit was originally based on your personal income stream, what ever you and/or your wife have coming in.

And so, virtually, at any time or place, you can come up with a certain amount of money to start a business. Many franchises, many small business opportunities don’t really require that much money up front. And you’re going to pay a pretty nasty interest rate, aren’t you. But the money is there, it’s available, and you can pay that off. If there’s no profit margin in it…if you’re only dealing with a six percent profit margin, you’re going to get creamed if you’re paying 20 percent interest, aren’t you. So there has to be a good margin in the opportunity, and the sales forecasts have to be realistic and doable. But if that’s the case, then, you can probably make that work.

Are there business people who will loan money to entrepreneurs, and break your arm if you don’t pay? What do you call those people in the real world?

{Loan sharks.}

You see movies about them…yeah, loan sharks. Most people who are consumers will never come across any of those people. But if you’re in the business world, are they preying on business owners and operators? Do they know when you’re in trouble. Do they see your credit report? Do they automatically show up at your door when your hotdog stand is $10,000 in arrears and you can’t pay your night guys? Is that when they show up? Yeah, and they say, “No problem. We’ll give you the money. We’re good for it. This is like an investment company. You’re going to give us some of the ownership.” And there are legitimate investment opportunities, and there are some that are not. Be very very very careful, because there are people out there who will take you for everything that you’ve got. And you have to read the fine print, and, indeed, they break arms, and they kidnap kids and all of those horrible things that go along with it.

Every year in the Wall Street Journal there are several stories about a small business owner, or a medium business owner, that thought it was a great opportunity, this is like a venture capital company coming to me. You always have to go venture capital companies, don’t you. Very seldom are they going to come to you. Now, if you’ve been written up in the press, and if you have an amazing, super, success story…. By the way, venture capital companies only invest in businesses that have true and amazing potential. And you’re going to give up a piece of the pie.

[That’s what I wanted to ask. How much control do you give up if you go through a venture capitalist?]

Sometimes as much as 90 percent.

[Well…]

The deal is when you think about venture capital, and here’s the scenario: You can have a piece of the pie, right? And you can say, “Ok, if have this much in equity and this much in debt, this is my piece of the pie.” And that works…I still have control, because I have control of the debt part of the financing. These people own shares, they don’t have control of the business, but I still have 58 or 62 percent of the business, right?

However, if you want that pie to grow, and if you want a bigger pie immediately, you’re going to have to give a percentage of something. And that’s always in the negotiation. And you want to hold out for the smallest amount that you’re going to give up in ownership.

But when it was presented in a workshop, it finally made sense to me, because I always used to think, “Who in the hell would ever go with a venture capitalist?” But if they, truly, are going to grow your business, they’re going to give you a viable and decent share for your knowledge; they want to keep you in the business, right? This is your baby; you grew it; you launched it. They don’t want to lose you. So they’ll make your percentage, your share viable. So if I get a small sliver of a much larger pie, I’ve given up some of my ownership, but I’m way ahead, aren’t I. But you have to understand that when you do that, you give up control, you give up ownership.

There’s a medical products, right now, that’s in court trying to fight that out. These guys decided they weren’t going to do that. Who owns 100 percent of the shares? The two original partners. The husband and wife own 50 percent, and the other husband wife owns 50 percent. When they sell the business, the total value of the business is divided by each couple in half. Is that the perfect way to go? Well, it’s a lot less complicated.

But sometimes in order to get a business to the next stage, you need to bring in some mega bucks. You got to do that. My friend, who did the venture capital thing, his younger brother, Jack, is the number one owner of shares of Summit Brewing. How did he get to own the most shares of Summit Brewing of any other stockholder? Well, the family had made money in Deluxe, and he had made money in some other stock deals, but when Summit built that new building…Have any of you seen that new building? It’s a big step from their original facility, right? They needed a lot more capital. And they were willing to do that. If you have some good investors who will put in a certain amount of dollars, and they respect your management skills and abilities, and if they give you a large enough share to keep working for yourself and your team, with profit sharing, the whole thing will grow. And the investors are happy, because their doing alright.

If you know how to play this game, can you do well in life? Yeah, don’t piss money down the rat hole of rent. Do not rent property. I only lived in a rental property for one year. I lived in a property that was rental property in Edina, but I lived there free as a caretaker, remember? Only one year did I pay rent to a rental facility in St. Paul. I’m able to have the equity that I have because I have always have been building equity. Every year I build equity. Some of it’s sweat equity, ok. Take a look at my property on 44^th and Upton, look at the wall that’s out front; I built that by hand. I bought a property for $50,000, I sold it for $250,000. Do you see how you get ahead in life? You buy income and rental property. You find a burned out building, you sweat, you work hard, and you fix it up. And that’s how you get ahead in life, and you can get ahead fairly quickly.

By the way, you can also buy distressed properties from divorced couples. It’s really sad for the couple, like if you guys were a couple, and you get divorced, but someone might come along, like a judge, and say that you have to pay, well that’s when I come along and offer bottom price for your property, and I get the deal. There are those kinds of opportunities out there. But for the most part, how you build equity is by buying property, paying the least cash down that you can, and financing it, and renting out as much of it as you can. So when I found myself a single guy, what did I do? I started looking for houses on Summit Avenue—big houses, huge houses—that I could have a lot of roommates in, maybe 15 to 20 roommates. It would have been something that I would have fixed up over time and use as a rental property.

I ultimately ended up getting married, and didn’t do that. I couldn’t find the right property. I looked for a couple of years. I found out that it’s a lot easier to go to the seminars and learn about buying property than it is to actually really buying the right properties. But there are good deals out there. My brother-in-law has a relative who works for a company that all they do is fix up houses that burned. And they work, primarily, for the real estate firms, and they work, primarily, for the insurance firms. But every now and then, I’ll say to Ted, “Have you got a good property?” And he says, “Yeah, but for who?” And I say, “Well, for either me or one of my students, or…” And he’s got a hard time with this, because he’s got a lot of people asking him about these leads, right. But he’ll find a property that’s a pretty good value, and where he knows the land is worth a certain amount. What they do is they go in and spray all of the wood with chemicals, so you no longer will smell any of the fire smell. And then you rebuild the house from there. And when somebody buys that house, you have to let them know that that house had a fire. You can’t hide that from them. But they’ll be so impressed with the value that they are getting, and in the meantime you’ve rented out that property as rental income, right, until you’ve sold it. That’s a good strategy.

So, build equity, have fun. Put money aside. If they hadn’t had any savings, they couldn’t have done anything, could they.