Margin Of Safety
Margin Of Safety
If you are a Berkshire Hathaway or Warren Buffett/Charlie Munger fan like us, you will be well familiar with the term “Margin of Safety”
In business and finance, the “margin of safety” is the difference between a company’s current sales (or an investment’s market price) and its break-even point (or intrinsic value), representing the buffer a business or investor has before becoming unprofitable or incurring losses.
At SHV, we take Margin of Safety very seriously. We ascribe to the belief that compounding is the 8th wonder of the world, and that the #1 rule of investing is to never lose money and that the #2 rule is to never forget rule #1 (another great Buffettism).
When we back an acquisition entrepreneur, we do everything we can to ensure downside protection and adequate Margin of Safety through the following:
💼 📈 The target is an existing, profitable business, not a startup
📊 🧾 We receive at minimum 3 years of tax returns, a 3rd party Quality of Earnings report, and background and reference checks on the searcher.
🤝 🧑💼 The acquisition entrepreneur with whom we partner diligences the business and stands to benefit the most from its upside (they own 70-85% typically) and stands to be hurt the most on the downside as they sign a personal guarantee for the debt. We believe this symmetrical risk/reward is fair and appropriate, and notably lacking from the startup and public market worlds where CEOs have both less upside, and less downside, vs the Entrepreneurship Through Acquisition (ETA) space in which we operate.
🏦 💳 Bank diligence and 1.3+ Debt Service Coverage Ratio (DSCR) are included in every deal we do. We won’t invest if there is no bank involved. Bank underwriting provides a valuable source of conservative diligence, in particular around cash flow and underwriting the value of the business/assets/enterprise value. This 30%+ “Margin of Safety” on the DSCR is a baseline, and many of our deals include 1.4X or greater coverage.
💰 🔁 Return of Principal: SHV further provides downside protection to our investors by restricting distributions to the searcher until 100% of our principal and interest has been returned. If Rule #1 is to never lose money, it certainly helps to focus on getting your principal investment out quickly (typically 2–4 years). This is a drastic philosophical difference in our model vs illiquid startup investing.
🛠️ 📚 Back-office: SHV’s super power is SMB Edge, our in-house back-office team that provides accounting and finance oversight, and additional service offerings (IT, HR, offshore staffing, website and digital marketing, event ops, equipment leasing and more) to give our CEOs exposure to best in class support, and discounts on 3rd party, approved vendors outside of our offerings. SMB Edge ensure that our portfolio company books are done correctly, and that tax and dividends are filed and distributed on time, from the start and throughout the duration of our investment term.
If you'd like to learn more about SHV, or share a deal, please get in touch!
“We are not rich due to intelligence but to temperment. We rush in when everyone else is running out. We are equipped financially and emotionally to play offense while others are scrambling for survival.”
— Warren Buffett
