Street Smarts

By the time Norm's new hotel opens, it will have been booked for the next three years, and therein lies an important lesson for any entrepreneur.The news from Tioga, North Dakota, is that Black Gold Suites—the new hotel I'm building there (see "Black Gold for You and Me," September 2011)—will open on March 1. But don't bother trying to get a reservation: By then, we'll have been booked up for the next three years. How that's happening is a story in itself and contains a couple of useful lessons about negotiating.You may recall that, shortly after we worked out a deal with the city of Tioga in April 2011, we put up a billboard on our site announcing our intention to build a hotel, and we included a toll-free phone number. We hoped some of the big employers in the area would call to ask about reserving space. And call they did. In spades. We told them that the hotel would be completed in nine or 10 months. Several of them said they wanted to meet with us. We said we weren't ready to meet.Understand, I was dying to meet with them, but I didn't think the time was right. I believe that in negotiating, you should never ask for something you're pretty sure you won't get. What I wanted from the employers were letters—or, better yet, contracts—indicating their intent to reserve a certain number of rooms for an extended period of time. I could then use those contracts to get a bigger loan from the bank. But I had reason to believe the employers wouldn't be willing to sign any letters or contracts until somewhat later.A little background here: As I explained in the September column, the use of the new (and controversial) practice of hydraulic fracturing, or fracking, has led to an oil boom in northern North Dakota that has drawn thousands of workers to the area. The result is an acute shortage of lodging, which I proposed to help relieve by building an extended-stay hotel. I wanted the local bank to give me a loan, but I knew that no banker in his right mind would offer me a construction loan. After all, I was talking about building a 100-room hotel in a town of about 1,300 people. It was far too risky a proposition for the bank. So I didn't ask for any upfront money. Rather, I proposed that the bank give me a loan after Black Gold Suites was built, when the risk would be much lower. I'd finance the first hotel myself, to the tune of about $6 million. Then I would use the bank's money to finance the two other hotels we were planning to build on land we'd bought elsewhere in North Dakota.That was a deal the bankers could make. They indicated they would be willing to let me have a loan amounting to 50 percent of what it had cost to build the Black Gold Suites in Tioga. It was a good offer, but I wanted more, and I figured I could get it if we had long-term commitments for all our rooms by the time we completed construction.I had a sense, however, that we were unlikely to get any commitments from the big employers before we had a building to show them. First, there was the response I'd received when I'd asked the city auditor why the Hess oil company hadn't built lodging for the dozens of people it employed in the area. "We've had them in here," she'd said. "They told us, 'It's not the business we're in. We pay these people plenty of money. Somebody else will come along and do it.' " In other words, Hess didn't want to get involved in the construction of hotels.What's more, I'd learned that someone else had already tried, and failed, to build a new hotel in the area. The would-be hotel builders who'd preceded us had gotten only as far as pouring the foundation. I had to assume that they'd attempted to raise capital before they'd abandoned the project. No doubt they had approached the big employers for commitments and been turned down. If I went to those same employers and didn't have a hotel to show them, they'd figure I was just like the previous group—an underfinanced builder who couldn't be counted on to finish the job. I wanted to avoid that association at all costs.Now, I suppose you might wonder why I didn't just have preliminary meetings with the employers who'd called in and then set up a second round of meetings when the hotel construction was further along. That brings up another negotiating principle: Never assume you'll get two bites of the apple. In my experience, more than one bite is rare. What's more, I thought that having meetings before we were ready to do a deal would show weakness, and that would hurt our negotiating position later on. In the first meeting, people would ask us what we wanted. We'd have to inform them that we'd subsequently be asking them to reserve a bloc of rooms. They would thus come into the second meeting with the understanding that we needed them, which would have put us at a disadvantage.On the other hand, if we waited until it was clear to everybody that the hotel was going up without outside financial support, people wouldn't know exactly what we wanted until we sat down together. That would enable us to negotiate from a position of strength. We'd be offering the employers an opportunity, not pleading for their help. We could say—truthfully—that we'd received numerous inquiries from companies interested in leasing our rooms and we were pretty certain that they would go fast. We would be able to tell the employers that, before we opened for business, we were giving select customers the chance to sign a lease guaranteeing them as many rooms as they thought they'd need.And that's exactly how we played it. People who called for a meeting were told, "Yes, Mr. Brodsky is the person you need to speak with, but he is away for the next couple of months." That was also true: I was doing a lot of traveling. "He'll be happy to talk with you when he returns." Meanwhile, construction proceeded apace.I'd decided to wait until the framework and the outside walls went up. If you've ever built a warehouse or some other structure, you know that, with the walls in place, it appears as though the majority of the work has been done, although you're probably just a quarter of the way there. You still have to do all the interior construction, the wiring, the plumbing, and so forth, but most people don't see that. What they see is a building that—from the outside—looks very similar to the finished product. They assume the rest of the work will be completed in short order.Our construction crew raised the walls of Black Gold Suites in November, and we began having meetings with prospective clients shortly thereafter. We'll wind up with five or six firm commitments. Then I'll go back to the bankers with a deal that I think they'll be quite willing to make, since it will involve even less risk than they've been expecting.And, oh, yes. You are all welcome at the grand opening next month. Just remember that you may have trouble finding a place to stay—and the temperature, with the wind chill, is likely to be about 20 below zero.

The best way to avoid bickering over family ownership of a company is to put everything in writing early on.Dear Norm,My sister had a great idea for a product and started a business. I joined her and put in long hours, without compensation, for two years. My sister promised me 10 percent of the business in return. However, nothing was ever put in writing.She kept at it, and in 2009, orders for the product took off. Our brother stepped in, investing hundreds of thousands of dollars, and the company is finally turning a profit. The question is, How much of it do I actually own? My sister says I own only 10 percent of what the company was worth when I left. She says my rightful share today is "minuscule," given the large infusions of cash from my brother. What is the fair division at this juncture? Name withheldOwnership disputes can be ugly. If the disputants are members of the same family, the potential for ugliness is even greater. For that reason, I always advise people to formalize ownership understandings with family members early on, rather than counting on mutual goodwill to resolve problems that may arise.That said, the family in question may still have enough mutual goodwill to strike an agreement that is acceptable to everyone. I told the writer (who asked to remain anonymous; I'll call her Karen) to imagine that the growth capital had come from an independent investor rather than her brother, and that the investor had received 40 percent of the stock in return. That would have left 60 percent for Karen and her sister. Assuming they were both willing to honor their original agreement, Karen's sister would have ended up with 54 percent (that is, 90 percent of 60 percent) of the stock, and Karen would have gotten 6 percent. The sister would thus have retained control of the business, while Karen and the brother would have been compensated for their contributions.I urged Karen to sit down with her siblings as soon as possible and work out some such agreement. They should then turn it into a legal contract among the three of them. Aside from clarifying what they've settled on, they will need a formal ownership agreement in the future if Karen's sister eventually decides to seek outside funding. Mutual goodwill isn't something you can rely on when doing deals with professional investors.

How can you retain a great company culture when forcing an ownership transition?Dear Norm,In 2002, my wife and I sold the automotive-repair business that we had owned for 15 years. We were fine for a while, but things have gotten very tough. I never thought that, at the age of 48, I would be unemployable. My wife has started a housecleaning business to make ends meet.Meanwhile, a new opportunity has come up. We're thinking about buying a car-repair shop in Florida. It's very successful and well managed, with 19 employees and 11 repair bays. My wife and I have the experience to make this work, but I'm concerned about having a smooth transition. The company has a great culture. We don't plan to change a single thing. In fact, we want the current owners to stay on for a year while we learn the ropes. What else can we do to make sure the transition is as easy as possible?Michael A. DunnShamong, New JerseyWhen you buy a company, culture is key. In my experience, more acquisitions fail because of cultural problems than for any other reason. So Michael Dunn is right to focus on that issue. I told him he was wrong, however, to think that he won't "change a single thing."He will make changes. It's inevitable. No two people run a company in identical ways. So my first piece of advice to Michael was to make a point of not saying that nothing would change. To have a smooth transition, he needs to maintain credibility and establish trust. He will lose both if he starts out by making a promise he can't keep. If it were me, I would get all the employees together for a meeting in which I would praise the previous owners, support the approach they've taken, and talk about strengthening it. I would say, "If there are ways you think we can improve, I'd like to hear about them." Then I would put up a suggestion box and get into the habit of reading and responding to every idea. The point is to include employees in whatever changes are going to happen.Second, I told Michael that, however long the current owners agree to stick around after the sale, their ongoing presence should be at his discretion. He has to be able to ask them to leave at any time. You don't really know someone until you've worked with the person for a long period of time. Michael has no idea how well they will all get along. For that matter, neither do the current owners. But given the responsibilities he'll be taking on when he buys the company, the choice has to be his.

Even in tough times, entrepreneurs are incurable optimists. But too much optimism can blind you to the obstacles ahead.Consider a recent survey of Inc. 5000 CEOs that appeared in the magazine's October issue. Eighty-five percent of respondents described their companies as "strong" or "very strong"; only 25 percent felt the same way about the economy as a whole. Even the worst economy in 80 years can't get a business owner down.That said, if you happen to be an entrepreneur—especially a first-time entrepreneur—you would be wise to keep a leash on your optimism. I'm not saying you should stop being optimistic. Optimism is great. You wouldn't have a business without it. But unless it's balanced by realism, optimism can blind you to obstacles and lead you to take unwise risks. In the start-up phase, overoptimism usually takes the form of unrealistic sales projections, which lead to inaccurate cash-flow projections, which in turn lead to incorrect estimates of the start-up capital needed, which then lead to running out of cash. Overly optimistic sales projections can also cause trouble during the expansion phase of a business, but the greater danger there is that you won't take into account everything that could go wrong with your growth plans.I speak from experience. Back in 1988, my overoptimism landed my messenger business in Chapter 11. The key mistake I made was to use the credit of my healthy business, Perfect Courier, to prop up a very sick business, Sky Courier, which I had recently acquired. It never crossed my mind that I might not be able to make Sky Courier successful. But it failed, bringing Perfect Courier down with it. The latter's demise happened only because I had tied the fate of the two businesses together. It took me three years to work my way out of Chapter 11, which gave me plenty of time to think about what I had done wrong and why, and how to avoid doing it again. Part of the problem, I realized, was overoptimism, which led me to make crucial decisions without thinking through the pros and cons.So I came up with two rules. First, if you have a viable business, protect it. Don't do anything that would jeopardize it. Above all, walk away from any opportunity that could bring the main business down if things don't go as planned. Second, never make a major decision about your business without first taking a shower. That's right—a shower. Not only do I do my best thinking in the shower, but I never have time to take one during the day. So I'm actually telling myself to put off the decision at least until the next morning. In the beginning, I had a hard time following this rule, but it eventually became second nature. I can't say I haven't made any mistakes since adopting it, but I've at least managed to avoid making big ones. Plus, I'm cleaner than ever.

Norm Brodsky says that buying a business to stifle competition is never a good move. Spend the time and money improving your own business.Dear Norm,In the fall of 2008, I bought a poorly run wholesale souvenir company whose products were popular with gift shops. I've since stabilized the business and am now looking at expanding. There is another company that I have not viewed as a competitor, although its products are equivalent in price and quality to mine. Unlike me, the owner has sold the products directly out of her small shop, as well as to a few large retail customers. Now she has put the business up for sale, at a much-inflated valuation. I have gotten in touch with the broker and am considering buying it as a defensive move. I fear that if it is bought by a company with distribution and sales reps in my region, I'll face stiff competition that will cut into my revenue and erode most of my profit. Even if I get the price down, I'll have to dip into my savings to do the deal. Do you think I am being overly pessimistic, or are my fears justified? —Name withheldYou should never buy a business for the wrong reasons, and buying one to stifle competition is definitely a wrong reason. As I told the woman who sent me the query—I'll call her Rebecca—such a move doesn't really protect you from anything. After all, what is to stop someone else from coming along and starting a business with the same characteristics as the one you've bought defensively? You will have wasted your money and, more important, your time and energy, which would have been better spent working on your own business.Besides, you should never fear competition. Competitors can't hurt you. You can only hurt yourself. If you offer better products and better service than anyone else, you will attract plenty of customers. I think you need competitors, and it doesn't bother me to have strong ones. They expand the market, and they keep me on my toes.That said, you shouldn't ignore the potential sale of a competitor. I told Rebecca she should see this as an opportunity to increase her business. The broker had told her that the owner was selling because she was spending all of her time on another business she owned. If she's not paying attention to her customers, now is the ideal time for Rebecca to try winning them away.Please send all questions and comments to AskNorm@inc.com. Norm Brodsky is a veteran entrepreneur. His co-author is editor-at-large Bo Burlingham. You can follow them on Twitter at @normbrodsky and @boburlingham. Their book, Street Smarts, is available in paperback.