This was a great read, David! Thank you for sharing.

I would also love to hear your thoughts on the step-up for acquisition capital (and if/when it's worth self-funding the search as a result), AND how you see the payout math penciling out on *median search fund deals* with the 8% PIK dividend?

What growth expectations do you think a searcher needs to have going into the acquisition to have high conviction that they'll be setting themselves up for a "reasonable" payout +5 years down the road?

Do you think pressure to earn above the PIK Div has pushed searchers to look for "growthier" (often more software-oriented) companies or is that primarily because of the business model?

I've seen many more search fund acquired companies with an average growth rate of 21% *at acquisition* (particularly from searchers backed by a few of the more progressive search investors). Do you see this as a reaction to needing to meet the pref equity hurdle?

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Hey David, thanks for replying to this! Maybe it’s the way you phrased it, but I'm *pretty sure* that the following statement is incorrect:

"...remember, only 1/3 of the common equity we earn comes from performance (1/3 from the acquisition, 1/3 from time)."

Due to the waterfall structure and the preferred equity hurdle, I would argue that ALL of a searcher's equity compensation is based on performance.

Yes, only the last 1/3 is "technically" based on performance, but because a searcher is last in the waterfall, a searcher's 1/3 from the acquisition and 1/3 from time are essentially worthless unless hit the 8% preferred return and return capital to their investors...

I quickly put together a spreadsheet (below) to demonstrate my point, but in short, if a searcher buys a $6m ARR software company for $36m (6x ARR), doesn't use any debt (which I know likely WON'T be the case), and then isn't able to grow revenue more than 8% (assuming NO multiple expansion), they won't earn any of the common equity (including your 1/3 for acquisition and 1/3 for time). I didn't include a catch up provision or model out the stepped up search capital properly, but it still demonstrates my point.

We're on the same page about this right?


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Ok, phew + awesome! Totally agreed on buying a GREAT company... but this leads me to my NEXT questions.

Software businesses growing >20% annually that are cashflow positive with >$3m in ARR represent (probably - a total guess here) <1% of cos in the U.S.

They are TRULY the crème de la crème.

1. How did you build conviction / self-belief that you'll be able to find companies that fit this profile? I (personally) have found plenty of +20% growers, but none are legitimately profitable / Rule of >40.

2. Sometimes I see these companies compete with venture-backed companies. How much thought do you give toward searching in a sector with VC-backed competitors?

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