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John Fallenstein,
CustomRock Formliner:

651.699.1345
jfallenstein@custom-rock.com
www.custom-rock.com

Thick skin
by Beth Ewen

John Fallenstein knew that negotiating the acquisition of a company would be difficult. But when his three-year quest to buy his first firm zeroed in last year on CustomRock Formliner of St. Paul, he learned that a formidable seller would be across the table: Bruce Mooty, principal at the Minneapolis law firm Gray Plant Mooty, and representing the Mooty family who owned the firm.

Was he nervous? “Wow. Absolutely,” Fallenstein says. “Bruce has a great reputation, very ethical, great attorney, but he’s also known as a great negotiator. I thought, I’m bringing a knife to a gunfight.” But armed with veteran legal help, led by Jim Sticha of Leonard Street & Deinard in Minneapolis, Fallenstein successfully acquired the company and today is enjoying a national focus on infrastructure projects from the Obama administration’s economic stimulus plan. “I think we’ll grow 10 to 15 percent this year with our eyes closed,” he says. Upsize asked him to detail what he learned along the way to his first acquisition.

Upsize: Congratulations on acquiring CustomRock. Tell me about the company.

John Fallenstein: We manufacture urethane formliner for bridge and highway work. It’s like a jelly mold for concrete. I never thought I’d be in this industry. We have over $5 million in annual revenue, 25 full-time employees and 8 to 10 seasonal. Our customers are the general contractors or pre-casters, also the DOTs, departments of transportation, and quasi-governmental people.

It’s not clear how much money will be available from the economic stimulus package. We’ve experienced a serious uptick in our bidding activity in the first quarter of 2009, even without that. Not all of the projects need liners. If it’s a bridge in the middle of nowhere they’re not going to put any aesthetics on it. With our treatment, what happens to the concrete is it looks like stone or looks like river rock.

Upsize: When did you start to look for a company to acquire, and why?

Fallenstein: I spent the first eight years of my career working for Glen Taylor, of the Taylor Corp. Mankato-based printing enterprise. I did a lot of different things, and found I enjoyed the management. I left Taylor in 1999. The next couple of years I got a background in technology. I started a business with a friend who had a product with a patent, a flyklip, the little flap of material that covers the zipper flap. The main takeaway was, I wasn’t into retail. We ended it in 2003.

I lost both of my parents in December of 2003 in a car accident. It was a tough time, but it allowed me to have a new perspective on life. I decided to be more proactive. I decided I really wanted equity. I started in November of 2004 and my goal was to buy an existing company.

Upsize: How did you know what to look for in an acquisition target?

Fallenstein: I met with Pinky McNamara, he preached the gospel of distressed companies. I looked at about six distressed companies, but there was too much risk for me. I changed my filter to find any EBITDA-positive company which stands for earnings before interest, taxes, deductions and amortization, up to $7 million valuation, business to business, in no specific industriy.

Some of my advisers said, that’s too broad. But I wanted to try on all the options, go out and look at what’s available.

Upsize: What kinds of people did you talk to during this phase?

Fallenstein: I needed to talkto the business brokers for sure, plus attorneys and accountants. Ithought they might know about a deal before it hits the market. I bet Ihad a list of a hundred people. As you know one of those people wasyou, and when I met with you, you suggested I talk with Kathy ZerwasBrown and Sally Macut, because they had recently acquired a company,Designer Sign Systems. They were amazingly helpful. They gave us theirlist of all their contacts.

We also bought a subscriptionto SalesJunction, a database where we could log all the deals we weretracking. I was lucky I’d met a lot of people. I’ve just been a peopleperson. With my business partner at the time, Mark Zoia, we talked withanyone who would listen. Everyone was willing to help. I think peoplefind it interesting.

Upsize: What was the most fruitful source of information about actual targets?

Fallenstein:The brokers. Some brokers were a lot better than others. You have tohave your antenna up. Mark and I spent two years doing this. Our goalwas to buy a business so every day you didn’t buy a business you didn’treach your goal. We looked at over 200 companies in the two years. Wespent serious time on 20, and we spent legitimate money on four orfive. For the really serious money we had two.

Upsize: How does the process go, when you get more serious about a company?

Fallenstein:We spent a little legal money up front, which is important. When youdecide you want to look more closely you sign a nondisclosureagreement, and meet with the broker, and then meet with the seller.Then you evaluate the prospects.

Then you submit the LOI, theletter of intent. There’s so much gut feel as to what the business isworth. In our range, the $5- to $7-million deal, there’s not a lot ofdata out there about those. The brokers are good sources ofinformation, and we talked to a couple of people who were reallyhelpful. John Hammett of Cherry Tree Investments, he’s a great guy andvery helpful. Cherry Tree does larger deals than what I was in themarket for, but he was willing to help.

We were green. We really didn’t know. One of the first deals, we wentin with what we thought was a fair offer. They wanted a 7X multiple,and we did 4X. We heard later they were insulted.

Upsize: Walk me through some of the details of that process.

Fallenstein:First you put in a term sheet: this is what we’ll pay, so much moneyupfront, and how you’ll structure the deal. Then the seller will lookthat over, and counter.

The structure of the deal is almosetmore important than the valuation. The term sheet is something we’dtalk to our advisers about, then there’d be negotiation. Then yousubmit the LOI, the letter of intent. It’s like a mini-purchaseagreement. Attorneys are involved, but we were negotiating, we weredriving it.

Once you sign the LOI, due diligence starts. You have a lot toaccomplish. Any good attorney will have a list of what you need. Thereare 100-120 items, such as articles of incorporation and that kind ofboring stuff. They’ll disclose things like any pending lawsuits,environmental problems.

Upsize: How much did you depend on your advisers for this?

Fallenstein:Before we even found a deal we’d met with attorneys, accounting firms.I met Jim Sticha, Leonard Street & Deinard, through my familyattorney. They were phenomenal. My banker at M&I Bank referred meto the accounting firm that they work with often.

Upsize: You said you almost closed a deal in 2006. What happened?

Fallenstein:We found a firetruck company in Luverne, Minnesota, through a brokerhere. In fall of 2006 we started due diligence. You have 90 days, so wewere down there every two weeks. We spent close to $80,000 on thisdeal, and negotiated a whole bunch of stuff. At the end of the day, theseller got cold feet.

There were two big learning momentsfrom this: One, we both had ignored our instincts. The seller gavesignals, but we ignored them. So following this deal, we always asked,are you sure you want to sell? Two, disclose as little as possibleabout your post-acquisition plans, especially if it would increase thevaluation.

Upsize: After this you found CustomRock. What happened?

Fallenstein:Mark had allotted two years to the search. He decided to go back intohealth care at the end of 2007. Two months later I found CustomRock.Franklin Partners was the broker; they were phenomenal. They were veryupfront about everything so there were no surprises. The book that theyprepared about the deal was spiral-bound, 70 pages. They detailedfinancials, trends in the industry, they were looking under every rock.

I looked at the deal and thought it was really interesting. Thefinancials were good. The industry is interesting. At the time ofcourse I didn’t know anything about the infrastructure emphasis thatwould come up with Obama’s economic stimulus plan. I had a lot ofadvisers tell me, some of these businesses under the radar are reallyworth looking at.

I arranged a management meeting in Dec. 20, 2007. I met with PaulMooty, who was acting as CEO for the seller, and the VP of sales, andthe controller. I walked into the president’s office, and he has apicture of a Chris-Craft wooden boat from 1949 that he restored. Ithought, he was so detailed, and I’m not.

Paul’s cousin is Bruce Mooty, the principal at Gray Plant Mooty. JohnMooty and Mel Mooty are in their 80s, their family owned CustomRock.

Upsize: Did it make you nervous to be negotiating with a family like that?

Fallenstein:Wow. Absolutely. I thought I’m bringing a knife to a gunfight. BruceMooty, he’d had a lot of high-profile at-bats, like with the Vikingsand the I-35W bridge collapse. The negotiations were really, reallychallenging.

I killed the deal three times. I walked away.I thought I could negotiate this without drama. But I learned from myattorneys, you don’t give anything up without getting something back.Our attorneys did the actual back-and-forth. I never negotiated withBruce until the last day. That was actually helpful. Those were theheavyweights so all the bad stuff happened over there. Then I couldstill meet with Paul Mooty and it would be fine.

We negotiated a little bit on the number and structure itself. I camein with an offer that was almost all cash. I knew I had to have astrong offer because there were two other bidders.

I also sold them on the fact that I wasn’t going to come in andover-leverage this thing and shoot the moon. I’d take care of all thepeople there. I think that was important to them. The valuation isprobably 90 percent of it, but the other stuff matters.

The other thing I did extensively, was financial modeling, and what kind of a return I would get, with different terms.

Upsize: Was it important to have the willingness to walk away, and was that hard?

Fallenstein:You have to be careful. Remember, we had 3 1/2 years of looking for abusiness, and then you find the right one. Your banker’s great becausethey won’t let you overpay. The deal closed April 1, 2008. We almostkilled the deal on that Friday before, over shareholder liability. Butwe worked that out.

Everything that I did up to that point played a part. This deal was the culmination of all the other things that happened.