My $3.3M mistake
Ever since I was a teenager, my dad would occasionally send me things to sign — things for the family business. I didn’t understand the complexities of it, and didn’t need to, so I’d just sign without question.
Four years before starting CD Baby, as I was recording my first album, I needed to borrow $20,000 to buy studio equipment. My dad said, “Instead of lending you money, start a corporation. Then the family business can buy shares in your corporation.”
So I did. Because my band was called Hit Me, I called the company Hit Media Inc.
My dad’s company bought some shares, and that helped me finish my album, and continued to run my recording studio at a profit.
Four years later, I was living in Woodstock, New York, and started this little hobby called CD Baby.
The first time I got a check addressed to “CD Baby”, I brought it down to the bank and told the bank teller, “I need to set this up as a new business, so let’s open a new business account.”
She said, “Oh you don’t need to do that. You can just make it an alias on your Hit Media account.” At that time, Hit Media was a recording studio and booking agency.
It seeemed a little strange since CD Baby was definitely a new business, but it saved 10 minutes and $100, so I said OK.
Four years later, CD Baby was doing really well. A few million dollars in sales. Probably half a million dollars in net profits. I paid my dad back the $20,000 I borrowed.
I called up my accountant in January to say, “OK. I got all the accounting books balanced. Should we file early this year?”
He said, “Oh, you don’t need to file. CD Baby is just a line item on your dad’s company’s tax return.”
I said, “Uh... what?”
“You didn’t know that your dad’s company owns 90% of CD Baby?”
“Uh... what?”
“You should talk to your dad.”
Yes, it turns out that one of those pieces of paper I signed without question had sold 90% of the shares of Hit Media Inc to his company.
Then because the bank teller advised me to make CD Baby an alias of Hit Media, that meant my dad’s company owned 90% of CD Baby as well.
Oh, what a sinking feeling. What I thought was my company all these years was not actually my company. I owned only 10%.
I couldn’t be mad at my dad. He was doing me a favor back then, and thought I knew the deal. Nobody thought my little hobby was going to turn into a multi-million-dollar business.
It was my fault for not reading what I signed. My fault for letting a bank teller’s quick advice make that major decision for my business structure.
What made it even worse is that I couldn’t just buy it back for the original $20,000. The IRS won’t allow that. The only way was to pay full market value, as determined by an outside valuation company.
In the end, I had to pay $3.3 million dollars to buy back that 90%.
Man, what a lesson to learn the hard way! Kudos to you for keeping your word, of course.
I have an ongoing relationship with two investors in my first production music library - a deal done 13 years ago via handshake. Not advised at all! It's worked out splendidly for everyone, but in some ways the decision to get an investor instead of a loan from a bank has "cost" me hundreds of thousands of dollars (it was a relatively small initial investment in hindsight). Now, when possible, I'd say partner with a bank. :)
I thinkyour dad may the only guy to ever make a killing from an investment in a recording studio. 3.3 million, I can't even imagine how tough it was to swallow that.
I'm loving these daily posts btw, thank you for continual inspiration!
In other words, don't forget to look under ALL the chickens first.
You just funded your parents retirement. Congratulations!
And explain it to your wife when she's got PMS. If you can cover all the bases then and there you're definitely in the clear!
Wow. $3.3mil for $20K. Does not compute! I'm sure that was a hard lesson to learn, Derek. But, we've all gotta learn 'em sometime. Thank you for sharing, it really drives home the point of making sure one knows what's going on COMPLETELY before signing or agreeing to something.
Thank you very much for sharing so much important experience with us ! I almost could feel like you, this little big business mistakes aways happen with business men. I wont forget, never. No matter what, it´s better being a stupid for one day than losing a million of dollars in life !
I'm sort of curious about what, if any effect this has had on your relationship with your dad/how he reacted to the whole situation.
Wow, lesson learned indeed. Signing contracts are always nerve wrecking!
It is a valuable lesson, but it sounds like you've made a tremendous success with your life, if you were able to buy the business back for $3.3 million. But thanks for sharing the tip!
Holy cow Derek... that is unbelievable and thanks for sharing that story.
What about "sole proprietorships" where no one can buy any stock and changing the business structure as it grows?
I've learned that if you can't afford to pay cash for something, your business is growing too fast anyway.
Kind regards.
*Jared
OMG! thx for sharing this lesson of life and living. although it was yr father, like u'v explained, u had to buy it back by the full value!
it means, checking checking checking, better to invest also in a lawer, before signing too fast.
all the best for the future, and thx so much for sharing yr knowledge.
Thank godicus it was your dadicus!:)
Seriously. Ouch. Well, if you're going to take a hit like that, might as well keep it in the family!
Best finance lesson I ever learned was never to borrow cash without a sure-fire way to pay it back- and that working double shifts at your day job doesn't count.
Wish it hadn't taken me the best part of 20 years to learn, but hey.
Why did it take four years to figure this out? Wouldn't you know after the first year of trying to file?
Hey there Derek,
It's been a while, and glad you keep me up to date. This borrow money story is tops.
I'm in a hurry, but I just had to drop you this note. By this tiny mistake you would have almost jumped of the deep end, if you weren't as smart as you are. Unfortunately, sometimes we have to learn it the very hard way, in order to pay attention in the smallest way, and learn it fast.
What a trip! I have laughed so much, and forgive me for that. It's how you tell the story. All I can say is you've topped it all. We always want to give people the benefit of the doubt as trusting a bit too much perhaps?
No, I have nothing to teach you. I Congratulate you! Thank you for sharing this story with the world. Great learning tools for anyone. It's a must today, since everyone wants to make fast money, and become a star whatever that means. You'r only a star in the present moment!
Enjoy in what you do in the moment, and that is being successful.
Wow I am speakless!!! I remembered getting my first offer to have a manager in the 80s. The guy even said get an attorney to look at the contract. I followed his advice, because I did not know nothing about the music business in the 80s. The attorney told me do not have the checks go to your manager. The guy was mad as heck about that portion of the contract scratch out. I did not get a manager until the 90s. That was a mistake, because she did nothing for my career. I've done more for myself by reading and learning.
What a great story, man. Of course, it's all water under the bridge now, right? I mean you did eventually sell the company to Disc Makers, and I always assumed you sold it for a profit. Personally, I think financing your parents retirement is a really cool thing to be able to do, even if it was by accident.
You're awesome dude, thanks for posting this.
Thank him for the investment, you should be proud that you made it at the end of the day, i guess every body is smilling. if the money was not on loan you may not have been this made.
The bottom line is this read to understand anything agreement before you append ur signature.
Thanks for the write up.
Derek
All I can say is
WOW
Thanks for sharing!
I had to post one of ur quotes on this blog on my facebook status.
"Ask all questions, dumb questions, hypothetical questions, extreme-scenario questions, “what if” questions, until you're sure you really fully understand it as well as anyone on earth." -derek sivers-
Thanks again!
Cool! Thanks Jerico! Glad you like it. — Derek
Boy that is just horrible, very weird how this world structures its own destruction. It should have ended better really. - John
Amen to all of it. I've lost thousands making little stupid mistakes. Penney wise, pound foolish!
I might get out of the music business, we are being bootleged so much all over the world but it's not just Cd's, it's also movies, there losing billions on theft!
A timely tale of good advice! As I begin to restructure my old-fashioned websites, perhaps I need to refine and restructure my business(es), before I make that "great fortune" over the next 10 to 12 years? ;-)
Stories of our great mistakes, not just our great successes, benefit the commonweal.
(I love being verbally archaic!) :-)
I love that you have the balls to share this story and admit your mistake. That's why you rock!
ouch. Ouch. OUch. OUCh. OUCH
Independent producers praise you for having that hobby and sharing the vision
Wouah Derek, Thank you so much for sharing.
I feel pretty dumb those days about having bought a car on lease when I learned a long time ago as a young bank employee to never get anything on lease. Right now I am having trouble with the car and with the company that sold the car. And I should have ask more questions and especially not signed when I felt like not.
Oh well, your story make everything looks easier ;-)
Wish you a great day.
Thank you for those blogs.
Loved the story! I'm still in awe of how you built the company to be of that value.
unfortuantely, there are many business relationships that move on with a informal or lack of true understanding in the true underlying legal relationship. onen should take care whenever one "partners" in any effort (writer, label, busines, etc). often, without it stated otherwise, the legal reality follows the monetary investment and does not take "efforts" into consideration - thus your situation...
Amidst all the pretty little things that they were promising, this is why I didn't sign a deal with one of the Big 5.
Things are set up so that they can benefit no matter what. Do I regret my decision? I'm not sure, but feeling trapped is not something I enjoy.
Sorry for that Derek.
Sweet deal for your Dad!
I bet he never sends you one of those "how much it cost me to raise you" invoices now!!
Hey Derek, can I be your daddy next time you start a business?
That is amazing. That's actually very scary to me, even though I don't own shit! lol. But, I plan to in the future, and reading things like this keep me in the frame of mind to be careful about the complexities of business.
Amazingly in business there are fine points of which wording and trust often are most important. Wording can be verified but trust of someone else looking after OUR best interest is hard to find. When you find it treasure it like love because it'll be eternal.
I thank you for sharing the wisdom of your experiences as it's a great path for all to walk beside anyone who has been there and done that & then shares it so honestly!
Derek,
You could have blamed others as so many do. You took responsibility for your situation. A very valuable lesson learned, and you are able to pass it on to others.
Wow. It's funny that everybody (well me, anyway), when they screw up, think that they are the only ones who have ever done something stupid. You are brave for sharing. :)
Ur dad KNEW and instead doing the right thing he didn't. either way business is not business - business is cat and mouse for everybody except bill gates, danny branson, warren buffett etc. how much more did your dad need? we seem learn our hardest lessons from our "bloodline" - my dad NEVR supported me - EVER. He's old and bitter and me? i'm happy and in the top of my game.
never do business with family - EVER EVER EVER. They always fall apart at our expense.
It's great that you take responsibility for your own actions.
It's sad that the IRS can prohibit your father or his company from giving you whatever he wants to give you.
Who would've been hurt by this "inside" trade?
Those laws are part of a web of rules that give power to our government at the expense of sanity.
If there's fraud, there's fraud, and it could be prosecuted without an entangling web of rules.
Beyond that, we needn't be strapped into all of their straight jackets. They may like the power and may have convinced many of us that it's good for us, but that's politics, not justice.
I like this part: "Ask all questions, dumb questions, hypothetical questions, extreme-scenario questions, “what if” questions, until you're sure you really fully understand it as well as anyone on earth." I do that all the time, and People HATE me for that. But, thank you for reassuring me that I'm doing the right thing! I still make mistakes, though, sometimes... somehow....
Man, that's a tough one, Derek. That is extremely unfortunate on your part. I guess I owe CD Baby an apology although frankly I'm not impressed with them, Derek. What a damned hard lesson to learn my friend. Sincerely, Clay Wilson P.S. I hope you earn back that money in spades in your future endeavors.
Lesson learned, perhaps. But how well? I appreciate what you doing with the post (now ancient history). But if in the end the suggestion is to tell readers to go to LegalZoom, rather than first speak with a qualified business attorney and (not "or") CPA, then in my honest view it is a lesson not fully learned. If only I could share with you the numbers of times I have seen people, being penny wise but dollar foolish, shoot themselves in their feet by not seeking qualified professional advice, even if their ultimate intention is to form a business online. I can only assume that such people think that their above average intelligence (and no doubt equally good looks) are enough for them to always make the best choices in even garden variety legal and tax matters, when none will even know what a fraction of the issues are (with all due respect, see the dozens of misinformed comments above). I am not saying business formation and tax election are necessary "rocket surgery" (to mix metaphors). But costs associated with "fixing" peoples' self-created disasters are generally so much more expensive then "helping" them avoid them in the first place, that is it difficult to accept that going to LegalZoom is the best lesson to draw from your unfortunate experience. Sure, your point was perhaps more narrow. But the consequences of referring people to LegalZoom (a.k.a. to their own devices) rather than to a bank teller could be equally disastrous. "Common sense," it is said, "tells us that the Earth is flat." I find this particularly true when people attempt to apply that same common sense to legal and tax matters. (BTW, this also means that it is not good enough to consult with the attorney who represented you in your auto wreck.) Thanks for sharing the unhappy issue and creating a forum for others to learn from.
Mylaclypse the Elder
P.S. With that amount of coin at issue, I could also think of 3.3 million good reasons not to recommend LegalZoom for wills.
buying the shares back off your dad would have been a buzz though and he probably wanted to reimburse you later yes?can you tell me how things stand in such a situation ie biz/family ties how does that work? is it true that there are no friends in biz and that one should not do biz with family?
Nah. Wrong lesson to take from this. It could have been anyone. Real lesson to learn: make sure you understand what you're signing, and don't let one person's word (in this case: the bank teller) make you make a big decision without knowing the facts. — Derek
My question is:How come IRS allow it only in one way but not the other?
How can your dad have 90% (I guess almost for free?) but you can't buy it back for $20K??
You have to act as unrelated parties. If I buy Google stock for $1 and it goes to $100, they can't buy it back for $1. — Derek
Derek,thanks for sharing this. I will read before I sign from this day forward. I lost everything I held dear back in 1996. I'm rebuilding now at:
http://www.directmatches.com/atteon
Charlie Kirkpatrick
CD Baby/Stage Name
Charley Waco
Ouch,
It is good you can be so sanguine about the whole thing and realised that it wasn't your dads fault. A very grown up way of dealing with it. I know I would have done the same as you and picked the easier cheaper path. I hope I would deal with it like you
You are my new hero, and I applaud you! I don't have to explain the 'why' in regards to this article, you know.
You are a gifted, intuitive, positive, Lightworker, ascended past the negativity, anger, and blame-energy that consumes so many within the minutia of their lives.
Your positive energy attracts the same and that's why you are at peace and can help others in such significant ways.
I see you.
So the 90% of CD Baby was worth $3.3mil four years after its start. Not bad for a hobby. I am just amazed how fast this growth happened. If you had made more money/profit this would have cost you more, but at the same time, it would not have cost you much if CD baby did not take off like it did in the time period. This was an interesting situation.
The money is a non issue, the biz is a non issue,,...
the only thing of import in this story to "ME" is the relationship between father and son,.. for many it could have fallen on error, I am glad in this situation it endured.
rather ask dumb questions than make dumb mistakes
Hiring a lawyer is never a mistake in my opinion. I am a little partial as I am an attorney. But let me say this, hiring the "right attorney" is the key, but even if you don't get everything you need from a lawyer you will definitely have some protection and guidance, and that is a lot better than none.
The real question is, did your dad "give it back"?
Nope. Couldn't. Had to keep it as business-like as unrelated parties. Doing everything by the IRS rules. — Derek
PS - sorry about your losses, and I admire your openness
Hi Derek, I've been with your "Baby" almost since the beginning. My music isn't exactly burning up the charts, but it's still out there, so I guess I must be a star..... I don't know if you're a religious person, but there's a reason I refer to the Bible as The Book Of Answers, and that's because it is. It points us to Christ, who can prevent us from making the costliest mistake we could possible make. It seems the setbacks we experience in life could be God's way of showing us the unpleasantness of regret, and how through wisdom we can avoid it. "And we know that all things work together for good to them that love God, to them who are the called according to his purpose." (Romans 8:28)
That was an interesting story!
WOW!
Don't trust a bank teller, and a contract, and don't trust a trained civil servant either.
Recently a Canadian friend and her family were stopped at the airport-customs border in Canada, after big plans to have her son get married in Great Britain, because a British civil servant had said one piece of paper, such as a marriage visa was enough, but they needed a second piece too, such as a marriage travel visa. (I forget the actual papers) The groom himself was stopped, so they postponed the marriage.
In this case, understanding the "contract" would have meant finding the rules in writing.
The lesson, my friend says, is that they could have verified/not verified the government employee's words by doing an Internet check from Canada well in advance of traveling, and they would have easily found the employee was wrong.
Derek, this helps me understand you.
In a young adult novel, a student aquaintance was described as having the self confidence of someone who never heard his parents fighting over the bills.
I have the impression that during the 1960's young hippies were of the middle class, and so they could risk more, because if they quit and went home there would be a dry warm bedroom waiting.
I suppose your affluence helped you be self-confident.
Agreed! — Derek
Ilove your articles.its inspiring.A n experience to learn cos my company have a share for my ex girlfriend.i just have to get rid of her as quick as possible from my company shares. Thanks for sharing.
My self esteem is fine, thanks for asking. But if I was self-doubting, but still had my sense of humour, then I would re-read the comment at # 55 by boby b. bob.
'Tis a funny rebuttal to depressed thinking.
Thanks boby bob.
Derek, thanks I am careful as you say with what i sign. Thanks for posting this up.
what a mistake
Your mistake for following an unjust law! Remember, it's our duty to disobey such unjust laws.
Phew! Its your dad money and you'll get it eventually after him. SO chill!! Phew
How can your dad do that to you?
Derek... I love your stories.. In a few words you can teach so much. This is the first time I see this story.
The first story I heard from you was from Tim Ferris interview 43 vs 45 minutes. It changed the way I see life..
Keep up all the good stuff. Awesome to hear your new book is going to the press soon :). Cant wait...
This is a really nice story, even if a painful one!
I have one question, when your dad gave you the cash in exchange for a share in your company, he never verbally mentioned the percentage share he was asking for?
I ask, because certainly in the consumer finance domain this could be construed as misleading, making the deal void. (Depending on the country perhaps, but certainly in the UK hiding something in the small print is essentially considered to be misleading.)
I realise that as a transaction between two businesses, consumer laws don't really apply. But it's a cunning dad who would make such a deal with his son. I mean that in a positive sense: hell of a way to teach someone a lesson, whilst keeping it in the family.
Recently I allowed myself to briefly think of some bad financial decisions of mine, and it popped in that my dear dad also made some bad decisions. Then I didn't feel so small, crazy and alone. Human nature is very prevalent.
> It seeemed [sic] a little strange since CD Baby was definitely a new business, but it saved 10 minutes and $100, so I said OK.
I love how this sentence encapsulates a lot of my own mistakes (none that financially big, yet). Your gut says no ("strange"), but your mind tricks you into it with the help of external pressures and short-term gains.
That’s why you need a lawyer and an account friend when starting a business !