CDBaby $3.3M mistake by Derek Sivers →
- 285,713 artists sell their music at CD Baby
- 5,462,541 CDs sold online to customers
- $111,332,812 paid directly to the artists
Ever since I was a teenager, my dad would occasionally send me things to sign. Things for the family business, where I was part owner. I didn’t understand the complexities of it, and didn’t need to, so I’d just sign without question.
In 1994, as I was recording my first album, I needed to borrow $20,000 to buy studio equipment. He 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 record 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 a DBA on your Hit Media account.” (At that time, Hit Media was a recording studio and booking agency.)
Seemed 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 is 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 call up my accountant in January to say, “OK. I got all the Quicken books balanced. Should we file early this year?”
He said, “Oh, you don’t need to file. CD Baby is just a lineitem 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.
That would have been fine, except the bank teller advised me to make CD Baby a DBA of Hit Media, so now that meant my dad’s company owned 90% of CD Baby.
FFFFffff…. SSSSssss…. RRRRrrrr…. Oh, what a sinking feeling.
I couldn’t be mad at my dad. He was doing me a favor in 1994, and thought I knew the deal. Nobody thought my little hobby was going to turn into a multi-million-dollar company.
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%.
Lessons learned:
- Really understand something before you sign it.
- 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.
- It’s also very worth paying for an hour meeting with your accountant, and asking 100 questions there, too.
- Each separate business venture should usually have its own LLC. It’s very cheap through companies like LegalZoom, and well worth it.
- This was definitely all my fault. No one else to blame.
- … plus whatever other lessons you’re going to teach me in the comments, below.
