Buying a Business: The Very Basics
Every year approximately 300,000 small and mid-sized businesses change ownership, but very often people buy businesses without sufficient planning and preparation. For many people, buying a business is a better option than starting a business, because the customer base is already established, the employees are hired and trained, leases are in place, the cash flow Is established, the business has already been marketed, and it is easier to find bankers and investors to finance a proven, existing business rather than a start-up business. There are several factors a potential buyer should consider: would owning a business fit with his lifestyle (long hours, managerial responsibilities, etc.), what field should he choose, what is the realistic chance for success, and what are the risks?
What type of business should be bought? – Ideally it should be a business in an industry that the potential buyer has experience from previous employment, hobby, or even from classes taken. It is not a good idea to buy a business about which the buyer knows nothing, because he may overpay the seller and be subjected to a longer learning curve. While there are many successful franchise operations, a buyer should take a careful look at the franchise structure before making any decision. Some negatives to franchises include royalty payments, limited legal recourse with the franchisor, initial start-up fees, questionable profitability, inflated costs of supplies, advertising fee obligations, limited independence, potential encroachment by other franchisees, non-compete clauses in case of termination, and potential termination by the franchisor.
A buyer has the option of utilizing a business broker, a business advisor, or going on his own. A business broker or advisor can prescreen potential businesses that are up for sale, help select the right business, negotiate the deal, and even handle the paperwork. Typically their costs will be 5 to 10 percent of the purchase price. Alternatively, the buyer can do everything himself, but he definitely should have an acquisition team in place: his banker, lawyer, and accountant.
A buyer should be careful to avoid these common mistakes:
1) Often he is too anxious and impatient which can adversely affect the price. Ninety percent of the businesses for sale will be around for awhile, so buyers should take their time.
2) He should not buy on price alone – he should take into account the ROI (Return on Investment). For instance, if the potential acquisition will return only a five percent net, then the buyer’s’money may be better off in other investments.
3) He should never invest his entire amount for the down payment, because he probably will need more capital after the deal is closed for marketing, PR, etc. (normally at least a ten percent contingency should be reserved).
4) A buyer should not buy receivables older than 30 days because they may never be collected – he should protect himself by having the seller warrant these riskier receivables.
5) A buyer should NEVER accept the information and data given by the seller at face value – he must perform his own due diligence.
Of course, there are many more factors to be considered when buying a business; this has been just a brief overview.