Buying an existing business reduces your start-up hazzles | Daily News

Buying an existing business reduces your start-up hazzles

Running a business from the scratch is always a juggling act, but you often have more balls in the air during those start-up years than at any other time in the life of the business. Beyond formulating a business plan, you have to develop a marketing plan, find customers, recruit employees, locate space and possibly incorporate. But when you buy someone else’s business, much of these start-up tasks have already been done.

First, you will not be starting from scratch; the business already exists. Second, you will not have to create “goodwill”— a favourable reputation in the community. That two important aspects have already been handled by the current owner. Third, it is quicker - everything should already be in place to hit the ground running.

But the main benefit of buying an existing business is that it reduces your risk. Of course, there is no guarantee that you will make money.

When you buy an existing business, you take a business risk, but it can be a “calculated” business risk. That is one thing that makes being in business so fun and exciting. Great entrepreneurs are not gamblers - rather, they seek to reduce risk as much as possible. The existing business has a track record and you can look at the books, see how much money it made during the past few years, and have a pretty good idea of how much it will make next year. You simply do not have that sort of information (or comfort) when you create a business from scratch.

Steps

Now let us review the steps you need to take

Ideally, you will look for a business in an industry in which you have some expertise or one in which your skills are transferable. It is most important to find a business that combines your interests with the ability to make a good living. That is a key consideration.

How would you find businesses for sale?

There are four main sources for finding businesses that are being sold. (a) Online. You can check in your favourite search engine, and get a list.(b)The classifieds. The Sunday classified ad section of local papers will have a section called “business opportunities. (c) Magazines. At the back of most trade magazines, there is usually a section for business owners selling their businesses. (d) Business brokers. Although they are not cheap, business brokers can be an excellent resource when searching for a business to buy. A good broker will have access to businesses that you did not know were for sale.

How do you find a business broker?

Check business directories, online or printed. Ask your senior business friends, lawyer, peers, and industry associations for names of good business brokers. Get referrals from a trusted source.

If you are considering hiring a business broker, be sure to find out his background, proven experience and credentials. Whether he is qualified and certified. Check about his services. Check whether he handles business valuation or just negotiate the deal.

You need to find a dedicated practitioner who spends all their time selling businesses because he can bring in a network of contacts and also understands the principles of business valuation.

A business broker might charge you from 10 percent to 15 percent commission of the sale price of your company. Avoid any broker asking you for a large upfront fee to assess your business value or start an application process. Moat important of all, avoid the pressure: Never allow your business broker to put you in a pressure situation. Do not make a rush decision.

Selling your business is a complex matter. Work with your team of professional advisers for the best results.

Final test

Eventually, when you find a prospective seller,

do the following:

Get some trade references from the owner and call them. Speak with neighbouring businesses. Use your search engine and your contacts to find out all you can about the business and owner.

Who are the competitors? How does the current owner deal with them? What competitive advantages would you have if you bought the place? Whether there are non-transferable intangibles. Find out how he succeeded (or failed). For example, some businesses succeed because of the owner has fantastic contacts, special skills, an “in” somewhere, that sort of thing.

Check whether there are any pending bank or legal issues. Is the neighbourhood stable? Does the government or your potential competitors have any plans for the area? Are the facilities in good condition? Is the décor outdated? How is the plumbing and electricity?

You certainly do not want to buy the place and then be stuck with major expenses. For this reason (as with a home purchase), any offer you make should be contingent on a successful inspection of the premises.

The reason you are looking at an established business is that you want to be able to project your profit and return with some accuracy. The only way to do that is to dig into the books with your accountant. Ideally, you want to see an audited set of books going back at least three years.

Business Valuation

What is Business Valuation?

When it comes to valuing a business, you should consider three basic questions:

1. What does the business own? Clearly, a business that has invested a lot of money in assets over the years is more valuable than a business that has not. Assets can take many forms: vehicles, equipment, contracts, intellectual property rights, “goodwill,” and plenty more. Of course, sellers tend to overvalue goodwill, and buyers tend to undervalue it. It is important, then, to realistically analyse the value of the business in the community.

2. What is the current capacity of business earnings (not current earnings)?

3. Are there any intangibles to consider? Does it have a great location, a favourable lease, fantastic employees? These are the last things to consider.

Price – the biggest issue

There are few factors to be considered and used to determine the value of a business. There are three ways to go about calculating business value.

The first is called price building. The second method is called return on investment. The third is the multiplier.

Price building

This is a valuation method that simply looks at the hard facts - assets, goodwill, leases, real estate, and so on. Essentially, what you do here is list every asset and give it a Rupee value. For example, it might look like this: Seller: Machinery Rentals Company: Real estate: Rs. 12.5 million, Equipment: Rs. 4.0 million, Inventory: Rs. 2.5 million, Goodwill: Rs. 1.0 million. Total: Rs. 20.0 million. A price of Rs. 20.0 million may or may not be right for this business. Although it is hard to say, the price builder method indicates that it is.

Return on investment (ROI)

This looks at the business profit per year to helpthe buyer see the percentage return on his investment. For example, say that seller’s Machinery Rentals Company is asking Rs. 20.0 M for the business. Is that fair?

Using the ROI method, we would see: Net profit: Rs. 8.0 million and Business sale price is Rs. 20.0 million Using this method and these numbers the buyer would be getting a 40 percent return on his investment in a year. There are few investments out there that would allow a 40 percent ROI. Thus, a higher price for the business is probably in order. Of course, you can negotiate.

The last method is the multiplier. Using this method, you would again look at the earnings, but you would then multiply those earnings by some factor - it varies depending on the industry - to get a final price. A factor of 2 would result in a Rs. 16.0 million as asking price.

These are just simple examples. However, the battle is what that factor should be. All of these are complicated, and that is why hiring a business broker makes a lot of sense. Although you will pay a decent commission, it may be worth it to ensure that you get a good business at a fair price.

Getting ready to close

Aside from pouring over the books, your due diligence will take you on one or more tours of the actual premises. Peek into the nooks and crannies. By this time, you should be aware of both the positives and the negatives of the business, and you should get your questions about the problems answered.

Remember that no business is perfect - your job is to decide whether the benefits outweigh the burdens and whether the obstacles can be overcome. Once you have found a business that you really like, your vetting process must include a final analysis with your lawyer and accountant, even if you have hired a broker. Leases and financial statements are best left to the experts.

Once your team has concluded that the business is viable, it is time to negotiate a final price and get set for closing. As you negotiate the final deal, consider adding these provisions to the contract: Link the sales price to customer retention. Much of what you are buying is the existing customer base. But the clients, especially in a service business, may be more committed to the seller than to the business. Therefore, see whether you can link the purchase price to the number of customers who stay. Have the present owner stay for a while.

This can help with the transition, as well as customer retention. You will pay him or her a consulting fee, but it is usually worth it.

 

(Lionel Wijesiri is a retired company director with over 30 years’ experience in senior business management. Presently he is a freelance newspaper writer.)


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