Question:
Browsing through the online ads I see a lot of businesses for sale similar to this hypothetical one: Business for sale, 9 million in sales, 2.3 million cash flow, selling for 5.5 million. This business does not have any hard assets; it is just a business that has been built through the years. Inventory is 150,000 and equipment is 200,000. I understand that there will be non-compete agreements when the deal is closed. My questions are:
Answer:
You raise some excellent points; let's address each one individually:
Regarding the non-compete, you asked: "What precludes a seller from then being a silent partner or a consultant in another business similar to this one?" A solid non-compete contract drawn up by your attorney will cover these points precisely and many more. The entire concept behind a non-compete is to ensure that the former seller has no role whatsoever in a competing business after the sale. This includes direct ownership, consultation agreement, employee, investor, or in any other capacity. It should also preclude them from having any continued affiliation in a competing entity that they may have now.
Your second question: "If a business like this is so good why doesn't this individual allow a family member or friend to run it?" There can be a number of reasons why, including: they may not have a competent friend or family member to run it. They may simply want to "cash in their chips" and move on. They may want to get involved in another business. They may be looking to retire. It could be health reasons. I think that a better question would be for you to learn why they are selling altogether and to try to assess their sincerity. Quite often, owners of good businesses have just reached the point where it makes sense for them to sell.
Question number three: "How do you compensate the amount of money invested for the lack of any tangible assets?" This is where the business buying process gets interesting, and confusing to many people. From my perspective, the assets of any business are nothing more than a vehicle to drive revenue. What are they really worth if the business isn't profitable? In other words, if you had $1,000,000 of hard assets (equipment, machinery, etc.) in this deal but the business continually loses money, who cares? Now, you may be saying that you can always sell the assets, and yes, you're right, but what are they worth? Have you ever tried to sell equipment in a liquidation scenario? I guarantee that you'll get a fraction of what they're valued on the books. What you're really trying to justify is the amount of goodwill in the sale. While this is a terribly arbitrary number, one must evaluate the business itself. With $2.3 million in cash flow and a $5.5 million asking price, the potential return on your cash investment should all things remain the same is simply phenomenal. Would you feel better if the business only generated $1,000,000 in cash flow but had $1,300,000 more in hard assets? Personally, whenever I've gone to the bank to pay my mortgage, they've always accepted cash and not machinery.
Your last question was: "How do you structure a business deal so as to avoid being burned by a seller in a case like this?" Unfortunately, I do not have enough details on the business itself and it's a hypothetical situation in any case. Assuming that the numbers in your example are correct, you would employ an accountant to validate them. Please keep in mind, however. there is far more to investigate than just the financial components to any business transaction. In addition, you need to investigate the assets, competition, customers, contracts, sales and marketing strategies, employees, the market, the industry and so forth. The determination must be made that this is a good business with a great future with you as the owner. This fact should be placed far above whether the owner is trying to "burn" you.
Furthermore, you will want an element of seller financing. This is another way to get the seller to validate the business. Over and above all this, you will have a non-compete, plus specific representations and warranties that the seller must make as part of any purchase agreement. While I believe that skepticism is a trait that every business buyer must have, the onus is on you to investigate the business flawlessly so that you learn everything before you buy.
Question:
I've submitted countless inquiries for listings and I rarely get a reply. I have been diligent in listing many relevant questions in the email. Why don't they answer?
Answer:
Sorry to tell you, but you're asking the wrong questions! Why would they tell you anything at this stage? They have no idea who you are, or if you even qualify financially to buy the business. Please understand that sellers are bombarded with "tire kickers". Your first step is to inquire and demonstrate to the seller that you're serious and would like to learn more.
My suggestion is your emails should simply state a brief bit about yourself and that you'd like to learn more about the business. Ask them to send you a standard non-disclosure form to complete. Ask the seller if you can then set up a convenient time to discuss the business a bit further.
Question:
I'm thinking of selling my travel agency to another, larger agency. Is now a good time to sell?
Answer:
There is good news for you if you're interested in selling your business now! It's a great time to be selling a profitable small to mid-sized business, especially as an acquisition for a larger company or to an entrepreneur looking to get started on their way to personal wealth. Interest rates are low, the economy is improving and interest in small business ownership is at an all- time high. Presumably the other travel agency is interested in your business for strategic reasons. Typically, these types of buyers pay more than purely financially-motivated individual buyers so I would recommend you see if they are truly serious. Also, financing is usually not as big an issue when selling to another, larger company, although sellers are frequently asked to take back some stock in the acquiring company as part of the purchase price.
The one thing you must consider is that your business has to be attractive for someone to buy and easy for someone to purchase. To do this, you need to consider the following:
There are several ways you can approach this situation on your own if you're not yet ready to involve an expensive attorney/CPA. You can start by getting as much information about the business buying/selling process as you can deal with. If you want to handle the preliminary basics yourself, including getting an idea about what your business might be worth and drafting a sale prospectus.
If you want to develop your own detailed valuation and "crunch the numbers" somewhat, I recommend that you look into the valuation programs you see advertised online which are used by many business owners (as well as potential buyers) to get a fast, accurate estimate of the business's fair market value.
For some rules of thumb about travel agency valuations so you can determine what ballpark you're in, and also get a wealth of other information about the process of selling a business in The Business Reference Guide (available at businessbrokeragepress.com).
Question:
I have been looking online and in the newspaper to buy a business for nearly a year now. I haven't even found one yet that is worth visiting. Is there a better way to go about this search? I'm just about ready to give up. Help!
Answer:
There is absolutely a better way to go about this process! First, you need to adjust your thinking. Keep in mind that a business for sale listing, be it online or in a newspaper, can only give you a snapshot of the business. These ads cannot, on their own, outline everything about the business.
If you spend your time searching endlessly you'll end up looking for another six months with no results. This is a common reason why 90% of the people who begin the search to buy a business never complete a transaction. You need to shift from "looker" to "buyer".
Arranging seller visits is critical to the business buying process. It is the best way to gain focus and clarity on the right business for you. Starting today, when you look at a listing, and even if it remotely interests you, I want you to do the following:
Make it your goal to visit with at least five businesses over the next 30 days. I can assure you that by doing so you will feel completely rejuvenated about this process.
From these meetings you will be able to either eliminate or pursue each business. As you meet more sellers, you will become clearer about what you want and don't want in a business. With this clarity, when that right one presents itself you'll be able to pounce right on it and get a deal in place.
Question:
Some listings have a lot of relevant information and others seem to have almost nothing. How do I separate the good from the bad ones? What should I be looking for so I don't waste my time?
Answer:
Insofar as the detail of the actual information or lack thereof, please understand that you cannot buy a business off a listing. Quite often the initial information you'll see online is akin to a classified ad. Further investigation is always warranted.
A lack of information is not a reflection of the viability of the business, nor does an abundance of information mean it's good. As a general rule, if the business is of interest to you, send in an inquiry to learn more. In a detailed listing, there are over 70 things to look for but, in the initial listings, at the very least you'll want to examine the following:
Business Description:
First and foremost, make sure the business interests you. Look for key points that would make this business a solid candidate for growth (i.e. exclusive territory, large repeat client base, double-digit revenue/profit increases, growing industry, etc.).
Confidentiality is the key for a seller, so the description may be generic, but it will provide enough information so you can determine the industry that the business is in specifically. Good businesses sell very fast in today's market, so identifying the precise category of the business (if it's specialized) will allow you to begin gathering industry and competitive information.
Assemble some specific questions relative to that particular business to ask the include seller/broker when you hear back from them.
Asking Price:
My favorite term. To me it's an invitation to negotiate. So don't worry about the asking price, but of course be reasonable. You won't buy a million-dollar business for ten bucks but there is room. Likewise, don't chase listings that you know are beyond your reach. The average small business sale over the past seven years has been within 14% of the asking price. Of course, there are other ways to creatively structure a deal where the actual price plays less of a role. It's all in the terms!!
Seller's Discretionary Cash Flow:
The terminology may vary from site to site but you need to determine more than just the business' profit. As the new owner, you need to know precisely what cash you will have available (assuming everything remains the same) to service the debt, generate a salary for you, and fund the business/ growth.
As such, find out exactly what's included in the number being represented. Pay attention to "add backs" to be sure they are reasonable.
Down Payment:
The selling of businesses is most often a down-payment driven transaction. The asking price is far more flexible. Every seller has an amount that they want "in their pocket" after closing which is the down payment amount. Again, this will prove to be far more rigid that the purchase price.
Many listings will list the price only, or the price and the down payment as the same, but rest assured EVERYTHING is negotiable. A seller listing the willingness to finance, or if the business has pre-qualified for financing, is usually well worth investigating further.
Skills Required:
These may not always be shown initially. A seller will usually put the most simplistic, "idiot proof" and basic skills in this section because the more specialized the greater the buyer base. As an example, they almost always mark: "general business/sales/marketing/administrative" which doesn't mean much, but if they list a specific skill pay attention!
Reason for Sale:
Personally, I like all the morbid ones: death, divorce, etc. They usually mean a more motivated seller. However, relocation and retirement are also good indicators. I'm always leery about "other business interests" as a reason. I can never understand what someone's other interests can be if this is such a good business! But, you never know.
Miscellaneous:
Some listings will include financing terms, asset values, lease information. Others may not. Regardless, the seller/broker will have more information beyond what's been posted.
Reply Information:
You'll have an email address to reply to the ad and often a link to the broker/seller site. Remember, confidentiality is paramount to the seller,s so your initial inquiry can ask a few basic question but the most important thing is to ask them to forward a non-disclosure agreement to you to sign. Then, you can begin to ask the real pertinent questions. Check it out as it will give you an idea of their professionalism, plus they may have additional listings on their site which are usually more detailed.
Question:
I am highly suspicious of business listings that I come across. If the businesses are running so great, why does the owner want to sell?
Answer:
Although skepticism is a wonderful trait for a business buyer, I think you may be misreading this situation entirely. There are many reasons why someone sells a good business. These can include retirement, illness, death, divorce, partnership issues, or just plain boredom. While there may be cases whereby a seller is trying to pass a poor business off to someone else, the research that you do, and the level of knowledge that you have when beginning the process of buying a business, will make the difference between being able to identify a good business that is "legitimately" being sold versus one that you reference.
Your question also brings up an excellent point, which is trying to determine why someone is selling. This is one of the key questions to ask a seller and to validate.
The average small business changes hands every five years or so. As such, it is not uncommon for plenty of good ones to be on the market. Once again the key is to be a well-informed buyer so that you can pounce on the right opportunity. I can assure you that good businesses sell very quickly in today's market.
Question:
What is my best approach for purchasing a business? I have found a few businesses with great numbers and an existing clientele. The problem I am running into is when asked for my financials to determine my buying power the process then ceases. I have very little credit because I recently finished college. What do you suggest that I do? I appreciate any help you could offer.
Answer:
I am pleased to learn at least that your search has produced some interesting opportunities and I understand your predicament. Certainly it makes sense from the seller’s side, whether the business ios being sold by the owner or through an intermediary, that they want to be sure that a buyer prospect has the financial ability to complete a transaction.
I think this is where you may need to take a step back from the search process and honestly evaluate your expectations and determine what type of business you can realistically acquire.
While it would be great if buying a business was similar to the real estate infomercial world where you can (apparently) buy significant assets with no money down, t,he same does not hold true in small business acquisitions. Having available funding is however, more important than your credit rating if you look to seller financing as a means to complete a transaction.
Credit–wise, the hang-up will be if you approach traditional lenders. Unfortunately, you may be penalized on two fronts: your credit rating and lack of experience. These two criteria are crucial to any lender inasmuch as having adequate security from the buyer.
As such, my recommendation is for you to first get a true handle on how much money you have available for a down payment and for working capital. Then, you should focus your attention on businesses where the seller is either offering to finance part or where you feel confident that you can negotiate these terms.
If, however, you are in a situation where you simply do not have any assets that can be used for the down payment, you may want to look to the “Angel Investor” community. These are individuals that usually finance start-ups but they do participate in financing existing businesses. Quite often these individuals have groups/associations in cities that can be located through the chamber of commerce or online. You will be required to meet with them and present a business plan, but that can all come as step two. The first thing to do is locate these individuals/groups and arrange to meet with them so that you can educate yourself about what they expect. Generally, they want to see you as a savvy manager and someone who they are prepared to bet on to operate the business successfully. If you can impress them they will surely be open to any proposals/opportunities you may present.
Question:
I've been searching as an individual investor (after reading your book) for a company that I can put 1/3 down, finance 2/3 and still get paid a salary. When I do find these opportunities, invariably, an investor group, or established company, is competing with me and has much more leverage to make the deal happen. Any suggestion as to how I can create a win-win in his situation and not lose out?
Answer:
Thank you for your questions and I appreciate you purchasing my course. The good part is that you have located a number of opportunities that meet your investment criteria. Losing out to a bigger group is always a possibility, but there is a way to avert this somewhat.
Without being reckless, the best ammunition you have on your side is timing. Often, large investors/groups have a very specific process they must follow before producing an offer on a business. Some will be quick, but many will be extremely slow, at least in the early stages. In order to compete with these groups you have to move fast, and again, NOT recklessly.
In today’s business for sale marketplace, it doesn’t matter who is looking at the deal; good businesses sell fast!
As such, when you come across a business of interest, assemble as much information as you can, but be prepared to pull the trigger and submit an offer. You can always include language that will provide adequate protection for you so as to not jeopardize any down payments until certain deal contingencies have been satisfied. The idea here is that while the investors are satisfying their internal processes, you can lock up the deal.
This should not be taken as a strategy to submit offers on businesses you cannot afford or are not seriously interested in acquiring. The objective is that once a solid opportunity comes onto your radar screen, move quickly to tie it up so you can progress to the next stage of the deal.
Question:
If you buy a business and you’re getting a loan, how much capital should you have available until the business starts generating income? For example, if I have $100,000 should I be looking for a business that’s $50,000 keeping some back, or should I look for a business that’s over and try to find financing for the overage?
Answer:
Thank you for your excellent question. Believe it or not, many buyers overlook this and wind up in trouble soon after they acquire a business. What you are trying to determine is known as the "working capital" requirements of the business. This is the amount of money you will need available to fund the business after you take over until it becomes self-sufficient. Meaning that there is enough inflow of cash to pay the bills.
Unfortunately, there isn’t a standard answer, but, it is something that you can easily calculate. Keep in mind that every business scenario is different. For example, if you acquire a business where clients pay immediately (i.e. a retail store), then you will have an inflow of cash the first day that you take over. On the other hand, if it’s a business where you grant payment terms to clients and the average time to collect is 30 days, then at a bare minimum, you will need at least one month of working capital (although I don’t think that is enough, but I’ll explain in a moment).
The other thing to consider is inventory. If you will have to purchase products to sell prior to receiving payments from clients, here too your cash inflow will be affected.
The best way to approach this for any business is to forecast for the first six months after closing. Generally, you should take the average monthly revenue for the past 2 – 3 years. Then, factor in any seasonality to the business. For example, if you are buying a water sports equipment rental business on the beach in Florida in May, you can certainly expect sales to be far lower than they will be in December.
Once you determine the average sales, then you must calculate all of the fixed costs that you will incur from day one. These are all of the expenses that the business will have that are not related to the sales. For example, if you have sales people on commission, their costs are only incurred when revenue is generated. On the other hand, rent, is a fixed expense. You have to pay this regardless of what the business revenues may be. Other fixed costs include: utilities, payroll, insurance, taxes, etc.
Always add a cushion of at least 10% - 15% to be conservative for miscellaneous costs that always arise for new business owners. Let’s assume that the fixed costs are $5000 per month. Add another $750 to be comfortable.
Once again be certain that you include any anticipated inventory purchases into the equation if applicable to the business you are buying.
Then, you will need to factor in the revenue and how it is collected. If you sell products and don’t collect for 30 days, you know that you will be in the hole for at least the first month’s fixed expenses and catch up in month two. However, I have found that most businesses show a slight decline after a new owner takes over for the first 90 days or so. Each business is different, but figure on about 15% - 20% decline.
In summary, here’s what to consider:
Question:
I have a regular job and I am looking for starting a small business on the side. I would initially run the business as a part-time basis and employ a manager to run it and if it picks up fine, am planning to quit my job down the line. Is this something that is possible? I am trying to buy a small pizza place or sandwich joint or ice-cream parlour. I want to keep the cost below $150,000. I have found a few listings in this range, making an annual sales of around $300,000 to $400,000 and making a profit of around $40,000 to $60,000. In all these small mom and pop shops, I found that the owners spend a lot of time on the shop. My question is, can I run such a small business without full-time attention? If I employ a manager to run the show, how much will it eat into the bottom line and is that a reliable form of running this business? What sort of businesses can be run on a part-time basis initially?
Answer:
I certainly admire your strategic plan. Buying a business and getting it going prior to quitting a job that pays your bills is a good idea in theory. Unfortunately, the reality is that in small businesses, absentee ownership is usually only successful where there is not a need to have supervisory personnel in place to oversee the operations. Coin laundries can work well. Restaurants don’t. Self-service car washes are good. Retail stores aren’t.
The barometer to use is: when a customer comes into the facility or conducts business with the enterprise, what are all of the possible challenges that may arise and can they be handled properly by someone outside of the owner, and at what cost?
As such, if your objective is to buy the business, hire a manager, and have a decent profit left for yourself, a pizza parlor may not the right choice. The only time it will work is if you’re generating at least $60,000 in profit. You can pay a manager $30 - $40k and be left with $20,000. As a passive investment, that is a reasonable return. But, there are other considerations:
Personally, I am not a fan of absentee businesses. I think part-time work equals part-time profits. Plus, there’s no ongoing effort to build the business. Once again, I think you need to look more at businesses that really can operate without a manager. Or, simply be prepared for lower returns initially until the time comes that you’re ready to work the business full-time.
Question:
Many of the listings I come across do not include the business's revenue or cash flow. How can I possibly be interested in a business without at least having some sense of these numbers?
Answer:
This is an excellent question. There's no doubt that it would be difficult to formulate any kind of meaningful impression or assessment of a business without certain key financial information - especially basic information like revenue or profitability.
That being said, keep in mind that your agenda when looking at business for sale listings should be first and foremost to determine if the business model/type is of interest to you. Naturally the financial ratios are key; however, these can easily and quickly be disseminated to you by the seller/broker once you contact them and express interest.
I have seen countless online business for sale listings and certainly the majority do include the key financial data (although still to be proven). In some cases though, especially in larger business, these details may be omitted initially due to confidentiality concerns.
Here is my suggestion: when you come across a business listing that is of interest to you, even if there is some missing information, go ahead and contact the seller/broker. Before you get busy requesting detailed financials you should simply note that you're interested in the business, and you'd like to sign the necessary confidentiality agreements. Once those are in place, you can then delve into the financial information you will need to further evaluate the business.
Question:
Is there a co-relationship between a business' asking price and how long it remains unsold?
Answer:
One would think that the seller would lower the price of a business that has been has been on the market for a while. Quite often this is the case, especially when a good business broker or other intermediary is involved. They will constantly measure the market and advise the seller that price reductions may be necessary to increase activity. As long as the seller is truly motivated to sell, price reductions will occur because ultimately the market, NOT the seller, determines the price. However, if the seller isn't motivated, it doesn't matter whether they are selling themselves or through a broker, they will maintain their inflated price and probably never sell the business.
This should not be confused with a business where the seller may be holding out for the right buyer. Also, in specialty businesses where the buyer pool is not large, the time to it takes to sell, can be much longer.
You should also consider why a particular business hasn't sold. Surely price can be an issue. But a good business, with a solid history, clean books/records, and good future prospects will move very fast in today's market. Of course there are always exceptions, but if a business has been on the market for many months with no activity, the best comparison is to fresh fish: the longer it hangs around, the smellier it gets.
By: Richard Parker: President of The Business Buyer Resource Center and author of How To Buy A Good Business At A Great Price©