Published May 21, 2012
After launching two Internet ventures while in college, entrepreneur Sean Bandawat decided to purchase an existing business over building one.
“I was attracted to the idea of having an established customer base, established revenue figures and established assets,” said Bandawat, president of American-made housewares manufacturer Jacob Bromwell.
While buying an existing business may present fewer start-up struggles, the business may be plagued with symptoms that can cause plenty of headaches down the road. FOX Business consulted a team of advisors to find out what buyers should consider before signing a purchase agreement.
The Business Broker’s Two Cents:
If you are struggling to figure out exactly what kind of business you want to buy, you may want to consider hiring a business broker.
At Allen & Young Business Brokerage, broker Carrie Allen helps buyers match their skill sets to opportunities within industries of interest. Once an industry and business type have been selected, Allen then looks at her client’s financial position and the business’ potential return on investment.
“We determine how much they are willing to invest of their own money and take into consideration the amount of money they will need before taxes to live on,” said Allen.
A broker also helps in pricing the target business, which according to Allen is typically pegged to one to four times the business’ current earning level.
Lastly, Allen asks her clients to analyze business risk by answering questions such as:
- What is the customer concentration, longevity and likelihood that they will go away?
- Is there layered management in place that will allow the business to operate without the owner having to spend every single minute there?
- Is it easy for someone to come in and do same thing at little cost, and with little experience or licensing?
An Attorney’s Perspective:
A common mistake buyers make is not bringing an attorney into the decision-making process early on.
“One of the first things I do with clients is make sure they understand what they are buying,” said attorney Mary Budge, founder of Budge Law Offices. “They need to be able to tell me if they are buying assets, such as customer list and equipment, or the business, with the warts and ugliness that come with it.”
Before delving into specifics about what the business will require, Budge recommended that entrepreneurs be able to answer these questions about their target business:
1. What am I buying?
2. How much and how am I paying for it?
3. What is the financial background of the business?
4. What is the timing to close?
5. What is the reason for selling?
A lot of this information will come from the current owner’s records so “don’t be afraid to ask questions,” advised Budge.
The CPA’s Word of Caution
One of the most important factors in assessing a business’ financial health is a thorough inspection of the numbers.
CPA Dianne Goodman, founder of Comprehensive Small Business Solutions, reviews documents, such as checks, bank statements and accounting, from which financial statements are derived.
Goodman likes to ask questions and advised that buyers bring a CPA into conversations with the seller. “You can learn a lot by the way they [the sellers] respond to the questions as to whether there is integrity in the numbers,” she said.
Goodman recommended that buyers consult an accountant as soon as they have a target business in mind.
“You should not be the one analyzing the financial statements unless you understand how they work and know what to look at,” she said, “We have a flavor for how a business should look and can spot right away if things are out of sync.”
According to Bandawat, Jacob Bromwell has now had two years of increasing sales, but not without some shortcomings.
“We underestimated the amount of cash we would need to run the company,” Bandawat said, “It is very attractive to acquire an existing company, but it does not mean it will be less of a burden on cash. Truly understand how much cash you will need to run and grow the business. And, if you don’t have that cash, know how you are going to get it.”