6 Reasons to Buy an Existing Business

6 Reasons to Buy an Existing Business

6 Reasons to Buy an Existing Business

Buying an existing business with an established customer base, sales, financial history, supply chain, website, trained employees and many other attributes can actually generate a stronger foundation to grow much faster than a ground zero start-up could. Taking a business from $500K in sales to $1 million in sales is probably much less expensive and faster than getting from $0 sales to $1,000,000.

First generation entrepreneurs typically find that jumping in to an existing business is far more advantageous, personally gratifying and offers a quicker financial return than building from scratch. Michael Gerber, author of The E-Myth Revisited found that 40 percent of new businesses fail in the first year, and 80 percent fail within five years. This would be a big leap of faith for most budding entrepreneurs.

If reducing the investment risk and creating opportunities for bigger profits sounds like your career path to be your own boss, then consider purchasing a successful, existing business.

Benefits of Buying an Existing Business

  1. Cash flow is king.

If you buy an existing and profitable business with a sensible deal structure, the business will generate a reasonable salary for you as well as some excess cash that you can invest in growing the business. Start-up businesses are famous for burning cash for years and most run out of cash before they get to breakeven.

  1. Financing

Buying a profitable business with proven cash flow for a fair price means you can likely buy the business with an SBA Loan Guaranty. This means, if you qualify, you could own the business for as little as a 15% down payment. A business selling for $400,000 could be purchased for $60k down or maybe less.

  1. Don’t repeat mistakes

The seller has likely made a lot of mistakes you won’t have to make. That takes some risk out of the deal, as well as pain.

  1. Apply your skills

In all likelihood you’ll bring some skills to the business the seller doesn’t have. Evaluate the business. Revise systems and processes. Keep the good and transform the bad and you could see a quick boost to profits. Most people think it’s easier to fix a business than start a business. I’ve done both and I agree.

  1. Customers

The seller has figured out what their customers want. You are buying an existing customer base that probably took years to cultivate.  Nurture these relationships. Embrace and foster new ones and you’ll experience an even wider community support base.

  1. Energy for Action

New energy applied to a stagnant business is a great opportunity. You as a buyer will likely be more motivated and enthusiastic than a seller who’s been clipping coupons for years. Energy is highly rewarded in businesses.

Buying an existing business can be a mass of confusing information and opinions but keep in mind, that you are taking a calculated risk which eliminates many potential challenges and the hazards associated with startups.

If you have the will to go through the process it could be the best move you make professionally. As someone once said:

Your worst day as a business owner is better than your best day as an employee.

The Role of Disclosure in the Due Diligence Process when Selling a Business

The Role of Disclosure in the Due Diligence Process when Selling a Business

A business owner who would like to sell their business how they go about the sale can be the difference between a dream ending and a nightmare. There are some things you should know before selling your business.

It is important that the buyer and seller know what’ being sold, bought and what known circumstances might affect the performance of the business after the sale.

If you’re selling a business your best friend is DISCLOSURE! That’s right disclosure. The role of disclosure in the due diligence process is important when selling a business.  You may want to sell your business but when you do, you also don’t want to be in court a year later with a buyer trying to get the money back.

Disclosure is a part of the Due Diligence process. Due Diligence can vary greatly from deal to deal but one thing that doesn’t change is the obligation for disclosure.

Disclosure needs to be methodical and complete. During a sale, many business owners ask, “why is the buyer asking so many ridiculous questions?” As a seller, you should answer honestly and if you don’t know the answer tell the buyer that also.

Buyer Beware: Unfortunately, there are some sellers in the world who would rather look the other way, close the deal and worry about it later. As a buyer, you need to do your homework before finalizing the sale.

Disclosing Material Information

You should also be aware of material information that you should tell the buyer even if they don’t ask. What might that be?

Before the sale, you are talking to your largest customer and they say something like “Joe, just thought I’d let you know, starting in January we won’t need your product anymore.”

Some sellers might think closing on the sale before the buyer finds out is the best course of action, but it is not. In this case, you need to put in writing this information for the buyer. Could it kill the deal? Yes, but that might be better than the legal entanglements after a sale.

Here is what you want to include in disclosure:

  1. Any information the buyer asks for
  2. Any information about actions or impacts that might materially affect the business after the sale

There are plenty of situations that could occur. For example, let’s pretend it’s 2 weeks before the sale of your business is scheduled to close. Your top salesperson comes to you and says, “I’m pregnant, and after the baby comes I’m going to take a couple of years off if you need to fill my position I understand.”

Yep, you need to tell the buyer that. Losing your best salesperson is a big deal, even if you think they are easily replaced. Any small details that could possibly bring a wave of hurt to the company needs to be addressed before the sale.

When you decide to sell your business, you need to go through your business with a fine-toothed comb and be prepared to disclose and discuss.

 

Remember: Bad news about your business before the deal closes is a price problem. Bad news discovered after closing is a legal problem.

 

Buyer’s Responsibility

Along with the seller’s disclosure, the buyer has a responsibility as well. They need to put in the effort and do the homework to ask the right questions so all parties understand.

An experienced and qualified Business Broker can assist the buyer and seller in the Due Diligence process but the obligation for full disclosure is the responsibility of the buyer (who is spending a lot of money) and the seller (who is getting the money).

Business Value Can be Managed if the Business Owner Can Manage Themselves

Business Value Can be Managed if the Business Owner Can Manage Themselves

If you read too many business magazines you might find yourself believing that creating a valuable business is more luck than skill. Business value can be managed and if you manage the value you will become more profitable.

Small business owners often confuse business earnings or profit with the actual value of a business. All profits are not created (or valued) equally. A fundamental method of measuring the value of a business is applying a multiple to earnings. Take two businesses that have the exact same earnings of $100,000. Will they have the exact same value to a business buyer? No.

Why not? There are many, many reasons. Here are some examples of why business buyers value earnings differently, we’ll use the $100,000 earnings for company A and B example.

 

  • What is the quality of the earning? Company A earnings have been growing for 5 consecutive years, company B earnings have been down for 5 consecutive years. Which is more valuable?

 

  • Company B financial statements are cleaner than company A and a buyer will pay more for a company with cleaner books because there is less risk. Uncertainty in the quality of the business financial records drives down value.

 

  •  Company A has 5 lawsuits against it, company B never had any lawsuits.

 

  • Company B has well documented processes and it’s easier to train employees, therefore B’s owner can take lots of time off. Company A, with no processes, couldn’t stay open a week without the owner at the business. Which business has lower risk and therefore higher value?

 

  •  I could give you a hundred more variables as to why one business’ $100,000 profit is worth more, or less, than another business’ $100,000 profit.

 

As you can see business value and corresponding multiples of earnings is based on a number of fundamental factors that a business owner can control and these factors effect how valuable the business is. There are many businesses that are very valuable to the current owner but of little value, or much lower value, to a buyer. There have been several good books written about building value in a small business including Built To Sell.

 

Ready to Buy a Business – Your 401(k) could be your best friend!

Ready to Buy a Business – Your 401(k) could be your best friend!

Using 401(k) to buy a business solves a lot of financing problems. Buying a business is a complex and, at times, frustrating exercise. The easy part is finding a business worth buying. The difficult part is jumping thru hoops to get the business purchase financed. Getting financing to purchase a business makes financing a home purchase look like a walk in the park.

If you are buying a business don’t overlook using a 401(k) without triggering a tax bill. There are CPAs who specialize in this investment vehicle. The IRS code currently allows, if structured properly, you to access your 401(k) without triggering income tax or early withdrawal penalties. Consult a qualified 401(k) business purchase rollover expert. Expertise is required to navigate complicated tax laws.

Your 401(k) and an SBA Loan from the Small Business Administration could provide the financing you need to buy a business and build the wealth that is often created when you own and operate a successful small business.

A typical financing structure when buying a business is (20% down often using a 401(k) to buy a business) 75% financing from an SBA loan and 5% financing from the seller.

Typical business acquisition loans are 10-year loans, with interest rates at prime + 2 3/4%. Terms can be improved, if the business purchase includes the purchase of real estate. Purchase of the real estate will significantly lengthen the term of the loan. This can also improve interest rates.

SBA loan terms are typically far better than terms from conventional financing. (When conventional financing is available and most times it is not). The SBA loan guarantee program is utilized by many banks who participate by making SBA guarantee backed loans to individuals and small businesses looking to acquire a business. Here is some info from SBA regarding this option.

Could there be a better investment than investing in yourself?  For free information and complete details click here.

Business Owner Year End Tax Planning

Business Owner Year End Tax Planning

A common comment we hear from business owners who contact Sunbelt Texas about selling a business is “I didn’t know a year (or 2 or 3) ago I would be selling my business so soon.”

Before you file your taxes, keep in mind that a buyer and the buyer’s lenders will look very closely at the financials of a business for 3 full years. That means that if you sell your business in 2020 or sooner, the Tax Return you’re about to file could have a significant impact on the value of your business.

Do your business tax returns clearly and accurately reflect the earnings of the business?

Tax Planning for a Future Sale

Here are 4 areas that we often see need significant improvements to obtain the highest value in the sale of a business. Talk to your CPA about how you can move ahead to increase the value of your business.

Inventory

  • Do you have an accurate inventory count and value booked into your financials?
  • Is all of your inventory in “good and saleable” condition?
  • Do you actually know what your inventory value is?
  • Have you written off the old and obsolete inventory?

Accounts Receivables

  • Are all your receivables good and collectible?
  • Have you written off the A/R you know your odds of collecting are remote?
  • Do you have customer deposits intermingled with the accounts receivables?
  • Do your receivables reflect what is actually owed to you by the customer? (We see companies that when they get a customer deposit for a job, they book the whole job as a sale and book the deposit as a partial payment even though they haven’t actually earned the sale yet)

Employees

  • Are your employees classified correctly 1099 vs W-2? Are your 1099 contractors really employees who should be classified as W-2 employees. (This is a very big issue and the government has an active program to crackdown on this….and the penalties can be severe).
  • If your 1099’s are really 1099’s, do they have an entity (i.e., LLC, S Corp, etc) you pay?
  • Do you have a properly written and valid independent contractor agreement with them?
  • Are your W-2 employees correctly categorized as hourly vs salaried and paid accordingly? You don’t want to lose a claim where, after years the employee claims you owe them thousands of hours of back overtime pay.

Owner Benefits and Compensation –
This is VERY important and can dramatically affect the value of your business:

  • Are the compensation and benefits received by the owners easily identified and properly booked on the financial statements and tax returns?
  • Do you have significant expenses that are not directly related to the business, expensed through the business that are buried in the company expenses?
    • Travel?
    • Entertainment?
    • Expenses run thru company credit cards?
    • Personal vehicles?

Tax Planning Action Item:

If your objective is to sell your business one day then you should get your financials in condition for easy due diligence and maximum value. “Burying” personal expenses in the business financials will reduce the business earnings and reduce the value to a buyer.

Our advice is for business owners to take any compensations as salary, bonuses and draws. Running non-business expenses through the business financials creates problems for proving the earnings in due diligence and raises the risks associated with potential tax liabilities

Conclusion

The most important element of business value is clarity of the business earnings and reduction of the risks associated with all aspects of the business. A buyer will only pay for the earnings that can be proven and the risks a buyer sees drives the multiple buyers will pay for a business.

A business with the lowest perceived risks will command the highest price multiples when being sold.