The Ultimate Guide To Buying A Business
Steve Wright Ph.D
This article is written as the ultimate guide to buying a business in hopes of encouraging entrepreneurship while exploring many of the often overlooked possibilities and pitfalls of buying a business. America is built upon millions and millions of entrepreneurial stories of women and men just like yourself that dreamed of starting or buying their own business.
We have also written a free eBook for first-time business buyers.
The total expenditure numbers are based off BizBuySell.com and U.S. governmental data, which indicate roughly 500,000 businesses change hands each year. Buying an existing business is so prevalent because it lets you omit the risks and costs of launching a startup business. The journey of finding the right business can be extensive and problematical.
As you begin this journey, I am hopeful that this article will help guide you, challenge a few misconceptions, encourage your dreams and help make business ownership a dream come true. Remember that buying an existing business has one huge benefit by allowing you to receive a paycheck on day one of ownership.
Calvin Coolidge once said, “The business of the American people is business”.
For centuries people have scratched and clawed their way to America for the opportunity that this country presented to them. Individuals like Benjamin Franklin, P.T. Barnum or Katharine Graham had incredible dreams and ambition that led them to start or lead profitable businesses in our great country.
Go West Young Man Or Woman
From the colonial era to the present day, small businesses have been an integral part of American life. Blacksmiths, farmers, seamstress, saloon owners, doctors, and even the traveling tonic salesmen were all part of our colonial legacy.
Eventually, our news traveled of great opportunities that awaited out west and Americans loaded up their wagons and headed west risking all that they own for a dream of freedom, more land, gold or better provision for their families.
According to Entrepreneur.com, there are 550,000 new entrepreneurs each month in the U.S. This translates into 6,600,000 new business buyers or business launchers each year in America. Please reread the last two sentences and let these numbers sink in. Many individuals that are considering buying a business feel that they are alone but they really aren’t alone.
There are now more older entrepreneurs than before. The rate of new entrepreneurs ages 55 to 64 increased from 14.8 percent in 1996 to 24.3 percent in 2015. Women and Latinos are also major drivers in the entrepreneurial boom as their numbers skyrocket.
In 1973 there was only one female of a fortune 500 Company in the U.S. Today, things have changed as women lead some of the highest revenue companies in the U.S.
Marissa Mayer – CEO of Yahoo - $42.1 million a year
Martine Rothblatt – CEO of United Therapeutics – $31.6 million a year
Carol Meyrowitz – CEO of TJX Companies - $23.3 million a year
Meg Whitman – CEO of Hewett-Packard - $19.6 million a year
Indra Nooyi – CEO of Pepsico - $19.1 million a year
Under Katharine Graham’s leadership, the Washington Post grew a hundred million dollar company to $1.4 billion by 1991. Washington Post’s stock value soared from $6.50 a share to $222 a share by 1991.
What is the impact of women throughout the U.S. regarding small business entrepreneurship? According to the data from the Small Business Administration:
· Women-owned businesses employ over 8.4 million workers and generate $264 billion in payroll.
· Almost all (99.9%) of women-owned businesses are considered small businesses (fewer than 500 employees).
· 36 percent of all businesses are women-owned, and they account for 12 percent of all sales and 15 percent of employment.
· An additional 2.5 million businesses are owned equally by women and men. These businesses account for an added $189 billion in payroll for 6.5 million workers.
· As the majority and joint business owners, women entrepreneurs generate $2.5 trillion in sales.
It’s important to note that women aren’t satisfied any longer with just being employed. Women are starting businesses and buying businesses and when needed they are hiring men;)
In 2012, women were majority owners of 9.9 million businesses. These businesses generate $1.4 trillion in sales and employed over 8.4 million individuals each year. Additionally, another 2.5 million businesses were equally owned by women and men. These businesses account for another $1.1 trillion in sales and 6.5 million jobs annually. As majority and joint business owners, women entrepreneurs generated $453 billion in payroll for 14.9 million workers through over 12.3 million businesses each year.
Identify The Right Business For You To Buy
Do you have a mentor or a trusted friend? If so, you are way ahead of most individuals looking to buy a business. There is something powerful about the spoken word. Once words leave our minds they take wings and often become realities. A great place for a dreamer to begin is by sitting down and telling someone what they are thinking. Also, remember to just your first conversation carefully as dreams in their infancy are fragile and they need to be protected and nourished.
The reason I mentioned a mentor or a trusted friend is that you need someone that will be 100% honest as well. A trusted friend will tell you the truth no matter what and although it may be painful the truth is needed. When we are considering buying a business we all bring history, education, experiences, baggage, successes, and failures to the table. All of these things add to our maturity and gives us greater perspective.
During this dream phase, it is quite okay to dream and I mean REALLY dream. Without dreaming really big we all should stay in the corporate rat race and keep the status quo. Remember that it is individuals like the Wright Brothers that help all of us dare the impossible. Remember that it was these two bike shop owners that discovered flight working after hours and weekends with NO budget, NO loan, No instruction manuals with everyone calling them crazy.
Buying or selling a business really has never been easier. If you want to relocate to a new area and buy a business you can. If you need help financially, there are many places to find help. If you don’t want to start from scratch you can buy a proven model called a franchise. If you want to consider all of your options there are many ways to explore. Today, you have professional business brokers that will walk you through the entire process.
Give yourself permission to explore. Exploring costs you very little or nothing at all but it allows you to match your know how to your passion. Not everyone buys a business to make millions of dollars. Some buy businesses to help others, meet unmet needs or to serve a community. These are all noble reasons but remember that the business that you buy must pat the bills or you will quickly be out of business. In the end, your business must produce a livable wage for it and you to continue.
A Livable Wage When Buying A Business
Are you as intrigued as I am with the growing number of celebrities, professional athletes or multi-million dollar lottery ticket winners that end up bankrupt? Some people, no matter how much they make, they can’t adjust their standard of living and they end up sinking if the debt pit.
A huge benefit of buying a business is they each have historical data. Tax records over the last 3-5 years, profit and loss records and balance sheets all tell a story. Have you heard the saying, “Numbers don’t lie?” These are the numbers that this saying is referring to.
After all, the wonderful stories have been told and the promises of tomorrow’s future growth have been embellished it is the numbers, the numbers, the numbers that reign supreme. This is why your accountant makes the big bucks and why he or she will be your best friend when you buy your business.
As they read through all of the company numbers, they will ultimately be able to give you a reasonable number of what you can expect as a livable wage from this business if everything stays the same. The livable wage number is very important to you when you are buying a business.
The livable wage is also called Sellers Discretionary Earnings. These earnings are everything the business pays to the owner out of the business like health insurance, retirement, business travel, and other expenses. Another reason this number is SO important is that this number most often determines the value of the company. In other words, the amount that you will pay for the business is directly tied to the Seller Discretionary Earning number.
If the current owner is being paid very well by his business then the odds are that you will be willing to pay more for a profitable business. When buying a business the number matter and do not let anyone tell you any differently. If you are working with a firm that discourages that you bring in an accountant to review the numbers… RUN. If the business that you want to buy doesn’t have full and accurate numbers… RUN.
One of the primary reasons business buyers want to work with a trusted business broker is for this added protection. Most people that buy a business are purchasing a business for the very first time and there is a very little margin for error and the risks are too high. Unfortunately, not everyone is honest and it is better to be safe than sorry.
Financing Options For Buying A Business
How do you know if you are getting a good deal or not when you are buying a business? For the inexperienced, this question may seem impossible to answer but it is actually quite simple to answer.
Imagine with me that you want to buy a lemonade stand (Just a simple example). Let’s pretend that the owner wanted $10,000 for her lemonade stand business. Is $10,000 a good deal or not? If you do not know the answer, please re-read the above section. We do not know if $10,000 is a rip-off or a great deal until we have reviewed the books with our accountant.
Let’s say that after our accountant has reviewed the books that everything is accounted for and it looks like a fair price for the profit it is creating. There is one problem though, you only have $3,000 and the owner wants $10,000.
Let’s imagine that this business creates $2,000 in profits to the owner each year. The owner is willing to finance $7,000 if you put down the $3,000 that you have. He wants you to pay 6.5% interest on the $7,000 that the seller loans you over 5 years. You will have to pay $136.98 each month for five years to buy this business. After five years you will pay $1,217.98 in total interest.
Is this lemonade stand a rip-off or a great deal?
Lemonade Stand - Let's Look At The Numbers
Sales Price - $10,000
Seller’s Discretionary Earnings - $2,000
Buyer’s Down Payment - $3,000
Loan Amount - $7,000
Loan Terms – 5 years at 6.5% Interest
Total Interest Paid - $1,217.98
Total Paid For Lemonade Stand - $11,217.98
Return On Investment Payback – 100% in 18 Months
Is the Lemonade Stand a great buy or a rip-off? According to these numbers, the lemonade stand is a GREAT deal and here is why. You invest $3,000 of your hard-earned money and you get 100% of your investment paid back in 18 months. The business makes $2,000 a year in profit so after year one you have $2,000 back and in the first six months of year two, the business pays you 100% back.
What about the additional amount that you owe the seller of the business? Who pays the loan? Technically you do because you own the business but in reality, it is the business that pays the loan off. In other words, you bought a business that pays you 100% back in 18 months and then the business pays 100% of the business loan. Buying this business would be a GREAT DEAL.
These are simple numbers using a simple example of a lemonade stand but the reality is these numbers do not change with the size of the business. This is why business buyers love to use business brokers like Tina and me so we can sit down and show them the numbers of the business they are considering to purchase. A quality business broker can save you a lot of headache and agony and they are worth their weight in gold.
So, once you've decided a business is worth buying, what are your options?
- Personal Funds
- Private Lending
- SBA Loan
- Seller Financing
- Other Small Business Friendly Lending Firms
Buying Goodwill And What It Means To You
When you buy a business what are you actually buying? Yes, you are buying FF&E (Fixtures, Furniture & Equipment), branding, customers and inventory but you are also buying so much more. When you buy a business you are buying goodwill. What is goodwill?
Some people call goodwill the intangibles of business buying. Reputation, loyal customers, trained employees, steady vendors, location and business history all makeup goodwill. How much is goodwill actually worth? For a healthy, strong, venerable and profitable business, goodwill is worth a lot of money.
My mother-in-law owned a florist if Knoxville, TN for 40 years that specialize in weddings. I’d say that weddings are a pretty significant event in most family’s lives. Weddings for 40 years not to mention funerals, birthdays, anniversaries and holidays all contributed to her goodwill.
The lady that purchased my mother-in-law’s florist purchased goodwill when she bought her florist. After 10 years of owning the florist, the new owner continues to work with the same customer base. Goodwill continued and her business is more profitable than ever.
Your business broker will help educate you on the importance of the goodwill of the business that you want to buy. Never underestimate the significance of goodwill. Buying a business is in many parts are as much as the intangibles as they are the tangible parts.
The tangible and the intangibles all bear heavily on the living wage that we discussed earlier. The living wage is so important because buying a business isn’t just about paying the bills. If you buy a business that pays the bills and constricts significantly your ability to enjoy life then what have you bought? It’s called a headache.
Due Diligence When Buying A Business
Tina, my wife, and I were once preparing to purchase a business. We met with or called between 25-30 business owners in the industry across the country before we bought our business. Okay, I can now admit that I tend to be a bit over obsessive but we want to verify the information that we had been given.
In case you have been living under a rock – NEWS FLASH, Businesses go out of business every day. This is perhaps the number one reason individuals choose to buy established businesses or franchises. People feel safer buying a business that has already faced and survived an economic downturn. 50% of all new startups close within the first four years of opening.
There is a business tsunami taken place in America as Baby Boomers are retiring and selling their profitable businesses. In the next 15 years, retiring business owners will sell close to $10 trillion worth of assets, held in more than 12 million privately owned businesses. This business turnover is already happening as small business purchases are already up 15% over previous years.
Due diligence is the single factor allowing younger entrepreneurs to know which of these businesses are the most attractive to buy. During the period of due diligence potential buyer get to see all the numbers and determine with their advisors just how profitable a business actually is.
Before you sign the papers do your research. Once you buy a business it is 100% yours – the good, the bad and the ugly. Work through the due diligence process and follow the paper trail. Are there any issues, possible litigations, unforeseen debt or anything else that needs to be disclosed?
A few things to consider during due diligence:
1. Licensing and permitting
2. Zoning Laws
3. Lease Agreements
4. Environmental Regulations
5. Founding Papers & Bylaws
6. All Financials Needed
8. Organization Charts
Choose A Trusted Broker When Buying A Business
When you need dental work what do you do? If you or your parents need surgery do you shop for the cheapest surgeon in town? If your daughter is planning her wedding, whom do you want directing the endless number of details on her special day?
A trust business broker will save you countless thousands of dollars, they will prevent you from rushing into uninformed decisions, they will connect you with a multitude of trusted advisors (legal, financing, accountant, inventory specialist) and they will guide you through the maze of purchasing a business.
A business advisor adds much-needed protection to the buyer and seller. NDA’s must be signed, financing must be arranged, due diligence must be through, business valuations must be made, negotiations must be fair, future non-compete forms must be negotiated, seller training after the closing must be agreed upon, lease negotiations have to be renegotiated, exec summaries are compiled, escrow accounts created and honored legally, buyer attorney & buyer accountant advisory included, buyer & seller meeting held and MANY, MANY other details are handled by the business broker.
Buying a business without a business advisor would be like the mother or father of the bride being the wedding director of a $500,000 - $1,000,000 wedding while they are at the wedding. It is possible, it could happen the odds for huge mistakes go way up and the risks of business ownership is too costly. Fortunately, very few people attempt to buy a business alone for the simple facts mentioned above.
After The Close
When does a business owner tell his employees that he/she has sold their business? Is the new owner present? Can you see the significance of this conversation? Are there key negotiations with important employees that must take place? Are there employee issues, are employees leaving, have employees signed non-compete clauses?
Things that might seem small become huge after the sell. Non-Compete Agreements are a great example of something a first-time business buyer might overlook. If the person that sold you their business suddenly opened a business right next door to you would it impact your business? You better believe it would impact you. When is the best time to have the conversations?
Seller Training is also a big deal once the business is sold. Most often sellers are ready to depart once the business is sold. Negotiating a 2-4 week training with ongoing consultation has to happen way before the closing ever happens or the new owner is in big trouble.
The Complete Guide To Buying a Business
Okay, are you ready for some honesty? Here it is… There is NO complete guide to buying a business. Sorry to disappoint you but the truth is that buying a business is a complex transaction that takes place over months for a reason. Attorneys are involved, business brokers are involved, accountants are involved, banks are involved, and inventory specialist can be involved along with the buyer and seller. ALL of these people are experts in their fields so the negotiations can be very tumultuous much like a roller coaster ride.
Business buyers have compared buying a business like walking a tightrope over Niagara Falls. On one side are dreams, freedom and great potential. On the other side, there is confusion, risks, and potential harm. Let us help.
Transworld Business Advisors is the world leader in our industry with over 40 years of business sales experience. We have 3.5 billion dollars in active business inventory and we have offices in 16 different countries. When people want to buy a business today the one they turn to is Transworld Business Advisors.