When considering purchasing a business, the first rule is “Do not rush into a deal.” Taking shortcuts when investigating a potential business acquisition almost always leads to nasty – and expensive – surprises.
Buying an existing business can be risky if approached haphazardly. To avoid blowing a deal or making costly mistakes, an entrepreneur-to-be should consider these steps:
- Analyze your skills, abilities, and interests to determine what kind(s) of businesses you should consider.
- Prepare a list of potential candidates.
- Investigate those candidates and evaluate the best one(s).
- Explore financing options.
- Ensure a smooth transition.
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Analyze your skills, abilities, and interests
The first step in buying a business is not searching out potential acquisition candidates. Every entrepreneur considering buying a business should begin by conducting a self-audit to determine the ideal business for him or her. The primary focus is to identify the type of business you will be happiest and most successful owning. Consider the following questions:
i) What business activities do you enjoy most? Least? Why?
ii) Which industries or markets offer the greatest potential for growth?
iii) Which industries interest you the most? Least? Why?
1v) What kind of business would you enjoy running?
v) What kind of businesses do you want to avoid?
vi) What do you expect to get out of the business?
vii) How much time, energy, and money can you put into the business?
viii)What business skills and experiences do you have? Which ones do you lack?
ix) Can you transfer your skills and experiences to other types of businesses? In what kind of business(es) would such transfer be easiest?
x) How much risk are you willing to take?
xi) Are you willing and able to turn around a struggling business?
xii) What size company do you want to buy?
xiii) Is there a particular geographic location you desire?
Answering these and other questions beforehand allows you to develop a list of criteria a company must meet to become a purchase candidate. Addressing these issues early in the process will also save a great deal of time, trouble, and confusion as you wade through a multitude of business opportunities. The better you know yourself and your skills, competencies, and interests, the more likely you will be able to find and manage a successful business.
Prepare a list of potential candidates
Once you know what your goals for acquiring a business are, you can begin your search. Do not limit yourself to only those businesses that are advertised as being “for sale.” In fact, the “hidden market” of companies that might be for sale but are not advertised is one of the richest sources of top-quality businesses.
Many businesses that can be purchased are not publicly advertised but are available either through the owners or through brokers and other professionals. Although they maintain a low profile, these hidden businesses represent some of the most attractive purchase targets a prospective buyer may find.
How can you (an entrepreneur) tap into this happening market of potential acquisition? Entrepreneurs (business owners) may consider some sources like:
Business brokers – to locate those near you, search on the internet, visit some financial institutions, ask questions and don’t forget to do your research when looking for one.
Professionals who provide business services such as bankers, accountants, attorneys, investment bankers, and others.
Industry contacts – suppliers, distributors, customers, insurance brokers, and others.
“Networking” – such as social media, meet-and-greets, attending functions and holding causal conversation are some of the easiest ways to network. The web has become an important tool for entrepreneurs looking to buy businesses. In the past, the market for businesses was highly fragmented and unstructured, making it difficult for entrepreneurs to conduct an organized, thorough search for companies that might meet their products criteria.
Today, millions of business brokers have established websites that list practically millions of companies for sale in practically every industry imagined, enabling entrepreneurs to search for that perfect business from the comfort of their own homes.
With this, potential buyers can eliminate the companies that do not suit them and can conduct preliminary research on those that look most promising. The more opportunities an entrepreneur has to find and evaluate potential acquisitions, the greater the likelihood of finding a match that meets his or her criteria.
Knocking on the doors of businesses you would like to buy (even if they’re not advertised as being “for sale”)
Newspapers and trade journals listing businesses for sale.
Investigate and evaluate candidates and pick the best
Finding the right company requires patience. Although some buyers find a company after only a few months of looking, the typical search takes much longer, sometimes as long as two or three years or even more. Once you have a list of prospective candidates, it is time to do your homework. The next step is to investigate the candidate(s) in more details like:
a) What are the company’s strengths? Weaknesses?
b) Is the company profitable? What is its overall financial condition?
c) What is its cash flow cycle? How much cash will the company generate?
d) Who are its major competitors?
e) How large is the customer base? Is it growing or shrinking?
f) What is the physical condition of the business, its equipment and its inventory?
g) What new skills must you learn to be able to manage the business successfully?
Determining the answers to these and other questions addressed will enable a prospective buyer to develop a list of the most creative prospects and to prioritize them in descending order of attractiveness. This process also makes the task of valuing the business much easier.
Explore financing options
Placing a value on an existing business represents a major hurdle for many would-be entrepreneurs. The next challenging task in closing a successful deal is financing the purchase.
Although financing the purchase of an existing business usually is easier than financing a new one, some traditional leaders shy away from deals involving the purchase of an existing business.
Those that are willing to finance business purchases normally lend a portion of the value of the assets, and buyers often find themselves searching for alternative sources of funds. Fortunately, most business buyers have access to a ready source of financing: the seller. Seller financing often is more flexible, faster, and easier to obtain than loans from lenders and investors.
Usually, a deal is structured so that the buyer makes a sizeable down payment to the seller, who then finances a note for the balance.
The buyer makes regular principal and interest payments over five to ten years – perhaps with a larger balloon payment at the end – until the note is paid off. The terms and conditions of such loans are a vital concern to both buyer and seller.
They cannot be so burdensome that they threaten the company’s continued existence; that is, the buyer must be able to make the payments to the seller out of the company’s cash flow.
At the same time, the deal must give the seller the financial security he or she is seeking from the sale. Defining reasonable terms is the result of the negotiation process between the buyer and the seller.
Ensure a smooth transition
Once the parties strike a deal, the challenge of making a smooth transition immediately arises. No matter how well planned the sale is, there are always surprises.
For instance, the new owner may have ideas for changing the business – sometimes radically – that causes a great deal of stress and anxiety among employees and the previous owner. Charged with such emotion and uncertainty, the transition phase is always difficult and frustrating – and sometimes painful. To avoid a bumpy transition, a business buyer should:
Concentrate on communicating with employees. Business sales are fraught with uncertainty and anxiety, and employees need reassurance.
Be honest with employees. Avoid telling them only what they want to hear. Share with the employees your vision for the business in the hope of generating a heightened level of motivation and support.
Listen to employees. The have first-hand knowledge of the business and its strengths and weaknesses and usually can offer valuable suggestions for improving the business.
Consider asking the seller to serve as a consultant until the transition is complete. The previous owner can be a valuable resource, especially to an inexperienced buyer.