Want to buy an existing business? You’re not alone. BizBuySell.com, a marketplace for business buyers and sellers, reports continued strong business-for-sale activity in the second quarter of 2018. Small businesses sold for a median sale price of $239,000 in the second quarter of 2018. BizBuySell.com predicts 2018 will be a “recording-breaking year when it comes to small business transactions.” As a result, more sellers are putting their businesses up for sale—adding to the already sizeable number of baby boomer entrepreneurs who are selling their businesses in preparation for retirement.
You probably have good reasons of your own for buying an existing business instead of starting one from the ground up. According to BizBuySell.com, some of the most common reasons for buying an existing business include access to:
- Existing cash flow
- Established customer base and market share
- Proven business model
- Brand identity
- Infrastructure is already in place
- Trained employees
- Established vendors
We all know about the risks of a business startup—and the failure rate with the first five years of operation. With those odds, buying an existing business can give you a much better chance of survival.
A Five-Point Checklist for Buying a Business
Buying a business is no guarantee of success and you have to do your homework before you sign on the dotted line. To ensure nothing slips through the cracks, we’ve created this buying a business checklist to guide you.
Checkpoint 1: History of Business
Every buying a business checklist should start by finding out why the owner is selling the business. The why is your clue to the company’s viability and whether the business is worth purchasing. Is the owner ready to retire or ready to do something else? Good news. Are they selling the business due to onerous industry regulations or changes in market demographics? Bad news.
If you don’t get an answer you feel comfortable with from the business owner, keep digging into industry, market and competitor data until you find out what you need to know. You can do your own research about the industry’s outlook by talking to trade associations and analyzing data from Census.gov and the Bureau of Economic Analysis.
Also make sure your buying a business checklist includes finding out the background of the company’s founders and important members of the management team. Do they have skills or experience essential to running the business, or can it thrive without them?
Checkpoint 2: Financial Factors
You need to determine if the earnings of the business will be adequate for your lifestyle and if you think you can improve (or at least maintain) the earnings. Here’s where you’ll need help from an accountant. Have your accountant go over the company’s audited year-end financial statements for at least the last three years to see if revenues are rising or declining. You’ll also need at least three years’ worth of tax returns and key financial ratios from the sellers, including ratios such as gross profit to net sales, net income to net worth, and net income to total assets.
What kinds of debts does the company have? Are bills past due or are there a lot of unpaid invoices? How well managed are the company’s finances? You also want to familiarize yourself with how the company handles its receivables. Are customers used to paying COD or net 90? You can always change your invoice terms once you own the business, but be aware you’ll probably get some pushback from long-time customers.
Checkpoint 3: Legal Issues
Find out what legal structure the company was formed under. When you buy a business entity, you are buying the entity as is, whether it’s a corporation or a limited liability company (LLC). You’re also buying everything that comes with the entity, including all the contracts, debts, and anything else registered under the business’ name.
If you want to change the legal structure of the business, you’ll need to file a conversion with your state. A conversion is when a company decides to convert from one entity type to another entity type. Not all states allow conversions. In those states where a conversion is not recognized, you’ll need to dissolve the current entity and form the company as a new entity. CorpNet can file your conversion for you and knows how each state handles these transactions.
Have your attorney look over the company’s current contracts to see what’s included (or not included) in the fine print. That includes leases for the business location, equipment or vehicles. Will these and any supplier contracts transfer to you? Ask the current business owner to put you in touch with the officials responsible for any zoning or industry regulations you need to be aware of.
Find out if the business has patents or proprietary processes and if so, make sure they’re under the business’s name (not the owners). What will happen to those rights after the sale? Will you still have access to the patented technology?
Finally, protect yourself from legal nightmares by finding out if there are any pending or ongoing lawsuits, or have ever been any lawsuits, against the business.
Checkpoint 4: Marketing and Sales
Familiarize yourself with the company’s target market and whether the market is growing or shrinking. Do some digging to uncover the business’s reputation in the marketplace and get a sense of brand awareness among the target market. A strong brand is one of the biggest assets a business can have.
Check the business’s online reviews and social media accounts to see what current and past customers are saying about the company, its employees, its products, and services, etc. You can learn a lot about the company’s reputation and relationship with its customers by checking out Twitter, Facebook, and Instagram.
Then do some research on the company’s competition. What kinds of reviews do the competitors have? Do they offer more or less than the business you’re considering buying? How strong is their social media presence and brand awareness?
Ask your accountant to analyze sales reports for recurring customers and determine where most of the business’s revenue comes from. Do you see an upward trend in sales, or are they plateauing or declining? Are sales primarily seasonal or evenly distributed throughout the year? Is there a good balance of customers, or is the business heavily reliant on one or two big clients?
Checkpoint 5: Employees
If the business has employees, learn as much as you can about them, the company culture, compensation, and benefits. Try to get a sense of whether key employees will stay with the business after it changes hands and what incentives you might need to offer to keep them on. Have your attorney review any employment contracts to make sure the business is following applicable employment laws.
Buying a Business Checklist: More to Know
You’ll probably have more questions to ask the business owner depending on your industry knowledge, your needs and your plans for the business. Ask your attorney, accountant, or other business advisors or consultants for advice to ensure you’re asking the right questions so you can make all the right moves.