How To Buy A Business
by North American Alliance of Business Brokers
Deciding to buy a business is an emotional decision. When looking for the right
business for sale you have to be both realistic and open. There is no “perfect
business” as all businesses have their positives and negatives. There is also no
business that is considered a steal at its price. If it appears to be a steal then
beware – as there may be something negative lurking beneath the facts and
Look at the entire business model. Not only should all financial figures be proven
through financial statements but the entire business should be open to you for
review upon acceptance of confidentiality documents and rules. But there are
certain business related items that are not at your disposal. For instance,
customer names, supplier names and employee names are not something you
should ask for. In addition, you should have no contact, visitation or any other
communication with that business without the approval of the business broker or
if no broker then the owner.
Some things you should ask for include the complete financial history up to the
last 3 years – if owned less than 3 years then adjust these requests accordingly.
You should also be given asset values including individual values of equipment
and inventory. It is also valuable for you to ask where the increased potential
rests in the business. Even though a value can’t be placed on potential, you
should look into the business’ potential for one main reason- DEBT SERVICE.
Debt service is defined as “Cash required over a given period for the repayment
of interest and principal on a debt.” So while potential should not be part of the
price of the business, you should look at potential when considering the
increased debt service associated with the business loan that you will most likely
need to complete the purchase. To keep the current annual cash flow – and
hopefully increase it – the potential of a business should be a key focus. If the
potential is unrealistic or does not match possible debt service then either adjust
your offer or simply walk away.
NO POTENTIAL = NO FUTURE
Look past the present and into the future but don’t pay for this trip!
The business also has to work for you. When looking at the business model you
have to consider the owner hours worked and possible increased expenses in
hiring to replace some of these hours. Replacing these owner hours with a
manager DOES NOT provide valid reasons to decrease the annual cash flow of
the business – rather this represents expense potential that you should consider
in any purchase.
So if the current owner works it then so can you – and if not then the decreased
cash flow should come from your willingness to take less revenue and not be
reflective in the offer process. In other words – you shouldn’t say “The cash flow
is not $150,000 – it is $120,000 because I want to hire a manager at $30,000 per
year thus the price should be reduced by $30,000”. The business model has
proven that hiring the new manager is now a discretionary expense.
But in the end – the offer IS what you are willing to pay for the business!
BUYER BEWARE – if it looks to good to be true – it is!!!
There is no such thing as a business where the annual cash flow (profit before
taxes) exceeds the asking price. So if you are looking to spend $100,000 and get
an instant cash flow of say $150,000 then you will always be looking. This
business for sale does not exist and if it does on the surface then beware as it
may have other issues playing out.
The median asking price on a business nationwide is anywhere from 1 to 3 times
annual cash flow + hard assets like equipment and inventory. This cash flow
multiplier is eventually set by the industry type and provable annual cash flow.
You may also see higher cash flow multipliers as these higher multiples generally
include the hard assets.
Then there are the gross sales multipliers for pricing a business and other similar
formulas basing the price on gross sales. These median gross sales multipliers
generally range between 33% to 100% of annual gross sales depending on the
type of business. These multiples generally reflect a business that has
substantial gross sales but little cash flow. As a reference, this type of business
will generally have existing cash flow potential through better management of
expenses, employees and time. In other words, the current and existing sales
represent a substantial increase in cash flow through better management.
PRICING METHODS on a business are covered completely elsewhere herein