Do you dream of running your own business? Or, if you already do, of expanding it by acquiring another? Buying a business can be a faster and sometimes less risky way to achieve either goal than starting a new company from scratch. When purchasing an established business, you hit the ground running. You take over an operation that already brings in money, with employees, customers, and an established reputation. But buying a business can be complex, with potential pitfalls – and it often requires substantial investment.
To help you successfully navigate the process, here are eight steps to buying a business.
1. Choose the Right Kind of Business
Think realistically about the type of business and the lifestyle that suits you. It often makes the most sense to choose an industry you’re familiar with. If you already work in landscaping, web design, or catering, you may be better positioned to run a business operating in the same field – and to evaluate whether an existing business is a good buy. Browsing business-for-sale websites can give you an idea of what businesses are being offered for sale and the prices they’re asking. Consider your budget and how much time you really want to devote to the venture – day-to-day business management can be hectic and time-consuming.
2. Line Up Experts
In most cases, you’ll need expert help to critically evaluate potential businesses and complete an acquisition. Start pulling together a team now. An accountant can examine a company’s financial records to help assess its profitability. A lawyer can help ensure watertight sales contracts and avoid future legal problems. If you’ll need financing, talk to lenders to find out what’s feasible.
3. Home In on Businesses to Buy
It’s time to start identifying potential businesses to buy. Some common methods:
Search specialized websites that list thousands of businesses for sale.
You can refine the search by location, industry, and asking price. You’ll generally find information such as revenue, profitability, assets, rent, and why the owner is selling.
Talk to business owners.
Even if they haven’t listed their business for sale, an owner may be interested in selling if they get an offer at the right price. Even if they’re not, they may provide valuable insights into what it’s like to run their business.
Work with a business broker.
A specialized business broker can help pinpoint a company that’s a good fit and then guide you through the rest of the buying process. Like real estate agents, business brokers charge a commission – often around 10% of the purchase price – which is usually paid by the seller.
Scrutinize every aspect of the business, looking for problems that could affect you once you’re the owner. The financial and legal experts can provide crucial help at this stage.
Preliminary research at this stage can uncover important details. For example, is an owner selling because they’re ready to retire, even though the business is healthy and growing – or because a new, lower-cost competitor is stealing their customers?
4. Value the Business
Once you’ve identified a good fit, you can make an offer for what you think the business is worth. There are many ways to determine a fair price. A few of the most common approaches:
Market-Based
This values a company based on prices that have been paid for similar businesses. One limitation: it’s hard to use this method if the business is unique or doesn’t have nearby competitors.
Income-Based
Valuation is based on historical and projected future earnings. This method works well if the business’s performance is predictable. But be aware that many factors can affect business performance, including economic downturns.
Asset-Based
This method prices businesses by adding up the value of assets and subtracting liabilities, such as debts. It’s useful when a company’s worth is based largely on its assets – or when you’re looking to buy a company’s assets but not the business itself. Assets can be tangible, like real estate, or intangible, like patents or reputation.
5. Sign a Letter of Intent
A letter of intent is typically next. This is a nonbinding agreement signed by you and the seller that formalizes your intent to buy the business and outlines the price and other terms. Sellers may require this document before sharing more detailed financial and legal information about the business. The agreement helps prove you’re serious, even though either party can back out of the deal later, if necessary. It usually also gives you the right of first refusal – you’ll be first in line to buy the business if other potential buyers emerge later.
6. Do Your Due Diligence
Scrutinize every aspect of the business, looking for problems that could affect you once you’re the owner. The financial and legal experts can provide crucial help at this stage. An accountant, for example, can calculate the full costs of buying and operating the business and estimate potential future profit. But also talk to customers and suppliers, and examine possible legal and regulatory issues. Are there problematic contractual obligations or ongoing litigation? Does the company have all the licenses it needs? Realistic, objective analysis is critical because you may need to renegotiate or back out of the deal. It may hurt to walk away from a business that you’ve already set your heart on, but that’s better than acquiring a company with serious underlying issues.
7. Secure Financing
If you need external financing to buy the business, there are several options. Among them:
Banks or Other Commercial Lenders
Lenders will need documentation, such as a solid business valuation, financial statements and projections, and evidence of a down payment or collateral. They may also look at your personal credit rating and other financial information.
Seller Financing
Some business owners may agree to lend you the money to buy the business.
Business Partners
You may find a trustworthy partner who will invest cash in return for a stake in the business.
8. Close the Deal
Your expert team should help craft and review a final sales agreement that is both comprehensive and accurately reflects the terms you’ve agreed to with the seller. It’s often helpful to maintain friendly relations with the previous owner(s) and start the transition before closing the deal, so you can get their help should you need it. Also ensure that you’ve completed a checklist of items needed to close the deal, such as any approvals required from landlords, suppliers, or creditors.
