Buying a business can be one of the most exciting and rewarding endeavors an individual can undertake. If you have the financial resources or access to financing, purchasing an existing business is generally a much better option than starting one from scratch. By getting into an established business, you are able to bypass the months of hard work that goes into taking your business from startup to profitability.
Although buying an existing business usually puts you in a much better position for success than starting one on your own, it does not guarantee it. Plenty of business purchases do not go as planned, and this usually happens because of one of two reasons;
- The buyer did not get into the right business
- The buyer did not perform thorough due diligence
Choosing the Right Business to Buy
An existing business might be highly successful and worth every dollar the owner is asking for it, but it might be the entirely wrong business for you. Before you consider any type of business endeavor, you need to answer two important questions:
- Do I care about this business/industry?
- Do I have the skills to run this business?
If you have ever watched the popular TV show Shark Tank, you have probably seen the investors say something to the effect of, “this is not something I can get passionate about” before dropping out of the bidding. As you can see by their approach, being interested in what the business is providing it is very important, even if you are a passive investor (like the stars of Shark Tank).
Running a business is hard work, and you need something to get you out of bed in the morning, even when you are exhausted and have no motivation to do anything. And this motivation should be more than just the money the business can make. There are countless business ventures that can earn you a lot of money. The one you choose to get into should also be a business you care about.
The second question you need to answer is whether or not you have the ability to operate the business successfully. This goes beyond just having a passion for the industry and speaks to whether you realistically have the skills to make it work.
Here is an example. Suppose you love cars, and you have three or four of them. You even like to collect classic automobiles, and you are an avid reader of Car and Driver Magazine. If you find an auto repair shop for sale, should you buy it? That depends. What if you love cars, but you have no idea how to change the oil in one or even change a tire?
You do not necessarily need to be a certified mechanic to own an auto repair shop; you can hire mechanics to do all the work. But you should at least have some basic knowledge of auto repair, the type of tools and equipment needed for the shop, and you should be able to know whether or not a mechanic is completing the job correctly. Without this basic knowledge, owning an auto repair shop will be a major challenge, unless you plan to be an entirely passive owner and hire someone else to manage it.
Performing Due Diligence
Once you have identified an industry you want to be in and a particular business you want to purchase (within that industry), you need to make sure everything checks out, and everything that the owner is representing his correct. Here are some of the most important areas you should review when performing your due diligence:
- Entity Structure: Is this business a sole proprietorship, partnership, corporation, or limited liability company (LLC)? Is the business entity in good standing? Are there annual reports and other entity-related documents you can review?
- Financial Reports: The business should have audited financial statements for at least the past three years along with auditors’ reports. Be sure to thoroughly review these as well as other financial documents such as the current balance sheet, profit and loss statements, tax returns, accounts payable, and accounts receivable.
- Physical Assets: Review the schedule of fixed assets owned by the business and the locations of these assets. They should also include all the equipment leases, as well as the lease agreement for the commercial space being rented, or if owned, copies of deeds, mortgages, title policies, and other real estate issues.
- Employee Information: A list of all the current employees, their positions, wages, salaries, bonuses, benefits, and other related information for at least the past three years.
- Licensing and Permits: Depending on the type of business and the area in which it is located, various licenses and permits may be required. Be sure all of this is compliant and up to date.
- Insurance Information: Does the business have all the proper insurance coverages for various types of liability exposure? Examples include general business liability insurance, real estate insurance, product liability insurance, professional liability insurance, life insurance for key members, and workers’ compensation insurance.
- Legal Issues: Are there any pending lawsuits or threats of future lawsuits? Are there any unsatisfied judgments against the business? Does the business have insurance coverage for litigation issues?
Partner with an Experienced Professional
Going into business can be a complicated and overwhelming process. But this is not something you have to do alone. An experienced business intermediary can help you with the important tasks of choosing the right business to buy (based on your unique passions and skillset) and performing due diligence. With the help and guidance of a business intermediary, there is a much better chance that the business you purchase will bring you long-term success.
