Steps in Buying an Existing Business

Well, if you think you have the chops to be an entrepreneur, but would rather not start with a new idea -- or just plain don’t have a new idea worth starting -- you may be a great candidate to buy an existing business instead.
Huh, while buying an existing business typically involves more upfront cost, it also presents less risk than starting from scratch. Financially, you’re looking at actual profit and loss records rather than rough estimates, and there’s a clear history of sales to point to. You may also acquire valuable patents or copyrights, or have the opportunity to drive a stagnant business in an exciting direction with your expertise.


Advantages to Buying
In spite of many caveats to consider before buying a business, remember that buying an existing business is, generally, a much safer and faster route to profitability than starting from scratch.

Why founders sell businesses

It’s a common misconception -- a cultural stigma, even -- that if a founder decides to sell a business, there must be something wrong with it. Either it’s about to go under, or the financials are in bad shape, or the founders must know something you don’t, right?
In reality, founders sell their businesses for a myriad of reasons. They may be in a different life stage, and the needs of the business no longer match their lifestyle. Or maybe they’ve grown bored with the existing business model, or they’re excited about a new idea. The business they started may be a great one, just not one they are passionate about running day-to-day anymore. 

But even when a founder is ready to move on, the decision to let go of something they built from the ground up isn’t an easy one. By finding the right buyer -- someone with the passion to take the business to new heights and the strategic mind to make the business perform well into the future -- a founder can move on comfortably, knowing the business they built is in good hands.
How to buy an existing business
Do you want to be the buyer that ushers an existing business into a new era of success? Follow these steps to get things done

1. Decide what you’re looking for.

Purchasing a business is a huge decision that will impact your life and livelihood for many years. So before you even start investigating options, start by knowing exactly what kind of business you’re looking for. Here are a few factors to consider:
  • Location: Are you open to moving, or do you need something close to home? Or maybe you’re looking at businesses not tied to a specific location. Either way, remember that the location of your business will affect labor costs, taxes, and other financials that can change the business’s bottom line.
  • Size: Do you want to own a small family business, or a large, bustling enterprise? Buying a larger business could mean bigger profits, but will likely also involve a higher purchase price and more stress in the transition. 
  • Industry: What are the areas where you already have experience? What causes are you passionate about, or what hobbies are you interested in?
  • Lifestyle: Are you interested in a job involving lots of travel? Are you open to working odd hours, or would you rather stick to a traditional nine-to-five? As the owner of a business, the buck stops with you -- so think twice before choosing the kind of hands-on business that might involve emergency phone calls at 3 a.m.

2. Research available businesses.

Once you know what you’re looking for, you’ll need to start researching businesses up for sale. But wait! This isn’t the time to start Googling “businesses for sale.” Not yet, at least.
First put out some feelers close to home. Are your friends who launched a successful app ready to move on to their next project? Do you work for a small business you love whose owners may be willing to sell? Or if you’re keeping it small and local, maybe the owners of your favorite local coffee shop are ready to sell out and move to Bermuda?

If you know of a business you wish you owned, there’s no harm in asking.

From there, move outward to your business contacts, and carefully take to the internet for your research. BizBuySell is a reputable marketplace for buying businesses online. But be careful—for every legitimate opportunity to be found online, you’ll encounter dozens of bad deals waiting to happen.

3. Consider working with a business broker.

If you’ve done some research on your own and haven’t found the business you’re looking for, consider hiring a business broker to prescreen businesses for you, help you pinpoint your areas of interest, and negotiate the terms of your eventual business purchase.
Business brokers work similarly to real estate agents in that they will typically charge you a commission—around 5 to 10 percent of the purchase price—so they only get paid when you buy a business. So while the assistance of a broker can offer may be worth the cost, proceed with caution, and don’t let yourself get pushed into a hasty decision. 

4. Complete your due diligence.

When you find a business that’s a good match, a true entrepreneur will be immediately itching to dive head-first into purchasing the business and moving it forward. Before you get too excited, slow down and do your homework. A business that looks great at first glance could have serious issues hiding underneath that would make it a poor choice for sale.
Before you go any further, get your acquisitions team assembled. Especially if you’re not working with a broker, you’ll need an acquisitions attorney and an independent business valuations firm to help you determine the value and health of the business.
Have a business valuation performed to determine how much the business is worth, and consider how the current owner’s connections and expertise may affect that value. In a business-to-business company, for example, a business sale could cause the former owner’s clients to leave, which would seriously impact the value of the business.
Have a professional accountant evaluate the business’s written financials very carefully to make sure everything is on the up and up, and question anything that may be unclear. When you buy a business, you take on a tremendous amount of liability for things that may have happened before you were involved, so don’t leave anything up to chance.

5. Acquire the necessary funding.

While there are many benefits to purchasing an existing business, it can certainly be an expensive option. Unless you’re independently wealthy or have a financial backer, you’ll likely need funding to make the sale.
Once you’ve settled on a purchase price for the business and know how much funding you need, you have a few options for sources of financing:
  • Seller financing: This is where the seller allows you to make payments over time to purchase the business, usually for the purchase price plus interest. If your seller is open to this option, it can be the best financial choice for all involved.
  • Angel investors or venture capital: In this model, you would be partnering with someone else to purchase the business -- they are the financial investor, and you are the on-the-ground operator. If the business succeeds, this will cost you significantly in profits. But if it fails, you won’t have to worry about paying debts on a business that isn’t making money.
  • Business loan: Alternatively, you could take out a term loan to purchase the business through a traditional bank or an online alternative lender. The good news here is that lenders are often more open to loans for purchasing existing businesses with a known revenue history. Even so, your personal financials will play a big role in your ability to qualify.
Each financing source comes with its own pros and cons, so do your research and talk to an independent financial advisor to make sure the funding source you pursue is the best choice for your bottom line.

6. Draft the sales agreement

You’ve chosen a business, negotiated the terms, and secured the funding to make a purchase. All that is left to do is draft the agreement and sign on the dotted line. Again, make sure you’re working with a reputable acquisitions attorney here, and that you fully understand the written terms of the agreement before you sign.
Don’t leave any ambiguities that could cause trouble at closing or even after the sale has gone through.
Choosing to buy an existing business is a valuable entrepreneurial feat that will impact your life, your community and the lives of your employees for years. With the right connection and a lot of hard work on the transition, you may be the perfect person to turn a good business model into great future for all involved.

The Takeaways, 

 Make sure you're buying the assets, not the business. If the seller is a corporation or LLC, under no circumstances should you buy stock in his business. Instead, offer to buy the assets of the business, and form a separate company to act as the purchaser. Why? Two reasons. First, you get a better tax treatment, since your "tax basis" in the assets will be the amount you paid for them, rather than the amount your seller paid for them long, long ago. Second, if he owes money to people or is being sued by someone, you won't assume any of those liabilities if you buy the assets.
Ask about sales taxes and payroll taxes. In many states, even if you buy a business's assets, the state tax authority can come after you if they find out the seller owed sales, use, payroll and other business taxes. If the seller has employees (other than himself), ask if he was using a payroll service, and make sure he's current in his employment tax payments. Then ask the state tax authority to issue a "clearance letter" saying the seller is current in his sales and use taxes on the closing date. This may take a while, but it'll save you tons of heartache down the road.
Determine who will deal with the accounts receivable. Chances are, some of the business's customers will owe the seller money on the closing date. Who will be responsible for collecting these overdue debts? There are only two ways to handle this: Either you purchase the accounts receivable at closing (for a discount, to reflect the fact that some of these folks won't pay up), or you let the seller collect them at his leisure. My vote is for you to buy the accounts receivable at closing--that way, if the delinquent customer wants additional work done after the closing, you're in a stronger bargaining position.
Find out if you can assume the seller's lease. Is the seller leasing the premises where he conducts his business? If so, you should find out (1) how much time remains on the lease term and (2) whether the landlord is willing to let you assume the seller's lease "as is," without an increase in rent. If the lease has less than two years to run, you might want to spend the money now to negotiate a new lease with a five- to 10-year term. Also find out if the landlord is holding a security deposit (usually two months' rent, but sometimes more). Your seller will probably want you to purchase his security deposit on top of the agreed-upon purchase price for the business assets. If the seller is including the security deposit in the purchase price, make sure that's spelled out in writing somewhere.
Are there prepaid expenses? Take Yellow Pages advertising, for example. When you buy a Yellow Pages ad, you normally pay for a whole year in advance. Chances are your closing will take place sometime during the year, and the seller will want to be reimbursed for the portion of the year when you're running the business and benefiting from the Yellow Pages ad. Prepaid expenses--like the seller's security deposit--usually aren't included in the agreed-upon purchase price but are tacked on at the closing. Ask the seller now for a list of "closing adjustments"--amounts the seller has prepaid that will have to be "pro rated"--so you can budget for them accordingly and there'll be no nasty surprises at the closing.
Negotiate a "letter of intent." Also called a "term sheet," a letter of intent (or LOI) is a short, two- or three-page agreement between the buyer and seller of a business that spells out all the important terms and conditions of the sale. For example, it will include the purchase price, how and when the purchase price will be paid, the assets that will be sold to the buyer (and those the seller will keep for his own use), the terms of the seller's noncompete agreement, and so forth.
While LOIs are technically not binding on the parties, it's well worth your time and effort to hammer out as many of the business issues involved in an LOI before the lawyers begin drafting the "definitive" legal contracts that will document the sale. A well-drafted LOI helps the lawyers get the sale documents right on the first (or possibly the second) draft, since most of the important terms and conditions will already have been dealt with in the LOI and aren't subject to further negotiation. Without a LOI, you'll end up negotiating the business deal and the "legalese" of the definitive documents at the same time, requiring multiple drafts of the sale documents and tons of money in legal fees.
Watch out for bulk sales laws. Most states have done away with these, but many states still require the buyer of a business to notify the seller's creditors that the transaction is going on. Failure to get a list of the seller's creditors and send "notices of sale" to them may give the seller's creditors a shot at undoing (or "rescinding") the transaction in order to prevent the seller's assets from being sold out from under them. Even if the seller has no creditors at all, which is a rare occurrence, the state tax authority generally wants a copy of the "bulk sales notice" so it can determine if the seller owes any sales, use or other business taxes. If the seller does, he'll have to pay them before the closing takes place.
Get an indemnity from the seller. Even if you and your advisors have torn apart the seller's books and records, sometimes things get overlooked and you find yourself getting sued because of something the seller did (or failed to do) before you took over the business. Get an indemnity from the seller, promising to defend the lawsuit and pay all judgments and fees if that should happen. Likewise, you should be prepared to give the seller an indemnity if he gets sued because of something you do--or fail to do--after the closing takes place.
Make sure the seller sticks around for a while. In many retail and service businesses, the customers have a personal as well as business relationship with the owner. Be sure the seller continues to make an appearance at the business for a few weeks after the closing to introduce you to customers, help you figure out the books and "ensure a smooth and orderly transition of the business." Consider paying the seller for his time so he has an incentive to stay off the golf course--at least until you're comfortable you know what you're doing.
Get to know the employees. Before you buy a business, make sure the "key employees" are willing to stick around, since they're often the ones who see the customers day to day, operate all the tricky machinery and know "where the bodies are buried." Many sellers will be reluctant to let their employees know the business is up for sale, for fear they'll quit en masse. In that case, put a provision in the sales contract that reads as follows: "Seller and Buyer will announce the proposed sale to all employees of the Business within forty-eight hours before the Closing, and Buyer will be given a reasonable opportunity to meet with each employee individually before the closing date to determine, to Buyer's reasonable satisfaction, the employee's willingness to continue working for the Business." Then add a provision allowing you to walk from the deal if you're not totally satisfied that the key employees will stay on board at least long enough for you to learn what they already know.


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