Buying a small business is a more convenient way of entering entrepreneurship than starting a new business from scratch. Since the small business is already running and generating revenues, you can begin operations immediately after the sale. Moreover, existing inventory, account receivables and established customers help maintain cash flow, making it easier to earn profits, especially if you have no need for private business loans to buy the property. Nonetheless, due diligence must be performed to ensure that you are buying the right business. To simplify the buying process, this post discusses five important considerations before buying a small business.
Investigate Seller’s Objective
Before buying a small business, investigating the existing owner’s objective of selling is very important. If the previous owner is selling to retire, then there is a high probability that the business is still capable of earning profits. However, sometimes business owners sell their business to raise money for personal requirements, bankruptcy or due to the fear of rising competition. Surely, analyzing their true motivation behind selling indicates the business’s true worth. There are easy ways to make your business sustainable, so this may not be too big of a problem should it be a cause for sale. Just be sure to consider their selling motivation when making your decision.
Find Out Owner’s Income
In addition to finding out why the owner is selling the business, you may want to find out the owner’s discretionary income. The ODI is the amount of money the owner actually make’s after paying out employees, and paying for all other costs associated with the business. If you are unhappy with the amount, or the amount has been in a decline in recent years, this is not the best business to purchase. Remember the importance of finding out the owner’s discretionary income before you commit to a purchase. o E
Research The Business
Once you are clear about the seller’s motive, now it is time to research the business itself and its core values definition. While researching a business, find out its number of competitors, current market reputation and potential for growth. Furthermore, evaluate if the business belongs to a healthy and growing industry. Of course, talking to customers and suppliers will provide valuable insight about how the business is performing. Thorough research enables you to make well-informed decision about buying a small business of your choice.
Ask For Employee Documents
Before you buy a business, you want to be sure to request every piece of employee documentation they have. This should include organizational charts, employee handbooks, employee agreements and wage and salary information. If applicable, you should also ask for any benefits plans, noncompete agreements or confidentiality agreements. Check to see if any existing employee policies put the business at risk of lawsuits. Also, try to find out if any ongoing employee grievances exist. A good manager makes a difference, but this is still a situation you will want to avoid. This will help to prepare you for anything that may come in the future if you do decide to buy the business.
Check Business Documents
Thoroughly checking business documents is the next step towards completing the due diligence process. First off, go through organizational documents like partnership agreements, articles of incorporation and business certificates to verify the business’s credibility. Then, find out if there is any outstanding tax liability. Definitely, examining all relevant business documents will reveal whether buying it will be profitable.
Evaluate Revenue Generation
Steady revenue generation indicates positive cash flow. When purchasing a business, evaluating how much revenue it generates it a top priority, as well as researching the business’ quality management system. Start by checking the last three year’s financial statements, determining the present financial condition. While reviewing the balance sheet, focus on last full audit report. In absence of a recent audit report, you can request owner to get one done. A successful audit will prove profitability. Additionally, a look at inventory will tell you if products are getting sold regularly or not. Certainly, the value of a business depends on its ability to generate income, making it worth a worthwhile investment.
Determine Total Asset Value
The cost of buying a small business depends largely on its assets. By determining the total asset value, you can gain a better position to negotiate prices with owner. The tangible assets of a business include equipment, store location, lease, inventory products and patents. But, make sure each of these assets is free from debts that may pass on to you with the ownership. Undoubtedly, calculating asset value can enable buyers get a favorable sale price.
To purchase a small business, performing comprehensive due diligence is required for a successful deal, even if it only operates in online sales. Prospective buyers should evaluate the owner’s motivation of selling, business’s market reputation and consistent revenue generation. Additionally, you should examine business license and tax receipts to make sure that it is legitimate. Finally, calculate total asset worth to successfully negotiate a buying price.