How to pick the right business to buy part 1

Unfortunately most people choose a business in the worst possible way; by hearing about a business that is available and buying it. Of course, this does not make sense. How many people buy the first house they look at? Even if the business looks attractive, you should not buy the first business offered to you, regardless of how appealing it might be, without looking at other businesses. It is possible that you could miss the business that is right for you, but the alternative is far worse. Take a moment to consider the following questions:

  • What happens to you financially if you still have not bought a business after several months?
  • Can you get a job quickly?
  • Do you have alternative financial resources?

The first thing to understand is that it is difficult to find a good, profitable company with a motivated seller. At any particular point in time only around 5% of businesses are: for sale, profitable and appealing. Some businesses may meet the first two criteria but fail on the third.

It is important not to rush a decision and to carry out full due diligence. This is especially important for individuals who have been laid off by their firms, or whose positions have been terminated as there can be a tendency in these cases to hurry the process and base the buying decision on emotion rather than logic. People often do this to counteract the effects of lost self esteem that can accompany job loss. They may be anxious to prove their worth to family, friends and colleagues. Consider the opinions of your professional advisors. The decision has to have logic at its base. It is important to feel excited about the business as this will develop in to the passion necessary to make the business a success. However, emotion alone is not enough.

One of the biggest mistakes first time buyers make is to stop investigating other opportunities once they have become interested in a particular company. As they say “Its not over until the fat lady sings”. Only 50% of transactions reaching the letter of intent stage actually close. You should continue to actively pursue other possible acquisitions at the same time as you are negotiating your primary business interest; if the first deal collapses you do not have to start all over again.

Timing
Buying a business when the economy is strong may mean that you have to pay more for the business and that interest rates and lease rates will be higher. Generally, when the economy is in a downturn, you will pay less for a business, and interest rates and lease rates will be lower. At the same time, an inordinate number of buyers looking for businesses at the same time means more competition, which could translate in to a sellers market and result in higher selling prices for businesses. Other factors also have to be considered when the economy is in a downturn, for example, lower business revenues.


Where to look for a business

The reason that most people experience such difficulty locating a profitable and appealing business is that they are located in what is referred to as the “hidden business market”. This is the market where businesses are not publicly advertised for sale. In fact, the majority of businesses that are for sale are not advertised publicly. One need only look in the Business Opportunities section of a metropolitan newspaper to see that this is the case. Typically, you will see a number of ads for businesses such as dry cleaners, restaurants, video outlets, flower stores, fast food franchises, travel agencies, gas stations and convenience stores. The classifieds tend to attract smaller businesses; those that cannot afford to pay a broker’s commission or others who are avoiding paying the brokers commission.

There are a number of reasons why some of the most desirable businesses are the most difficult to locate. One of the reasons the business is desirable is because it has established a good reputation in the community and has built solid relationships with its customers and suppliers. In addition, the business probably has excellent long term employees who have played a large part in the businesses success. Consequently, the last thing a business owner wants to do is to create uncertainty about the future of the business. Customers who have been loyal to the business owner may decide to move their business to a competitor as they are unsure what level of service they will receive from the new owner. Suppliers might consider revising their pricing structure before a new owner takes over. Nothing creates anxiety among employees faster than uncertainty about their jobs or working for a new employer, so they may start testing out the job market. It is fairly evident why the seller of a viable company is reluctant to go public with an intention to sell the business. The business owner advertising a business for sale in the classifieds is not usually concerned about confidentiality; the employees may not be such an integral part of the business, their relationship with the customer may not be as important and supplier concerns may be a non issue.

Enough said? Not yet!  There’s more to consider!  Come back next week for part 2 of this article to learn how to contact business owners directly to buy their company and how to use business brokers.