Transcript ENTREPRENEURSHIP

ENTREPRENEURSHIP
BUYING AN EXISTING
BUSINESS
BUYING AN EXISTING BUSINESS
• Some entrepreneurs choose to buy existing
businesses rather than start their own. In a
typical year, between 500,000 to one million
businesses are bought and sold. Purchasing an
established business can offer many
advantages—if the entrepreneur knows what
they are really buying and if the business is
priced right.
Buying an Existing Business
• People buy businesses for different reasons. We
can categorize buyers into four areas:
• Main street buyers
• Corporate refugees
• Serial entrepreneurs
• Financial buyers
Buying an Existing Business
• A prospective owner must ask several key
questions before buying an existing business.
• Is it the right type of business for the market?
• What experience do I bring to the venture?
• What is the success potential?
• What changes are needed—and how extensive
are they—to realize the full potential of the value
of the business?
Advantages of buying an existing
business
• Advantages of buying an existing business include:
• A successful existing business may continue to be
successful.
• An existing business may already have the best location.
• Employees and suppliers are established.
• Equipment is installed and productive capacity is known.
• Inventory is in place and trade credit is established.
• The new business owner hits the ground running.
• The new owner can use the experience of the previous
owner.
• Easier financing.
• It's a bargain (maybe?).
Disadvantages of buying an existing
business
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Disadvantages of buying an existing business include:
It's a loser (maybe?).
The previous owner may have created ill will.
The business location may have become/is
unsatisfactory.
Equipment and facilities may be obsolete or inefficient.
Change and innovation are difficult to implement.
Inventory may be outdated or obsolete.
Accounts receivable may be worth less than face value.
Changes may be difficult to implement.
Inventory may be stale.
Accounts payable may be worth more than face value.
The business may be overpriced.
Steps in Acquiring a Business
• More than half of business acquisitions fail to meet
the buyers’ expectations. The correct way to evaluate a
match is to:
• Analyze your skills, abilities.
• Develop a list of criteria
• Prepare a list of potential candidates.
• Investigate and evaluate candidate businesses and
evaluate the best one.
• Explore financing options—the seller is a potential
source.
• Negotiate a reasonable deal with the owner
• Ensure a smooth transition—communicate with
employees, listen and ask questions.
Evaluating an Existing Business: The
Due Diligence Process
• A potential buyer should explore a business
opportunity by examining five critical areas.
• 1. Motivation: Why does the owner want to
sell?
• There are many reasons business owners plan to
sell their companies and knowing that
motivation will be beneficial to the buyer.
Evaluating an Existing Business: The
Due Diligence Process
• 2. Asset valuation: Assess the physical condition
of the business:
• Accounts receivable
• Lease arrangements
• Business records
• Intangible assets
• Location and appearance
• 3. Market potential: What is the potential for
the company's products or services?
• Product line status
• Potential for company’s products or services
• Customer characteristics and composition
• Competitor characteristics and composition
Evaluating an Existing Business: The
Due Diligence Process
• 4. Legal issues: What legal aspects should you
consider?
• Liens
• Bulk transfers
• Contract assignments
• Covenants not to compete
• Ongoing legal liabilities
• 5. Financial condition: Is the business financially
sound?
• Income statements and balance sheets for past 3-5 years
• Income tax returns for the past 3-5 years
• Owner's compensation (relatives, skimming)
• Cash flow
The Acquisition Process
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The acquisition process involves seven key steps:
Identify and approach the candidate
Sign the nondisclosure statement
Sign the letter of intent (LOI)
Buyer’s due diligence investigation
Draft the purchase agreement
Close the final deal
Begin the transition
Methods for Determining the Value of
a Business
• Business valuation is partly an art and partly a
science. Establishing a price for a privately held
business may be difficult due to the nature of the
business itself. Goodwill may be a key
consideration
Methods for Determining the Value of
a Business
• There are a few rules for establishing the value of a
business:
• There is no single best method to determine a business's
worth. The best way is to compute the value using
different methods and choose the one that justifiably
results in a realistic value.
• Both parties, buyer and seller, must be satisfied with the
deal.
• Both the buyer and seller should have access to business
records.
• Valuations should be based on facts, not fiction.
• Both parties should deal with one another honestly and
in good faith.
Methods for Determining the Value of
a Business
• Business valuation techniques include:
• The basic balance sheet methods offer two
techniques:
• The balance sheet technique
• Adjusted balance sheet technique
• Earnings approach with three variations:
• Variation 1: Excess earnings method
• Variation 2: Capitalized earnings approach
• Variation 3: Discounted future earnings
approach
Understanding the Seller's Side
• A recent study found that 64 percent of closely held
companies expect to sell their businesses within three years.
• Structuring the deal is one of the most important
decisions a seller can make. Tax implications can be
significant; therefore, a skilled tax planner can help.
• Exit strategy options include:
• Straight business sale
• Sale of controlling interest or a variation called an earn-out
• Form a family limited partnership
• Sell a controlling interest
• Earn-out
• Restructure the company
• Sell to an international buyer
• Establish an employee stock ownership plan (ESOP)
Negotiating the Deal
• Factors affecting the negotiation process involve:
• How strong is the seller's desire to sell?
• Is seller willing to finance part of purchase
price?
• Must the seller close the deal quickly?
• What deal structure fits your needs?
• What are tax consequences for both parties?
• Is seller willing to stay on as a consultant?
• What general economic conditions exist in the
industry?
Negotiating the Deal
• Buyers have specific criteria they look for. They want to
get the business at the most attractive price possible
with favorable payment terms that minimize the
amount of cash they pay up front.
• Seller are seeking the highest price possible with the
most desirable terms to maximize the cash they receive
and minimize their tax burden.
• The Five Ps of Negotiating include:
• Preparation
• Poise
• Persuasiveness
• Persistence
• Patience
Conclusion
• There are distinct advantages and disadvantages
of buying an existing business. Following the
appropriate steps will improve the chances of
success. The valuation of the business is a
critical step to negotiate an arrangement that
works for both parties.