The British economy, experts say, is all set to face a long and
painful recession. According to many, the dip could last for a period of two
years or more. The bright, prosperous summer of 2007 has given way to the grim
and somber cash crunch of 2009 and the economy is expected to shrink by 3.7%
even as interest rates are being slashed to as low as 1%.
Conventional wisdom says that this is not the best time to own
or run a business. Conventional wisdom also says that a market where the risks
are considerably high and profit margins low is not suitable for would-be
entrepreneurs to buy a business. That is why many prospective buyers are happy
to wait in the sidelines till the situation improves and the economy is back on
track.
In spite of this, surveys show that there is a radical change in
the way people are earning money. Against all odds and contrary to conventional
expectations, a healthy number of people are buying businesses to become
entrepreneurs.
A number of factors explain this phenomenon.
For one thing, people are fed up of working for others.
Embittered by rising joblessness and increasing pay cuts, they want more control
over their future. The most effective way to ensure this is to become an
entrepreneur.
Historically, recessions have always provided the momentum for
the birth of new companies. Microsoft and Apple were born in the midst of the
deep recession of the 70’s. When times are tight, it makes sense to come up with
less expensive ways of doing old things, and innovative ways of doing new
things.
This time around too, there is plenty of evidence that small
businesses with less overhead, low operating costs and slim to nonexistent
bureaucracy are thriving. Look around you. It’s happening everywhere. Web geeks
have replaced giant IT companies in fielding inquiries from corporate clients
and laid off bankers are opening boutique investment banks. Small shop owners
like these are ushering in what is being called the ‘Little Guy Economy’.
Would be entrepreneurs are discovering that
the current market is a window of opportunity to limitless opportunities.
In short, 2009 IS the year to buy businesses that are distressed
or insolvent. Here’s why.
Attractive business:
First, any business that survives this downturn has to be a good
business. And, as things get better, future prospects will improve
correspondingly.
Also, the fact that many talented people are jobless can be
leveraged in your favor. This huge talent pool is available to you at a cost you
could never dream of before. So, if you know how to focus on growth and use
available skills effectively, your path to success is assured.
Cost factor:
Entrepreneurs know that there is one evergreen secret to
success: buy low, sell high. The current market is offering you an opportunity
to do just that. The rates on offer are the lowest rates ever in the last 40
years or more.
Many people who are selling their business have a reason to sell
and they’re not looking for profits. Cocky business owners who walked away from
lucrative offers in the past are open to easier and more favorable terms today
because values have dropped and number of buyers has dwindled. For a company
that cannot wait till the economy turns around, the right buyer is a white
knight.
That means there are business deals out there, waiting for the
right person to come along. If you wait until the economy recovers and credit
eases, you will get lost in the giant influx of entrepreneurs who were waiting,
just like you.
Seller financing:
Because many companies are experiencing an urgency to sell,
business owners are willing to help the buyer financially by providing seller
financing. They know that banks are unwilling to finance. Private lenders too
don’t have enough funds. Sellers know that without some kind of help, buyers
cannot buy. So, they are willing to finance the deal. In fact, many sellers are
offering financing even before they meet the buyer.
So, you have a good chance of buying a business even with little
or no help from the bank. Seller financing gives you better lending rates and
more friendly terms like a more affordable down payment, more affordable monthly
payments and so on.
So, the big question is: why wait till the economy turns around
and you find yourself removed from all these benefits?
The time to buy a business is NOW.
However, the process of buying a business is not easy or
straightforward. This book has all the information to show you exactly how you
can go about buying your own business in UK. It is a complete guide that starts
with how you can spot the right business, takes you through the process of
completing the deal and ends with some tips on running the business
successfully. At the very end of the book, you will also find a list of valuable
references and resources that will give you the latest information and updates
on various aspects discussed in this book.
The first step in buying a business is knowing what business to
buy. This is where it all starts. Certain considerations can help you spot the
right business. These are discussed in the first chapter.
If you want to become an entrepreneur, the easiest thing to do
is to buy a business. Buying a business has several advantages:
Ø
Startup is cheap. If the business has a good reputation, finance
is easy too.
Ø
Immediate cash flow is available because of existing inventory and
ongoing receivables.
Ø
Established businesses have worked around troubling issues that
beset a new business. So, risk exposure is limited.
Ø
Established businesses have already carved a niche for themselves
and know how to meet the demands of their customers.
Ø
Businesses with a proven track record have established customers
and reliable incomes.
Ø
Existing businesses possess a talented and experienced workforce
that has been trained to meet challenges.
Interestingly, even with all the above advantages, the number of
people who actually buy an established business is relatively low. According to
statistics, only 20% of all potential business buyers ultimately buy the
business they want – and succeed.
The #1 reason for failure is the fact that buyers are simply
unable to complete the buying process satisfactorily. Common reasons for this
happening are:
-
They buy the wrong business
-
They fail to understand the business structure they are buying
-
They are unable to assess their finances
-
They expect good deals to come to them
-
They work on deals that can’t be made
-
They pay too much
Let us look at some of the above factors in detail.
The first step in buying a business starts with you. Why do you
want to buy a business? Do you want money, the freedom to be your own boss or
the satisfaction of doing what you love? Do you want to become an entrepreneur
because you want more control over your future?
What exactly is your motivation?
Your skills, lifestyle and aspirations should lead you to the
right business. Important considerations are:
Ø
What particular skills do you have?
Ø
How much money can you invest in your venture?
Ø
What kind of business are you interested in? A pub, a restaurant,
a salon, a bar or a home business?
Ø
What is the locale of your business? The city, the suburbs or the
countryside?
Ø
What profit do you expect?
Ø
What will your role be? Will you run the business or hire someone
else to run it for you?
Ø
Can you make the sacrifices that your business demands?
Ø
Does the business suite your temperament, personality and comfort
level?
Ø
Do the principles and objectives of the business coincide with
your own moral value system?
Ø
How much support can you expect from family and friends?
The above questions will narrow down the choices that are open
to you.
Are you caught up in dreams of holidaying in the Caribbean or
owning your own luxurious condominium in the heart of town? Don’t be. There’s a
lot of hard work before you can get anywhere close to realizing such dreams.
Running a business is not a piece of cake. Every business owner
has to be prepared to deal with challenges round the clock. On any given day,
you will be dealing with a range of personalities, fulfilling many
responsibilities, handling employees, scheduling work, monitoring deliverables,
maintaining inventory … and the list goes on. Develop a realistic awareness of
the hardships involved.
Have a clear idea of what you can give the business and what the
business can give you in return. The aim is not just to run the business
successfully, but to enjoy running it for years to come.
Before you buy a business in the UK, it is important to think
carefully about the structure that suits your particular situation. By choosing
the wrong structure, you face the risk of losing money and failing at the
business.
Sole trader: If you want to buy a business where you are
banking on your skills (like car repair, carpentry, plumbing or freelancing),
the sole trader status suits you the most. Remember, even if you are a sole
trader, you can still employ others to work with you.
Pros:
Ø
More personal control over the business
Ø
Owner gets the income
Ø
Owner can deduct tax loss from personal income
Cons:
Ø
The owner is liable for debts, and their personal property is
vulnerable to business failures
Ø
You may find it difficult to exit the business at a later point of
time because you need someone equally skilled to take over from you
Partnership: The business relies on the contribution of
more than one person. In a partnership, everyone might own equal shares or one
person may have a larger proportion. Your liability corresponds to your share in
the partnership. Types of partnership are:
General Partnership
Limited Partnership (very rare)
Limited Liability Partnership (LLP): More administrative duties
but limited liabilities.
Limited Company: Here, the business is registered with
the Companies House in the UK. It has a legal identity that is distinct from the
individual shareholders. So, liability is limited. The company may be owned and
operated by a single shareholder, if needed. The disadvantage comes when you
want to exit the business.
The business structure of the business you are buying has a
strong impact on everything you do. For instance, a limited liability structure
exposes you to the least amount of risk, but it might prove to be a stumbling
block when dealing with banks or other organisations where you need personal
guarantees from the director or shareholders.
So, consider this carefully before you buy. Consult a lawyer to
determine the implicit details of the business structure you are buying.
Franchised businesses are very much a part of any growing
economy, and UK is no different. Roughly, there are about 759 franchisors
working in the UK. The most common form of franchising you see in most parts of
the world, including the UK, is the ‘Business Format Franchising’. Here, the
franchisor grows by granting a license and an established business model to
their franchisees.
Franchising a business has several advantages.
-
You can reap the success of a tried and tested idea
-
Depend on national advertising campaigns
-
Take advantage of comprehensive training programs offered by franchisor
-
Take advantage of financing options provided by franchisor
-
Take advantage of an established and recognized brand
That said, some important points you need to consider before you
buy a franchise:
Ø
Research: Obtain information about the franchisor. The
British Franchise Association is a
good place to start your search. This body is the result of a joint
collaboration by the major franchising companies in the UK.
Ø
Assess: In the beginning, the food industry alone enjoyed
franchise opportunities. Today, more than 20 different business sectors
(including hairdressing, print design and insurance) employ the franchise model.
Understand the characteristics, market value and pitfalls of your franchise.
Ø
Find: You can find members who are offering new franchises
here. Or, go through national
newspapers and publications like Dalton’s Weekly, Business Franchise Magazine,
Franchise World and Franchise Magazine to find listings of franchises on sale.
Pick a franchise that you can work for 5 years happily, which is half the
contract time of the agreement.
Ø
Be sure: The Franchise agreement is a vital document. It covers
important terms regarding your contract like the term of your franchise
agreement, the territory, the support, restrictions and exit policies. Read this
carefully and discuss the same with a solicitor.
Another important consideration that many business buyers
overlook is the exit strategy. Before you buy a business, assess the market for
the business. Your ultimate aim is to groom your business for a profit-making
sale.
While it is not possible to be certain about who will buy your
business, you need to know whether there is a market for your business at all.
Prospective buyers will not want to buy a business that:
- Requires specialized knowledge (which only you may have), or
- Offers limited profits.
So, choose a business that has the potential to grow in the
years to come. Growth potential is important because the profit you get from
selling your business depends on how expandable your business is.
Remember what Warren Buffet said: you’re better off buying a
great company at a fair price rather than a fair company at a great price! When
you are ready to close shop, yours must be that great company. So, your exit
strategy must be a part of your business start-up plan. That way you can exit at
a time of your choosing and make maximum business profits from selling your
business.
Once you are done with the above considerations, you will notice
that you have essentially brought down the number of choices on your list of
businesses to buy.
Now that you know how to choose the right business, you are
ready to buy one. But, where can you find the right business for sale? That’s
where market research comes into play.
Local and national newspapers:
They carry ads featuring businesses and business premises on sale. But do not
depend on newspapers alone. Many good businesses on sale do not like to
advertise because they are concerned that such news could hurt their business.
Advertisements: You could put in your own ads stating the
kind of business you are looking for. Press directories at your local library
will have contact details of most newspapers, journals and magazines. By
advertising your intention to buy, you may be able to find better business
opportunities before these open to the general market, and thereby a better
price.
Trade Journals: Depending on the sector you are
interested in, you could look for listings in trade journals like the Retail
Newsagent, the British Baker, The Publican and The Grocer. Use
The Trade Association Website to
find your trade association.
Online magazines: Some magazines you could check out for
information on businesses on sale are Exchange, Dalton’s Business, Mart and
Loot. (Most magazines own their own websites now)
Industry newsletters: Newsletters released by several
industries or their websites also have specific information on businesses on
sale. Local brokers maintain newsletters that they publish from time to time.
Also, regional and national publishers combine listings across specific markets
and come out with newsletters targeted at specific areas.
The Internet: A great place to start your search for a
business on sale. Several websites like
daltonsbusiness.com,
businessforsale.com contain search
listings on businesses for sale. Most websites have separate categories for
different kinds of businesses making it easy for you to find the specific niche
you desire.
Business brokers, corporate financiers and business transfer
agents: They have the inside scoop on businesses for sale. You may search
for business brokers on the internet. They can assist you in finding the right
business and put you in touch with possible sources of finance. However,
exercise caution when you look for a business broker. Make sure that they have
the necessary qualification and experience. Look for agents affiliated with
reputed associations. The
International Business Brokers Association
is an example.
Word of mouth: Prepare a CV containing information about
yourself, what you are looking for, your skills and your financial capacity.
Circulate this to agents and friends. Drop a word among business associates and
trade contacts. Visit business exhibitions and conferences.
If you still cannot find any information about the business you
want to buy from any of these sources, do not hesitate to approach the business
owner. But first, do some due diligence. Also, make sure that you approach the
business owner through a transfer agent because an unsolicited approach may
catch the vendor unawares. If the business is not obviously for sale, a business
broker may be able to help.
In closing:
By now, you know how to pick the right business and where to go
to find such a business. The next step in the buying process is full of high
drama and hard decisions. Putting the right value on the business is the first
stage of the actual business transaction between you, the business owner and the
business broker (if there is one). The entire negotiation and the deal itself
depend on your ability to value your business accurately.
The next chapter in this book will prepare you for this
seemingly arduous task.
One of the biggest hurdles that potential entrepreneurs face
when they decide to buy a business is the cost factor. Even though an
established business enjoys several benefits, it generally comes with a heavy
price tag.
When you buy a business, you are paying for several things
including inventory, business space, machines and gadgets that come with the
business. Besides that, there is one expensive component that you cannot really
put a price on - the price of the goodwill of the business.
Different buyers pay differently when it comes to goodwill
payment. If you are new to the business and desire to go into an established
business with a solid sales history, goodwill payment is worth it. But if you
have the necessary skill in your chosen field, payment of goodwill may seem like
a waste of money.
The right split between the asset and goodwill price makes the
right cost price. This split is crucial, both at the time of buying the business
as well as when it is time for you to sell the business. If the split between
the two leans too much in favor of the seller, you could end up paying huge
amounts as taxes when you are ready to exit.
Striking a fair price for your purchase is possible if you have
an understanding on how to value the business you will be buying.
In the sale process, buyers and sellers are natural adversaries.
Buyers want to pay as little as possible and sellers bargain hard for the
highest possible price. Unfortunately, the business broker also works hard to
push the price up, because they get a percentage of the total sale price. A
prospective buyer must understand the dynamics of this equation and consider a
number of factors before they can put a realistic value on the business they
want to buy.
Important considerations for valuing a business:
-
The history of the business
-
The current performance of the business
-
The reasons for selling
-
Outstanding liabilities
Some general considerations
Type of business: Businesses that are considered safe are
valued higher. A franchise business is an example because it has the security of
an established success formula, the franchisor’s support, training and ready
clientele. Such businesses generally find easy finance. This factor can drive
the competition up, which ultimately leads to high prices.
Asset base: A business with a higher asset base is valued
higher than the business with a low asset base. So, a service based industry
with a very low asset base costs less than an engineering concern with a huge
asset base even though both generate the same profits.
Number of work hours: A business that needs less number
of man hours costs more than a business that requires long trading hours and
more number of working days.
Cost of premises: “If there’s no lease, there’s no
business” – that’s what business owners say. If the lease on your business is
running out the next month, you will pay less. Of course, some businesses do not
depend on a physical address much, a garden cleaning service, for instance. Even
if these businesses have leased premises, there is no disruption when the lease
lapses. But, in cases where the physical address matters (most businesses are
like that), a reasonable lease on the premises increases the value of the
business. High rentals generally bring down the value of a business
significantly.
Liquidation value: This value reflects the current market
price of all of the assets of the business and is the amount that the business
would fetch if it were to be liquidated tomorrow. Owners refer to this price as
the floor price of the business. No seller would ever sell a business for its
floor price unless they are desperate to sell for some reason. In which case,
you need to feel suspicious.
Return on Investment: If the business makes healthy gross
margins and good levels of profits, the risk associated with the business is
considerably low. This increases the value of the business. Subtract running
costs (inclusive if salary and other finances) to calculate the profit of the
business. A business that recoups investment fast is pricier than a business
that takes time to get profits.
Intangible assets: These assets do not appear in the
balance sheet but are of great value to the business. Examples include efficient
management, reputed brand name, important licenses, patents and intellectual
property.
Goodwill is an important intangible asset. It is the net total
of the reputation and recognition of the company. Client loyalty along with a
wide customer base is important for the growth of any company. Goodwill plays an
important role in the structuring of your deal and in finalizing the value of
the business. When sellers price their business over and above the asset value
of the business, you know that they have taken goodwill into account.
Security: High security means low risk. The lower the
risk factor, the more likely that the business will run successfully and bring
in good profits. Businesses with well managed working capital, quality customer
base, proven business track record and a strong balance sheet are generally more
expensive.
Outstanding debts: Bad debt has dire implications on the
cash flow and working capital of the company. So, if, for instance, a good
percentage of a company’s turnover involves credit sales, the buyer will have to
take a close look at a potential bad debt situation and price the business
accordingly.
Finance: When a seller agrees to finance the business,
they are selling and allows for easy terms like low down-payment or an option to
pay in installments from the profit generated by the business, the number of
people willing to buy the business goes up. The price of the business also goes
up correspondingly.
External physical factors: If external factors affect
profits of the business adversely, then the cost of the business comes down. For
example, the opening of a huge shopping mall in the immediate vicinity of a
takeaway restaurant, a new diversion in roads or change in technology may stem
the flow of customers to the business.
Some myths to avoid while valuing a business:
Valuation theory: Before you buy a flat, it might be the norm to
inquire about the general prices of flats in the same building. Such a
comparison gives you a clear idea of whether you are paying too much for the
flat. But the same does not work when you buy a business. Just because business
A was sold in a neighboring locality for X amount, business B need not fetch the
same price. Each business has certain unique characteristics. That is why there
can be no uniformity in price when two businesses are put in the market. Sale
price varies with rent, volume of business and other factors. Besides, it is
almost impossible to get the dollar value of a business sale because the figure
is not made public.
Turnover multipliers: Turnover multipliers cannot give you the
right cost of your business. Two businesses with similar turnovers need not show
the same profits. Other factors like working expenses and quality of personnel
have an important bearing on the company’s expenses.
Asset price: The sum total of the fixed assets of a business
does not equal its value. For example, the price of a machine shop is not the
sum total of the price of its drills, lathes and milling machines. If a business
does not make enough profits, buyers will not pay anything for tangible assets.
Book value: The book value is not a reflection of the true worth
of the business. The fact that many companies offer a discount on the book value
is itself an evidence that the book value is nothing but hot air.
At the end of the day, the price of a business is based on two
factors:
Ø
Its present value, and
Ø
Its growth potential (future earnings) calculated on current
earnings.
The income-based method of calculation:
An income based calculation is more meaningful for the buyer
than any other approach.
The asset based approach accounts for all the assets of the
company. But, it does not take into account the ability (or lack) of the assets
to make money for the owner. So, the aging printing machine that lies unused in
a corner may be listed as an asset in the balance sheet. But, when compared to
the useful pieces of machinery, this item does not make money for the business.
Why pay money for this item? In an income based valuation system, you calculate
the cost of those assets that contribute to the cash flow of the business.
For example, suppose you had an engineering company that has
several hundred thousands in hard assets but makes less than £5,000 every month
as owner earnings on the one hand and a small gardening service with very little
by way of assets but generating a healthy cash flow of £10,000 per month, which
would you rather buy? A healthy cash flow increases the cost of the business.
Calculating a fair price for the business:
2-4 times cash flow (before tax, interest and depreciation) is a
fair price. Many businesses are priced this way.
One of the best ways to arrive at the right numbers is research.
If you are buying a business in an industry, talk with people who have conducted
business in that industry. Business brokers who have sold similar businesses are
a great source.
Due diligence is just a fancy word for background check. A
background check arms the buyer with all the information they need to move on
with the transaction. In most cases, the primary background check is conducted
swiftly because of concerns regarding confidentiality and possible disruption of
business. An in-depth due diligence may be carried out only after a formal
agreement has been signed. But, a basic degree of analysis and exploration
regarding the business begins the moment a buyer has identified a business they
would like to buy.
Traditionally, there are three types of due diligence you should
do:
1.
Legal due diligence
2.
Financial due diligence
3.
Commercial due diligence
Legal due diligence is a part of sales and purchase contract
where lawyers check if the business can be sold legally and whether all
regulations are followed satisfactorily.
Financial due diligence: Checking the balance sheet for hidden
financial problems. You can find in-depth financial information about the
company you’re going to buy from the
Companies House. Their WebCheck
facility allows gives you access to the files of limited companies in the UK.
Simply register at the site with your email address and password. Additionally,
you can monitor a company for a year by paying 50 pence or order reports and
documents for £1 each.
Commercial due diligence: Checking out competitors and assessing
the value of the business in the marketplace.
Sources of information: If you are a serious buyer, you
are allowed to use all available documents. Important records you have to look
up:
Financial statements and tax returns:
Ø
Audited financial statements of three years together with the
Audit reports
Ø
Recent unaudited statements
Ø
The company’s credit report
Ø
A list of inventory
Ø
A schedule of contingent liabilities
Ø
A schedule of accounts receivable and payable
Ø
A description of any changes in accounting methods in recent years
Ø
A report on expenses (fixed and variable)
Ø
The general ledger of the company
Ø
A report on gross margins of the company
Assets:
Ø
Physical assets
Ø
Leased assets
Ø
Real estate
Ø
Intellectual property
Ø
Licenses
Ø
Permits
Ø
Lease settlements
Ø
Operating manuals
Employee information:
Ø
A detailed listing of all employees and employee problems
Ø
A description of employee benefits, insurance policies and
self-funded arrangements
Ø
Compensation claim histories
Ø
Description of retirement plans
Environmental issues:
Ø
List of hazardous substances used, if any
Ø
Disposal methods followed by the company
Ø
Environmental permits and licenses
Ø
A description of environmental litigation and investigation
Ø
Other environmental obligations
Taxes:
Ø
State, local and foreign tax returns
Ø
Any reports by the audit and revenue agencies
Ø
Tax settlement documents
Ø
Tax liens
Litigation:
Ø
A list of pending litigation
Ø
Any threatened litigation
Ø
Documents pertaining to settlements, injunctions or decrees
Ø
Unsatisfied judgments
Generally, due diligence starts after the buyer and seller have
agreed on a price. But, you may carry out an informal due diligence to arrive at
the right value and the right price of the business. You may avoid undue delays
by asking the owner for the documents when you meet.
Use the help of a professional while checking physical assets.
When checking pieces of equipment, see whether all fixtures, machinery and
fittings needed to run the business are included in the transfer. After that,
run a check on the recent service records.
It is easy to get caught up with documents, records and
machinery when you perform due diligence. Keep in mind that one of the most
important sources of valuable information is the seller himself.
Don’t rush the sale. The seller might hint that there are others
waiting to buy the business, or that they are having second thoughts etc. As the
buyer, ask as many questions as you want and find all the answers that make you
feel comfortable. The answers hold clues about the current state of the
business.
Some questions you might want to ask:
Ø
Why is the business for sale?
Ø
What is the level of success of the business?
Ø
Who else knows of the sale? (Confidentiality is a key element when
you are transferring a business because suppliers, clients and customers tend to
fret when there is a change. So disruption should be kept to a minimum)
Ø
Who are the key customers of the business and how dependent is the
business on these key customers?
Ø
What is the projected stock value?
Ø
What is the expected value of assets (after current levels of
depreciation)?
Ø
Who are the key suppliers of the business? Will they continue to
support you after the business changes hands?
Ø
What are the fixed costs of the business?
Ø
Any particular employee issues?
Ø
What external changes have taken place in the recent times to
affect the business? (Drop in demand, market shifts, increased maintenance
costs, key personnel leaving, expiry of patent, expiry of sales agreement)
Ø
What kind of ownership transition does the buyer foresee?
Ø
What factors have led to the success of the business in the past?
Ø
Who are the competitors of the business?
Ø
What can be done to increase profits?
Ø
What will the seller do after selling the business?
Ø
What is the time schedule for completing the sale of the business?
Don’t depend on the answers alone; verify that the buyer is not
hiding anything. Research the local area and speak to local businesses.
Site visit: A site visit is your first true meeting with
your prospective business. Here’s your chance to assess the true nature of the
business, talk to employees and see work being carried out. When you visit the
site, you can ask the owner key questions regarding the functioning of the
business. By spending time at the site, you get an opportunity to watch the
ongoing operations, evaluate services and talk to employees and customers.
As you can see, due diligence is the time to explore the inner
workings of the business you’re about to buy. This is the time to check out
details like business earnings and lease. At the end of this process, the buyer
will have a crystal clear understanding of the business they are getting into,
what changes they need to make, how much money is involved and if this is the
right business for them.
Due diligence is the slowest and the most unexciting part of
buying a business. This phase can lead to delays and delays, as many people
know, ruin deals. A whole lot of time is required to collect all the materials
needed for review. The possibility of disagreements may slow down the process
further. Too many delays can put an end to the transaction altogether.
How much time do you have for sue diligence? No fixed period but
most small businesses take about three to five weeks for their investigation. As
the buyer, read all documents yourself and make a list of queries and get these
answered when meeting with professionals.
Diligent research is important, but it is also important to know
when to stop research and start taking concrete action. Aggressive entrepreneurs
are the ones who abandon research and decide to go ahead with the deal after a
point of time. When you come across a business that is worth buying, there is
only a small window of opportunity open to you. Spending too much time on
ferreting out information will leave you with a good amount of information - but
no business to buy.
The role of professionals in the buying process:
The process of buying a business involves precise legal
documentation and a detailed study of the company’s accounts. The buyer’s
accountant will present a rosy picture. It is up to you to unearth vital facts.
Therefore, it is recommended that you seek the services of a solicitor and
accountant before completing the business transfer. You’re about to select a
critical and costly resource. Do not be put off by the cost of these services
because pinching pennies now could have dire consequences later on.
Before you select the right person, get recommendations from
trusted banks, business friends and advisors. Hold an interview and see that the
professional has the necessary expertise and experience. Remember that you are
in the last legs of finalizing the deal and there will be no going back after
you sign on the dotted line.
Much of the drama of buying a business happens at the
negotiating table. Here, the adversaries lock horns to arrive at the cost price
of the business. The buyer wants as much money as he can get while the seller
wants to pay the bare minimum. How much money changes hands ultimately depends
on the negotiation skills of both the parties.
Good negotiation is the key to future success. So, have an open
mind. Remember that your strategy evolves as you negotiate. So, do not go in
with a ‘take it or leave it’ attitude.
NOTE: The ongoing financial crisis has changed the terms of the
deal significantly. For one thing, bank financing is not that easy to get. That
being the case, seller-financed deals are becoming the norm. If you’re at the
buying end of the deal, this is good news for you.
Secondly, the financial downturn has also influenced the
structure of many deals. Revenue and profits are on the decline. Though the
seller will do his best to convince you that the negative trend is a temporary
phenomenon (that’s what they all say anyways), as the buyer, you really cannot
know if the decline will get steeper. Take the events of the most recent past
as a guide to help you estimate what the immediate future will bring. This is
important because most sellers base their price on past information when the
business was doing well. To their mind, the purchase price mirrors past levels.
But if the business is on a decline, the buyer cannot and must not pay the
asking price. Remember, ultimately, the right price of the business is the
amount you’re willing to pay for it.
Each negotiation is unique. Preparation is the basis of your
negotiation. On an average, a purchase agreement has more than 30-50 individual
clauses. Think about all the points that need to be negotiated. Also, plan in
advance regarding what the buyer might put on the table and how you should
counter it. Table your offer after you have thought everything through.
One effective strategy is to structure your deal based on
‘earn-outs’. These are future events that should, in all probability, happen.
When these events take place, the buyer gets his due percentage. For instance,
suppose you approximate the cost of the business at £50,000. But 40% of the
profits are tied to a single customer. Your offer will be to pay £30,000
upfront. The rest will be paid if the customer’s volume remains stable in the
coming year. Similarly, suppose sales have declined by 25%, structure the deal
so that you have to pay a part of the selling price upon sales returning to
prior levels.
Keep in mind that you are tabling YOUR offer, so the terms you
offer must be within your comfort level. You do not have to match your offer
with the asking price. Instead, use the asking price as a guideline. At the same
time, do not come out with a ridiculous offer. Use your initial offer as a tool
to encourage the seller to reveal what he has in mind.
So, how should you go about negotiating the deal?
First, never agree to the first price that is quoted. Open your
negotiations with the lowest price. Of course, you must be able to back up the
lowest price with credible reasoning. Otherwise the seller will feel that you
are not serious.
You will refine your offer as you go along.
If you are an excellent negotiator, you must make an effort to
get concessions. So, whenever you agree to certain terms, get something in
return.
Do not make concessions to earn goodwill from the seller. If you
do, they will try to stick with the highest price possible
During negotiations, you can bring the buyer down by asking them
a couple of ‘What if’ questions. Example: ‘What if the government policy
changes?’
Keep your reactions low key. Do not allow the seller to see how
the negotiations are affecting you.
Do not be offensive or critical.
Do not make threats. Do not be moved by threats the other party
makes.
Case 1:
A seller wants £15,540. His price is
based on the auditor’s estimated value.
The buyer paid the entire amount upfront after carrying out a
limited due diligence. But, the business started showing signs of trouble in 3
months. The seller could not be traced and the business went bust in 8 months.
[The auditor’s value is only a guideline, not the actual
price. Never accept this figure upfront. Carry out a full fledged due diligence
and negotiate the value. It is always a good idea to pay the price in
installments and to retain the interest of the seller even after the handover.
In some cases, interest may have to be paid on the installments, but only if the
seller asks for it.]
Case2:
The seller fixed the price at £12,000 after the auditor advised
a selling price of £11,000.
The buyer started negotiating at £9,500 and the deal was
eventually made at £11,590. The terms of the deal needed the payment to be made
in 2 installments. Interest would be paid on the second installment and the
seller was to remain for a period of three months, during which time he would be
paid a salary.
[The seller got more than the auditor’s value because he
started high and ultimately he was the better negotiator. However, paying the
money in installments and retaining the services of the seller made transition
much easier.]
Points to remember while fixing a price:
Ø
The better negotiator always wins.
Ø
The seller’s need is to exit with no risk; it’s up to the buyer to
ensure that the business survives even afterwards.
Ø
Find the skeleton in the cupboard. Every business has one.
Ø
If you pay too much for the business, chances of its survival are
remote.
Ø
Walk away if you are not happy with the terms of the sale.
When you buy a business, you must consider possible tax issues.
Some steps can help you, the buyer, slash taxes. Knowing what to do beforehand
helps you negotiate the best deal.
The purchase price of the business must be mentioned in the sale
and purchase agreement so as to fetch the buyer the maximum tax benefit.
Some ways to do this:
-
Negotiate to put down the highest value on assets. This helps you claim
maximum depreciation and the highest tax deduction. The buyer might bargain to
keep this value at its lowest so that he does not have to pay taxes for
depreciation recovered.
-
Goodwill must be valued at the lowest possible amount because it
increases assets allocation.
-
Put down the highest possible value for stock since you are taxed on the
stock profit.
-
Negotiate to put down the premium for lease, as this amount is tax
deductible.
-
If the seller is staying on and you are paying them a salary, lower the
price of the sale. Increase the wages instead because this amount is tax
deductible. Keep in mind the seller may not be happy with this. Use your
negotiation skills.
-
If/when you pay off the outstanding balance on the purchase price,
increase the interest rate and reduce the price.
In the UK, regardless of the business structure, tax issues are
quite similar. You need to keep an eye out for tax hurdles because businesses do
hide some tax land mines. So you need to worry about undisclosed debts and
unpaid taxes. Overvalued inventory, potential or pending lawsuits and sour
employee relations are matters that could escalate into tax problems. If you are
not careful, you may have to face potential audits and pay bills even for a
period that was years before you took over. This is why a good lawyer on your
team helps immensely.
Phew! Now that you are over the tough part, closing the deal
must be a song, right? Sadly, no. This stage too is exposed to risks. Even
though both parties have agreed on the price, the deal is far from closed. To
successfully close the deal, you need to meet certain conditions within a
prescribed time limit. If this does not happen, the deal falls through – and all
your hard work goes down the drain. These conditions are called the ‘Conditions
of Sale’. They include:
-
Assessment and verification of financial statements
-
Transfer of lease, contracts and licenses
-
Obtaining and transfer of finance
Before you sign on the dotted line, conduct a tax lien search.
File tax returns and tax transfers quickly. Check whether the company assets are
free of tax burdens. For example, an entrepreneur who runs a limited company has
to pay corporation tax on profits. In case there is a need for the transfer of
bulk sales tax, your lawyer should determine the fee for this beforehand. See
whether VAT returns and insurance charges have been paid.
Transferring a lease can become problematic if either the seller
or the buyer brings the landlord into the deal and the landlord wishes to revise
terms. In any case, make sure that you are on top of the situation so that the
landlord cannot throw a monkey wrench in the works. The process becomes somewhat
easier if you are buying the property as the cost is factored into the selling
price.
Get a non-compete cooperation agreement. This agreement ensures
that the seller will not turn around and try to best you after making a pot of
money selling his existing business. This agreement prevents the seller from
being the owner, partner, investor, consultant or employee of any organization
that may pose as a competitor, within a certain area.
Purchase price allocation lays down how the assets from the
purchase are allocated. This helps both parties; the seller for tax purposes and
the buyer for allocating funds for depreciation, tax computation and
expenditure. Get a qualified accountant to take care of the details.
An important part of the process is financing the purchase. This
will be dealt with in the next section. However, in case the full amount for the
purchase is not paid, shares may be held in escrow. Keep your eyes open to all
these possibilities.
The bill of sale is the ultimate proof of the transfer of
ownership of the business. Once this is signed, you can take a moment to sit
back and relax. Congratulations! You are the new business owner.
Given below is a checklist of documents when you are finally
closing the deal:
Ø
Promissory note if the seller is financing part of the sale
Ø
Security agreement that lists the assets to be used as security
for the loan
Ø
Lease agreement
Ø
Finance statements
Ø
Security agreements
Ø
Vehicles
Ø
Transfer documents of any vehicles that are changing hands
Ø
Copyright, patents, licenses, trademarks
Ø
Franchise documents, if needed
Ø
Not-to-compete agreement
Ø
Settlement sheet
Ø
Employment or consultation agreement, if needed
If you have spotted a lucrative business, chances are there are
other buyers in the fray to close the deal, just like you. In most cases,
immediate availability of money is what differentiates the winning buyer from
the rest of the pack. So, if you want to clinch the sale, you must be able to
arrange money at short notice. Otherwise, you will quickly be relegated to the
sidelines.
Once you have decided that you are ready to move ahead with the
deal, assess your financial position. Most buyers need to borrow some money,
take some money from their savings and so on. A financial broker will help you
put together a finance plan. However, brokers do charge a fee but they make the
process easy and smooth.
Whatever your strategy for funding the purchase, making it work
in the nick of time is a major concern. The sick economy has only made it more
difficult to get money. Banks and lending agencies are scared stiff of toxic
loans and they go to unbelievable lengths to make sure that their money is in
safe hands. Fortunately, there are other sources that you may tap.
Traditional financing sources:
Ø
Personal funds
Ø
Banks
Ø
Government sources (Small Business Investment Company, City or
State Programs)
Ø
Asset based lenders
Ø
Private investors
Ø
Leasing companies
Ø
Insurance
Ø
Suppliers who extend credit
Ø
Barter (your services against a service/product that you require)
Ø
Contract Sales
Ø
Customer financing (advanced payments or membership financing)
Each type of lender lays down a unique set of requirements that
you have to fulfill in order to become eligible for investment. These
requirements are in place to assess a number of factors like the
creditworthiness of the business, its cash flow and the availability of assets
as security. The interest rates and payment schedules vary based on these
factors.
An intelligent consumer needs to shop around for the right
source of funds. Your source could be a single entity or a combination of
sources. The terms that you choose will also vary according to your financial
requirements. If you have enough cash, you may look for a financing option that
charges the lowest rate of interest. However, if you are strapped for cash and
require a good portion of the money on loan, then, you will have to accept
whatever terms are put forth by financiers.
Buying your own business is an extremely costly affair. It’s
going to leave you a lot poorer for some time to come. So, how you finance the
purchase will impact the success of your business. Financing options from
external sources generally attract very high payment terms and these directly
influence your ability to take risks. Paying high interest is a major cost to
the business. That is the reason why every potential buyer must start off by
exploring cheap sources of financing like personal funds and seller financing.
Personal funds:
Ø
Cash savings and liquid paper investments.
Ø
A private loan financed by a family member or a friend.
Ø
A bank loan on personal assets like a car or house.
Ø
Barter equity positions in your personal assets for business
assets
Ø
Negotiate a payment delay with the buyer if there are any
outstanding bills
Ø
Take advances from credit cards or negotiate a delay in current
payments so you can make this payment
Credit card financing:
While you may need to think twice before you opt for it, you
can’t deny that tapping into your credit card for down payment is a quick way of
getting things moving. If you have sufficient credit and a way of meeting your
payments, this is a great option.
Partnership:
Splitting the payment is a great way to spread the risk and come
up with enough money. You have a number of choices here:
Ø
Ask the buyer to become a minority partner in the deal
Ø
Sell the shares of the company to a new partner
Ø
Sell shares of the company to employees/suppliers/other business
buyers
Home equity loans:
This may not be a viable option in the current market because of
the crash in the housing market. A buyer can take a loan to make a down payment
or to buy the business. When rates are low, lenders are quite prepared and happy
to give out home equity loans. A great advantage of home equity is that the loan
is sanctioned pretty quickly, though you must take care to get the ball moving
as soon as possible.
Retirement plan financing:
If your retirement funds are sizeable, there is a wonderful way
to make use of this money to buy a business. Put the money in a trust that buys
the business from you. This way, you will not attract taxes.
Seller financing:
A seller financed business purchase is quite popular these days
because an intelligent seller realizes that the current economy leaves little
room for a buyer who is sincere but strapped for cash. What happens here is that
the seller finances a part of the deal, may be something like 50-60% of the
amount, which will have to be paid back in a span of years.
A seller financed purchase is the easiest way to secure funds.
The seller is attracted to the deal because he has the freedom to lay down terms
that ultimately bring him money. Add to this the benefits of tax incentives, and
the seller has every reason to agree.
If you are the buyer, a seller financed purchase has important advantages
besides the cost factor. You see, with additional stake in your newly owned
business, the seller will go the extra mile to make the business a success even
after he has handed it over to you. There’s one more thing: if the seller is
willing to finance the deal, it says a lot about his trust in the future
prospects of the business, doesn’t it?
As in everything else, driving a hard bargain is the best way to
get the most attractive terms in seller financing. Some of the questions that
the buyer should consider when negotiating financing with the seller are:
Ø
The total amount of cash the seller is demanding upfront
Ø
The seller’s need for cash
Ø
The seller’s willingness to have debt service payments depending
on future profits
Ø
Any personal guarantees demanded by the seller
Ø
The seller’s willingness to structure the financing in such a way
as to provide maximum tax benefits to the buyer
Ø
The seller’s tax obligations and the impact of these
considerations on the structure of the deal
If the seller asks for rates that are higher than the going
rates, do not agree without proper consideration. Repayments should be
affordable and interest rates must be reasonable. A business broker may be of
service in case you need to negotiate terms with the seller.
Debt financing:
If you cannot raise the money yourself or cannot get seller
financing, you may need to consider other options for financing your business
purchase.
Debt financing is a broad term that refers to borrowing money
from a source other than the company. There will be terms and conditions to be
met.
Advantages:
Ø
Cheaper than equity
Ø
Debts are less complicated and therefore easy to raise and is
available with a wide variety of choices
Ø
Debts have regular payment schedules and are easy to pay back
Disadvantages:
Ø
Cumbersome structure because paying continuously jeopardizes any
scope for future expansion
Ø
Restrictions may be put up by creditors which have a direct impact
on the running of the business.
Therefore, before you consider debt financing, ask yourself
these questions
-
Debt or equity?
-
What is the availability of assets like machinery, land etc that may be
placed as collateral for a loan
-
What are your options for obtaining debt financing (account receivables,
equipment borrowing etc)?
-
What, if any, are the existing financing resources that may be tapped?
-
Can you divide your cash flow between paying off debts and future
expansion plans?
-
Can existing suppliers and customers be possible sources of finance?
-
What agencies of finance can you consider?
There are a number of sources that you can turn to for debt
financing. Some of them include:
-
Unsecured lenders
-
Small Business lenders
-
Accounts receivable
-
Inventory lenders
-
Factoring lenders
-
Leasing companies
Unsecured loans
Banks and financing companies give you unsecured loans. They
base their finance on the amount of cash flow you can generate.
Unsecured loans are granted to businesses:
-
That can pay back the loan by generating a healthy cash flow
-
Have the desired debt service coverage ratio.
How to calculate the service coverage ratio:
Divide the cash flow generated by debt service payments. For
instance, if the business earns £10,000 as cash flow per year and their debt
payments equal £6,500; the debt coverage ratio would be 1.6 approximately.
Businesses that have a ratio of 1.25-2.5% are favored.
Banks generally assess your creditworthiness on a number of
factors like:
Ø
The amount of cash you can repay
Ø
The regularity of repayments
Ø
Available security
Ø
Net worth of the borrower
Ø
Creditworthiness of the borrowers
Ø
Financial background of the borrower/s
Ø
History of the company
Ø
Future plans of the company
Lenders run a credit check before they sanction loans. Each type
of lender will have a unique criterion for judging your creditworthiness. That
said, lenders love to lend money to people who can assure them timely
repayments.
Small Firms Loan Guarantee Scheme (SFLG):
These loans may be used for a number of funding requirements
including buying a business. Raising SFLG loans for new businesses is somewhat
challenging because the business owner has to convince the Government that they
can make a success of the business. However, established successful businesses
find it easier to get this loan because of their previous trading history. Of
course, a bad track record can damage your chances. That is why it is extremely
important to pay attention to the account books before you buy the business.
SFLG for small businesses does run into problems because the
scheme cannot be used to buy majority or minority shares of the business you
want to buy. But, since this is exactly what is done when you buy a business,
you might find it impossible to get the loan. So, what must be done is to look
upon SFLG as a part of your finances. Use this finding for purchase requirements
that do not involve shares. For example, suppose you need to come up with an
additional working capital of £20,000, use SFLG.
You may also use SFLG for an asset or goodwill purchase.
In general, you can improve your chances of getting the loan by
approaching the lender with the right information:
Ø
The name, address and nature of the business along with supporting
documents and Tax File numbers
Ø
Name and address of the principal shareholders along with
sufficient background information
Ø
The purpose of the loan
Ø
The loan amount required
Ø
The structure of the business
Ø
Financial information and statements including P&L statements,
balance sheets etc
Ø
A detailed business plan along with projected figures of funding
and repayment
Ø
Details of assets that you can place as security
All too often, we make the mistake of believing that lenders are
machines. Instead, it would do us a lot of good to know that they are humans who
are influenced by certain factors. A good history with a lender or with the bank
should make things infinitely easier.
How you present your loan proposal is important.
Ø
Polish your presentation skills.
Ø
Think of possible objections that the lender may have and find
attractive workarounds.
Ø
Describe your business. This will contain details like current
assets, the number of employees, age of the business and how the business
performs and competes in the marketplace.
Ø
The lender’s interest in your business is purely financial. They
want to know that the money they give you is safe and will come back to them.
So, make an outline of your future plans.
Ø
What additional security can you come up with? Any additional
security adds weight to your proposal and increases your chances of securing the
loan. But, keep this information confidential until such a time when you need to
negotiate. That way, you should be able to raise maximum money from the loan
without damaging your own interests.
Factoring lenders:
Some lenders buy account receivables from a company on a
periodic basis. How it works is that the company purchases directly from the
customers and the company’s customers male all payments directly to the lender.
A factor is generally more liberal in their terms when giving
loans. They have specific expertise in the collection of receivables and credit
review. Some companies even use the services of a factor regularly, instead of
having a credit department of their own.
There are two ways in which you can acquire loans from a factor.
A.
The loan is given against the total invoice a number of days after the
invoice date. A processing fee is deducted.
B.
The factor pays the business before the maturity date of the invoice.
This is the kind of loan that is most suited for buying business that does not
have sufficient cash for daily operations.
Equipment finance lenders:
Some lending companies purchase pieces of equipment and lease it
back to the business.
Equipment finance lenders pay particular attention to:
Ø