Buying a Business Requires Extensive Research and Due Diligence

Buying a Business Requires Extensive Research and Due Diligence and Lots of Questions

Q: Ilyce, I have a question. Promise me you won’t laugh at it!

There is a coffee shop in a popular summer tourist destination that I’d love to buy. It’s a seasonal business but generates enough revenue to make a living year round.

My question is, how do I buy this business and how do I protect myself? I want to buy the business but not handle the daily operations. I was thinking I could buy an interest in the business and the property and the current owner would continue to run the shop on a daily basis.

A: Wow! The coffee must really be something at this place. My first thought is, wouldn’t it just be cheaper to buy an annual pass entitling you to free daily coffee?

I think you need to slow down and answer some very important questions before you whip out your checkbook: How much revenue does this business really generate? What’s a “year round” living? Does the business own or rent the property? Would ownership of the property be included in the purchase price?

Typically, when you buy a business, you pay some sort of multiple of the net profits the business generates. For example, let’s say gross revenues from this coffee shop are $1 million per year. (I’m just guessing. This business may have revenues significantly lower than that.)

After you subtract the costs for your rent or mortgage/taxes/insurance, maintenance and upkeep, salaries and the cost of food/coffee/etc., let’s say you have $200,000 in net profits, or what the owner takes from the business.

Let’s assume you can get an accountant to look at the books and certify that these are the net proceeds from the last 5 years (so you’re looking at good and bad years.)

Based on the actual numbers, you can construct an offer that might make sense for the current owner. You might offer a multiple on the current net profits.

The best way to start these conversations is to invite the owner out for a drink (coffee or otherwise) to get to know each other and ask if he or she has ever thought about selling and what kind of a price did the owner have in mind? Perhaps the owner is elderly or tired of running a business.

Maybe the owner owns the property and would sell you the business but not the land. Or, perhaps the owner might want to sell you the land and just rent for a period of years. That would be a good way to cash out a portion of the business without letting it go.

If that’s the case, you’d want to structure a long-term lease that would guarantee the income for a period of time for the owner. I’d also want to pay out the fee over a number of years.

Buying a business can be rather complicated and while many people believe they can run a business and make it work, small businesses can be tough and you might not make as much money as you think you would.

For this reason alone, you need to have a good understanding of what the business can bring in and what your costs will be.

When it comes to restaurants and other food establishments, you have to see if the shop you’d like to buy has a long track record and what that track record is. The person that currently owns it might only get $50,000 out of the business and never takes time off, but loves it. Meanwhile, you might not see yourself becoming a slave to the business for that amount of money.

If you really want to pursue this, you’ll need a great attorney who can help you think it through, help you do the due diligence, protect you, and help with the paperwork.

Learn more about being a small business owner and ThinkGlink.com


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