Investing in a proven business model or an existing business that already has customers and cash flow can have advantages over starting a business from scratch. You gain proven systems and processes, an existing customer base someone else has already built, plus that most important of business elements known as cash flow.
However, that doesn’t mean buying a business requires any less effort or diligence than starting from scratch. You need to investigate the business and market thoroughly and be satisfied you are getting a fair deal.
Let’s assume you’ve already found a business you’re interested in, but you haven’t yet made any approaches. It’s key at this stage to establish your credibility as a serious buyer. The due diligence process can be a long one for buyer and seller alike, and the owner isn’t going to want to waste time with someone who doesn’t come across as a serious buyer.
At the same time, you have to find out as much as you can about the business without getting locked into making an offer.
If the business still looks attractive from the non-intrusive research you’ve done, it might be time to indicate that you’re interested in buying the business so you can gain full access to the operation. To get this kind of detailed information, you’ll probably have to sign a Heads of Agreement contract. This is a confidentiality statement where you agree not to divulge confidential business information to anyone.
However, in reality you still might not get the full picture at this stage because the owner will want to present the business in its best light. This might even stretch to inflating profit by lowering stock levels before they need to be re-stocked – so this is where due diligence really comes into its own.
Making an offer
Negotiating the offer
All businesses can essentially be broken down into two parts – physical assets (machinery, property, employees, intellectual property) and goodwill.
Goodwill is basically the health of the business. If it’s got a healthy customer base, a great reputation and a high turnover, then expect to pay more for this. If the business has been neglected and is on its last legs, then expect to pay mostly for the assets.
You can present your offer in a contract you’ve drawn up yourself or based on a common template, but it’s best if you have your lawyer draw up the contract for you. A contract needs to include:
Special conditions often include:
While due diligence officially starts when both parties sign a conditional offer, it does in fact have to start from day one. Without doing this, you’ll never be able discover a price to offer in the first place.
The key is to work with the information you’ve got, taking your research to deeper levels as you prove your credibility and the owner opens up more access to the business. And, of course, to recognise when you’re onto a dead loss and stop the process if you come across an issue that either threatens future viability or reveals a current lack of viability.
If you need more information on buying a business or have any queries about the Auckland business maker, contact Kevin Stevens.