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Buying a Business or Franchise

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How Should I Go About Buying A Business?

This should be a step-by-step sequential process. Here are the steps:

FIRST: You need to decide if you will be buying a business to provide yourself with a full-time job or if you are making the purchase as a part-time investment.

SECOND: You will need to thoroughly investigate the industry you are considering to conclude if this is really a business in which you can make a commitment.

THIRD: Attend industry meetings, talk to existing business owners, spend time at typical businesses and visit competitive locations to determine if your conclusions are shared by those who are already in the industry.

FOURTH: You need to decide whether you want to start a new business, buy a new business or buy an existing business.

AND FINALLY: Appraise your own experience, skills and background and decide if this business is a good fit for you.

  • Are the economics of the business sound?
  • Is there a reasonable predictability of future growth in earnings?
  • Is there a sound financial foundation?
  • Buying a business with these good characteristics but bad management can be an especially good opportunity.
  • Don't overlook service businesses and e-commerce businesses.
  • Review Session One: "How To Pick a Business"

Where do I find out about business opportunities for sale?

There are many sources for learning about business opportunities. The most popular are:

  • Business opportunity brokers
  • Classified newspaper ads
  • Companies that supply or set up new locations
  • Business opportunity trade shows
  • A franchiser for any particular type of business

How do I determine my financial ability to buy a business:

Most people will not pay cash for a business, so some sort of financing will be involved. The equity position that will be required (the amount of cash necessary to put down) will determine the type and size of business you will be able to buy.

Depending on the business you select, you will need sufficient operating capital in addition to the down payment.

The source of the equity funds should be cash or liquid assets and not borrowed money.

Who can I ask for help in evaluating a business?

Remember that this is your decision and only you can decide whether a business is for you. Don't let any expert decide whether or not you should buy a business. Instead, ask them for specific advice on the various components of the business. Here are two examples why your attorney will be an important expert:

  1. Have your lawyer review the lease.
  2. Your lawyer should advise you as to whether you should purchase the stock or the assets of the business. If there are unpaid (and possibly unknown) liabilities including amounts owed to government agencies, you may be advised to purchase the assets rather than the stock.

The following experts can be helpful:

  • Lawyer
  • Accountant
  • Banker
  • Business opportunity broker
  • Equipment suppliers or vendors
  • Other business owners

Once I have settled on a particular business, how do I determine how much the business is worth and how much should I offer to purchase it?

  • This is the "due diligence" process. A buyer must obtain and examine the seller's financial statement and records. If the business is listed with a broker, the broker should have this information. The information you need should include the following:
    • Profit and Loss records for the past 24-36 months
    • Current Balance Sheet
    • Cash deposit records
    • Utility bills
    • Supplier bills
  • In making your offer, use all the information you have collected to determine what your net income will be. This will give you a basis for making an offer based on a capitalization rate (the desired return) you will want. For example, if a business will show an annual net of N50,000 and you have determined you want a 25% return of your investment (without considering financing) you would offer N200,000 for the business:

What are some sources for business financing?

  • The seller of an existing business will often provide some of the financing and will be your best source of financing. Businesses are sold by motivated sellers. In many cases the seller will take some cash down and let you pay the rest out of earnings over a period of time.
  • The SBA (Small Business Administration) offers loan guarantee programs through commercial lenders. These will almost always need to be secured by additional assets.
  • Equipment suppliers often have financing programs available for the development of a new business.
  • Venture capital firms, commercial banks and relatives offer an additional source.
  • Review the sources in Session 8, "How to Finance Your Business".

Other factors to consider in determining value:

  • Unless you are also buying the property, the lease is probably the most important document you will evaluate. Review Session 6, "Location and Leasing". The following are the most relevant lease items:
    • The term or length of the base leases
    • Are there options to the base lease term?
    • Is the base rent affordable and competitive?
    • How often and how much is the adjustments to the base rent?
    • What are NNN (Triple Net) charges?
    • What are the assignment provisions?
    • If new, what will the Landlord contribute to the improvements?
  • What is the quality of the improvements and fixtures: will they need replacement?
  • What is the quality and size of the inventory: is it overstocked with obsolete items?
  • What is the condition and amount of the receivables: are they collectable?
  • If I am to buy the payables, how current are they and what is the accurate total?
  • Is there an order backlog?
  • How strong are customer relationships: the goodwill you will pay for?
  • Is the primary marketplace stable or changing?
  • Does the business have, or can it obtain, all necessary government approvals and licenses? Are there any exorbitant fees?
  • Is the seller motivated or anxious?

How to verify revenue and receivables information:

  • Ask for the seller's personal and business tax returns. In some businesses, you can determine the income by analyzing utility bills or supplier's records.
  • If you are skeptical about the information's accuracy, make your offer to purchase based on a trial period where both you and the owner collect the receipts. A week spent at the cash register will disclose a lot and is the best way to verify sales.
  • The receivables of a business (amounts still owed by customers) can be best verified by requiring written verification from people who owe the business money.
  • Interview the owners of similar businesses for financial comparisons.

How do I know if starting my own business, buying an existing business or buying a new business is best for me?

  • Is it affordable? A new business will often cost more than an existing business of the same type. An existing business may be the only way to enter the industry.
  • Location is an important factor. In some communities, certain types of business can no longer be built and an existing business will be the only way to enter the industry. Proximity to your home will also be a factor.
  • Some benefits to buying a new business:
    • Everything is new and works
    • Customers like to go to a new business
    • The area may be under-served
    • The value of the new business after you open may be greater than the cost of equipment
    • New and inventive ideas may be better executed
  • Benefits to purchasing an existing business:
    • The business has a track record of income and expenses
    • Operating costs are often lower than in a new business
    • The business will already have trained employees
    • There may be true goodwill already built in
    • The business may already dominate the market in the trade area

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What are the pros and cons (for and against list) of buying a franchise?

Testimonial
Mike Coyne
Midas Muffler Franchisee
"Franchising is a great way to get in business for yourself."
Transcription - html
  • Advantages:
    • Big Brother (franchiser has proven business formula and can offer ongoing support in all facets of the operation).
  • Disadvantages:
    • Risk of poor and/or unprofitable location
    • Loss of absolute control
    • Big up-front fees and ongoing fees to franchiser

What should I know about a prospective franchiser?

  • Financial statement of franchiser
  • Copies of profit and loss statements on franchise locations that you select.
  • Any franchisee lawsuits pending against franchiser?
  • Conduct due diligence interviews with other franchisees whom you select. (Probably the least important step in your "due diligence" investigation is to talk to the names of franchisees the franchiser gives you as references.)
  • Existing franchises will normally be happy to share information on the success or shortcomings of their operations.
  • Don't rely too much on "pro forma" financial statements. These are statements that are estimates provided in advance regarding future prospects.

Here are some Pros and Cons of YOU becoming the franchiser of your own business (and license others to become your franchisees):

  • Advantages:
    • Eliminates workman's compensations insurance, health insurance costs and employee-related problems
    • Rapid expansion possible over broad geographical area
    • Franchisees provide expansion capital
    • Franchisees are motivated operators
  • Disadvantages:
    • Loss of absolute control
    • Problems with unprofitable and/or difficult franchisees
    • Controlled by state and federal franchising statutes

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SUGGESTED ACTIVITIES:

  • Visit different operations, both independently owned and franchised and interview the owners for advice.
  • Attend trade shows.
  • Get to understand your intended business really well before you decide to buy or start one.
  • Analyze any appropriate existing business that is for sale:
    • Get the necessary information from a business opportunity broker.
    • Describe your method for evaluating the business.
    • Describe your financing plan on purchasing that business.
  • Do the same analysis for a franchised operation. Study the term and conditions of a real franchise agreement, item by item.

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Business Plan for Session 10: Buying a Business or Franchise

We heartily recommend that you download the individual business plan template for this session Business Plan Template Document 10 and complete it now.

Section 10: Acquisitions
Microsoft Word File MS Word

Instructions on filling in the business plan template:

  1. Each box has a permanent title in CAPITAL LETTERS
  2. Below each title is a sentence starting with an "Insert here" sentence. This will suggest information to insert. The boxes will enlarge as you take up more room so use all the space you need.
  3. After completing each box, delete the "Insert here" sentence, which will leave only the permanent title of the box and the information you have filled in.

We suggest that you fill in each section of the business plan
as you proceed through the course.

The template for all sessions 1-12 can also be downloaded into your computer as a single document:

Section 1-12: All
Microsoft Word File MS Word

Include sufficient research findings and background materials. Make it interesting up by the use of background data, your biography, charts, demographics and research data. When your business plan is completed, print off and assemble the 12 sections.

Many other business plan formats are available in libraries, bookstores and software.

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SESSION 10 Quiz: Buying a Business or Franchise

  1. In buying a business it is usually recommended to purchase the stock of the business rather than the assets of the business.
    1. True
    2. False
  1. When purchasing a business, the more important consideration is:
    1. The economics of the business
    2. The management quality that has been running the business
  1. The BEST way to verify the sales of a small business is to:
    1. Stand at the cash register and record the sales.
    2. Study the present and past income statements of the business.
    3. Analyze the state sales tax returns.
    4. Review cash register tapes.
  1. To be a real entrepreneur you should concentrate your efforts on buying a business that produces something, has inventory, a factory and, hopefully, is vertically integrated.
    1. True
    2. False
  1. Before buying a franchise, which of the following choices is the LEAST IMPORTANT step to take in your "due diligence" investigation:
    1. Have the franchiser give you names of franchisees to talk to.
    2. Make a "for and against" analysis as to whether you would be better off starting independently.
    3. Talk to franchisees of your own choosing.
    4. Have your lawyer review the franchise agreement and determine if there are franchisee lawsuits pending against the franchiser.
  1. The best source of financing when you buy a business is:
    1. The Small Business Administration
    2. Your savings
    3. Taking on a partner
    4. The seller of the business
    5. Friends and relatives
  1. If you invest N50,000 in a business and earn N10,000 annually, your return would be:
    1. 25%
    2. 10%
    3. 20%
  1. If you are considering buying a franchise, existing franchises will be reluctant to disclose financial information to you.
    1. True
    2. False
  1. The best way to verify the quality of receivables in a business you are considering buying is:
    1. Require the seller to furnish a certified financial statement.
    2. Inspection of the seller's records by your Accountant
    3. Obtain written verification from accounts receivable parties.
  1. A "pro-forma" financial statement shows:
    1. Past financial information
    2. Projected future financial information (estimated)
    3. Financial information before accounting for state and federal income tax obligations.

 

Proceed to Session 11: Opening and Marketing

 

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