You have an opportunity to buy a business. The timing feels right and you’re confident about your idea. So, what are the next steps?
First, establish a team of advisors. Your trusted team can help determine if buying that business is the right move for your financial future.
Take a Step Back
Ross Grifkin, a Rockland Trust commercial banking expert, believes that those thinking about purchasing a business should take a minute to really consider all of their options. “You can buy an established business or you could invest in a building and create your own business from within its walls. This provides you with an asset, which can be useful if you ever decide to sell the business. Really think through what you’re paying for before getting into too much debt.”
Looking past the current transaction and thinking strategically about the future can help put you in a better position in the long run. Instead of buying a bar that isn’t well known, you might consider buying a building and turning it into a bar because then you’ll have both your bar and a valuable real estate asset generating value.
Some other questions to consider when investing in a business:
Understand Their Finances (And Yours)
Another important consideration before buying a business is the state of the seller’s finances. Does the seller mix their business and personal finances? Combining finances can make a business appear less profitable, which impacts your ability to secure financing. The owner might tell you that this is the case and encourage “adding back” those expenses, but it isn’t that simple.
For example, if the business reported $50,000 in travel expenses, but the seller says that figure is a mix of business trips and a personal vacation to Hawaii, the lender must make a decision based off what is reported. There may be an easier argument to be made for certain expenses, such as a vehicle that is used for work, but overall, it’s best to not blend business and personal funds.
Look for Statements
When thinking about purchasing a business, ask to see the financial statements and consult your banker about financing options. Ask the seller for at least the last three years of financial records, including balance sheets, outstanding debt and profit and loss statements. This gives you a picture of the financial health of the business. If the business sells direct to consumers, you may also look at online reviews, such as Yelp.com, to determine the state of the brand.
Understand the Debt
You also want to understand what the business’ outstanding debt looks like and ensure that it is factored into the price you’re paying to ensure that the debt is resolved. If you’re buying a business for $1.5 million, for example, and the business has $1 million in outstanding debt, the seller should receive the remaining $500,000 from the sale because that $1 million should be used to wipe out the current debt.
Are there Lines of Credit
If there is a line of credit (LOC) attached to the business, you should determine how that line is set up and guaranteed. While it may have been secured because the business is strong, it’s also possible that it was set up because the current owner has a strong credit history and can guarantee the loan will be repaid. This is important because you may have trouble securing a LOC if you are not as strong an applicant, based on weaker credit history, a lot of existing debt, or your annual income. Not securing a LOC could be bad news for the business should you need access to credit for any reason.
Buying a business can be a long and intensive process. Take your time with it to ensure you and your team are reviewing all materials thoroughly and that there are no outstanding questions.
Two things we hear throughout our conversations with owners are:
Most aspiring business owners make the investment to purchase a business with the goal of it being a long-term to lifetime endeavor.
Consulting your banker as early as possible in the process will set realistic expectations about securing a loan and how much you can afford before you are committed. You’ll also want to consult a team of advisors, including an accountant and lawyer before getting too serious about a purchase.
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