Buying an established business has its advantages. For example, when you buy a business, you take over an organization that’s typically already generating revenues. There’s also usually a customer base, an established business reputation and existing operational procedures. However, just like any kind of investment, there are risks as well. It is important to do the necessary research and understand the factors that may affect the success or failure of your venture.
We explore three of the most important things to consider before buying an existing business.
1. Is the Business Right for You?
Buying a business that’s not right for your needs and interests may cost you more time, energy and money than you think. To prevent this, gather all the necessary information about the business to help you determine if you can commit to it.
Start by reflecting on your intention of buying the business. Do you plan to get involved actively and manage the business yourself or is this a passive investment? Be honest and clear in your intentions as you assess potential businesses and employees.
Second, you must understand how the organization operates—and be interested in those operations. This doesn’t mean you need to be passionate about the product or industry. Rather, it should at least be something that holds your attention, you have experience with and you would be happy to devote your time and energy.
2. Is the Business a Good Investment?
Once you have established that the business is right for you, the next thing to consider is whether you can make money from the business. While it may seem obvious, confirming profitability requires you dig thoroughly and find detailed answers.
Find out the reasons why the business is for sale. If the business is in bad shape and hasn’t been performing well financially, then ask yourself, “Am I ready and qualified to take on this considerable project?”
It is best to determine the business’s average gross annual revenue and net profits (if any) for the previous two years. If it meets your financial expectations, the next thing you’ll want to do is determine its fair market value.
Make sure you determine the right value of the business using several factors, including the average revenue, expenses, assets, liabilities and future projected earnings. You may also need to consider its market share and clientele, as this can affect future earnings. Through this information, you will likely be able to evaluate the time you need to invest as well as the value of your potential ROI.
Further, check out the business’s reputation. Do they have an established customer base and market share? Are the employees experienced and trustworthy? Are the products and services of good quality and value? How well known is the business in the market? These questions will help you determine whether or not the business is worth buying.
3. Can You Afford the Purchase?
You have established that the business is interesting, valuable and has a potential to become a good investment. The next thing? Find out whether you have the funds to purchase the business outright or if you need to finance the purchase, including being able to cover other operating expenses/unforeseen costs associated with the business.
Aside from exhausting your savings and borrowing money from friends or family, you have the option to take a loan for buying a business. A few of the financing options include SBA loans, ROBS , conventional bank loans and HELOCs. Some of these require a 10 percent to 30 percent down payment, collateral and a credit score of ideally 600 or more.
Further, you have to consider other things when trying to buy a business. Are you going to pay yourself a salary for managing the business? Is it a failing business you need to turn around and invest more cash into over time? Or is it just a passive cash flow investment where you do nothing and expect to receive a return?
Being able to afford a business isn’t just about the initial financing. Consider the expected cash flow and financial demands over time. After all, there might be unforeseen and costly strings attached to buying and owning a business.
Buying an existing business that’s in line with your interest and has a potential for further growth is a good investment. However, there are strings attached. Other than putting up your own money and securing financing to help you with the purchase and other expenses, you also need to ensure that you’re making the right decision based on your needs.
Ian Atkins is an expert staff writer and financial analyst for Fit Small Business, with experience working in personal and small business finance.