Our recent article Four Big Mistakes to Avoid When Buying a Business was based on my interview with Josh Tolley, nationally syndicated talk show host and author of the recently released book Wealth by acquisition. Tolley’s message: Given the high risk of failure facing a new business, buying an established, profitable business is often a far better option.
His advice struck a chord. Many readers have contacted me to say something like, “The idea of buying a business never crossed my mind.”
Ron P. Jones, a business lawyer in Hanford, Calif., who has been a friend of this column for many years, sent a list of “important due diligence questions that anyone considering buying a business should have answered. Why not submit those questions to Tolley?” he suggested.
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I did, and he was happy to answer Ron’s questions. He began with this caution: Be curious, but don’t let the skeptics scare you off.
“When you’re buying an established business or starting your own business, it’s important to be curious and get the tough questions answered,” he said. “However, when you keep hearing, ‘Yeah, but what about these things? Have you thought about these questions?’ don’t let fear paralyze you. Yes, there are many valid objections, but too much doubt – and a failure to understand that every business will have problems – can kill motivation and creativity. So use common sense when you’re told, ‘No! That’s not a good idea!’ Maybe you won’t mind. East a good idea, so seek advice from several knowledgeable sources and be alert to those who might be jealous of your efforts to grow.
Tolley shares other information
Here are the other questions Tolley answered:
What knowledge and experience do I need to qualify for a Small Business Administration (SBA) ready to buy or start a business?
Tolley: You don’t have to know everything. If you’re applying for an SBA loan, they want some experience, but if you’re buying a plumbing business, you don’t have to be a plumber. You need some management experience, some trades experience, something relevant that the SBA will feel comfortable issuing a loan for.
Additionally, this could be satisfied by elevating someone currently employed by that company to a management position so that the SBA sees someone with experience in charge of the operational side of the business.
Should I be concerned about existing competition or new competitors coming to town?
Tolley: Absolutely! These questions are an important part of the due diligence process where you examine the company and its potential liabilities, including new competitors.
A search of public records on the location is criticalFor example, if you buy a restaurant, is your city considering tearing up the road to lay new water and sewer lines, which would prevent access and potentially destroy your business?
Is a union involved? Do they have any say in an acquisition? Is there a franchise agreement – which the seller hasn’t looked at in years – where a company requires that the contract be offered to them first?
This is why buyers and sellers of businesses Never should do it themselves!
How do I know where to order supplies, parts, inventory, and similar items and if costs vary over time or depending on the time of year? Is there anyone who can help me make sure I’m not being gouged by suppliers?
Tolley: If the due diligence process is done properly, not only will you get this information from the sellers, but they should stay with the company for six to twelve months for this purpose. When a financing company provides the funds, they usually require the sellers to stay for at least six months.
What are the financial aspects to consider when buying a business? Should I consult audit reports or would the seller’s “scribbles” suffice?
Tolley: There are several types of financial data that should be reviewed. Some are created by the business owner, also known as “chicken doodles,” as well as:
- Financial data compiled by professionals
- Financial data adjusted from the seller’s perspective (additions, credits, debits) to obtain a more accurate picture
- Price, Value and Value Analysis
Too often, buyers focus on the price of an acquisition rather than the value of the business.
This is where the concept of goodwill comes in, which can be manipulated to distort the selling price. Price, value and worth are so different that a business that loses money on paper and is priced at next to nothing could be worth a small fortune to the right buyer, especially when its particular inventory has great value in itself.
A commercial broker can help negotiate a much lower sales price if they know how a buyer might use that inventory.
Tolley is deeply concerned about the “Instagram experts” who are popping up on social media and attracting people who are desperate to get into business. Some are “selling often worthless guides and business plans – for thousands of dollars – that lead to terrible financial carnage and struggling families.”
To combat this phenomenon, his organization hosts free eight-hour seminars across the country, where attendees can learn how mergers and acquisitions work and what potential buyers need to know before investing in a company. For more information, visit joshtolley.com or acquisitionalwealth.com.
If his seminars come to my city, I will be in the front row.
Dennis Beaver practices law in Bakersfield, California, and welcomes reader comments and questions, which may be sent by fax to (661) 323-7993 or by e-mail to Lagombeaver1@gmail.com. And don’t forget to visit dennisbeaver.com.
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This article was written by our contributing advisor and presents his or her opinions, not those of Kiplinger’s editorial staff. Advisors’ files can be found at SECOND or with FINRA.
