Small Business Management By Prof. Cameron A. Batmanghlich

Small Business Management By Prof. Cameron A. Batmanghlich

Chapter 3: FINDING OPPORTUNITY IN AN EXISTING BUSINESS

Learning Objectives Understand the potential benefits of buying a going concern (Conmpany). Identify potential drawbacks of purchasing a business. Learn how to identify and evaluate purchasing opportunities.

Learning Objectives (continued) Learn how to determine the value of a business. Learn how to negotiate and close the deal. Recognize joining a family business as an entrepreneurial pathway.

Why Buy an Existing Business? Quicker, easier start-up. Employees bring knowledge/relationships. Seller may help with transition. Reduced risk due to established business structure and customer base. Cost may be less to buy than to start a similar company. Prior knowledge of the business equals a more informed decision and a reduced learning curve.

Potential Pitfalls of Buying an Existing Business Higher initial investment. Known and hidden problems. Not a good “fit” with personality, lifestyle, or work-environment requirements. Existing customers may not remain customers after business is bought.

Finding Available Businesses Direct inquiry/networking (employer, customers, competitors, friends, family). Solicitation by direct mail/advertising. Internet research. Business brokers who buy and sell businesses for a fee.

Evaluating a Business for Sale Due diligence is essential. Start with background data from owner. Scan Internet for press coverage and legal issues. Ask outside parties for information: bankers, suppliers, employees, customers. Examine internal and financial documents. A nondisclosure agreement may be used. Identify real reason owner is selling. Be alert for conflicting information.

How to Determine the Value of a Business Asset valuation—analyzes the underlying value of the firm’s assets. Earnings valuation—based on a stream of earnings multiplied by the capitalization factor or by the Price/Earnings ratio. Cash flow valuation—uses projected future cash flows and time value of money.

Standards for Asset Valuation Book value—reported in firm’s records. Adjusted book value—considers actual market value versus the stated book value. Liquidation value—net cash potentially obtainable from the quick sale of assets. Replacement value—cost of newly purchasing the assets.

Determining Variables to Use in Earnings Valuation Type of earnings Historical earnings. Future earnings under current ownership. Future earnings under new ownership. Measure of earnings Earnings before or after tax? EBIT (Earning before interests and taxes) or operating income (Gross Income - Operating Expenses - Depreciation & Amortization)?

Non-Financial Factors Affecting the Offer Price Market space Competitive environment Firm’s legal and regulatory status Pending physical or labor changes Need for investment in plant, property, and/or equipment Value of customer “goodwill”

Negotiating and Closing the Deal Secure qualified legal and financial counsel. Establish what is being purchased: assets only or “whole business.” Determine the terms of the sale. Consider buying the business over time. Hold a formal closing to complete all legal documents.

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