What to look out for when buying a business

Consider this when buying a business | SA Men

Honestly, generally people don’t sell businesses that are doing well. If a business is really profitable, it would be silly to sell it. Rather have a manager look after the operations or something. Of course, occasionally people do have good reasons to sell their businesses, like retirement without an heir, emigration, death and chance whack-jobs who are just plain unthankful. So, generally, if you are looking into buying a business, be weary, be very weary. When you look for businesses to buy go with this idea in mind that whatever they will have you believe in the accounts, the business is probably much less profitable, if at all. With the knowledge that the seller is probably out to get you, you can evaluate the business from a new angle. This would be to have enough of a plan to turn the business around. Do you have enough knowledge of the industry? Do you have enough capital to carry you to a place of profitability? Do you like the business? Who are the competitors? Etc. There are a gazillion ways to determine the value of a business, but the method that I find most business brokers in South Africa use – especially for small businesses – is the price/earnings (P/E) valuation. The value of the average small business is the annual net profit times two. This means that if I were to buy a business for a million Rand today, I will have made my money back, in net profit, in two years. Well-known brands like Steers and McDonalds can ask as much as a P/E of five, because of the bankability of the brand and the relatively certain guarantee behind the name. And then there’s everything in between. Astute sellers will set the asking price at a higher price, say at a P/E of four. A bright buyer will, for instance, offer two, and everybody knows that they’ll settle on three after long, arduous negotiations. Naturally, there are many other ways to calculate the value of a business. There’s the value of raw material, stock that’s ready to be sold and other big assets that would influence the selling price, but most important to remember is that a R10 million machine that doesn’t make money is not worth much. At the end of the day, the business is worth what buyers are willing to pay for it. Once you’ve decided you can run this business, and you’ve signed the offer to purchase (subject to a thorough due diligence), it’s time to do some checks. Being an entrepreneur, you will be innately optimistic, looking for ways how this business can work. So take with you a negative, pessimistic accountant who will look for reasons not to buy the business. They will do the digging and find discrepancies in the accounts that will give you fodder to negotiate. Have the books scrutinised and compare it with the bank accounts and VAT returns of the business you intend to buy. Visit as many of the big clients the business claim to have and objectively view the value of the person and what impact the change in ownership/management will have in the business. One can find lists and lists of things to check in the due diligence through a simple online search, but for me, the most important thing to know is that the business is probably struggling and that you will have to burn the midnight oil to right the ship. Check the accounts and make sure that what they say is close to the truth and remember, whenever you spend less than R20 Million on a business, you are probably buying a job. So, if you are not ready to get your hands dirty, steer clear.