Buying a Business
Many find the idea of running a small business appealing, but lose their motivation after dealing with business plans, investors, and legal issues associated with new start-ups. For those disheartened by such risky undertakings, buying an existing business is often a simpler and safer alternative.
The main reason to buy an existing business is the drastic reduction in start-up costs of time, money, and energy. In addition, cash flow may start immediately thanks to existing inventory and receivables. Other benefits include preexisting customer goodwill and easier financing opportunities, if the business has a positive track record.
The biggest block to buying a small business outright is the initial purchasing cost. As the business concept, customer base, brands, and other fundamental work have already been done, the financial costs of acquiring an existing business is usually greater then starting one from nothing. Other possible disadvantages include hidden problems associated with the business and receivables that are valued at the time of purchase, but later turn out to be non-collectable. Good research is the key to avoiding these problems.
Choosing a Business
Finding profitable businesses for sale at reasonable prices can be difficult, as business owners often have an inflated idea of the market value of their business. There are, however, many resources for finding profitable businesses for sale.
Among the many favorable aspects to buying an existing business is the drastic reduction in start-up costs. In addition, cash flow may be immediate because of existing inventory and receivables. Other advantages include existing goodwill and easier financing opportunities, assuming the business has a good reputation.
Once you've found a business that you would like to buy, it's important to conduct a hard, objective investigation. Look into every aspect of the business, verifying whether the owner's stated reasons for selling are legitimate; double check every detail for accuracy.
A qualified attorney should be enlisted to help review the legal and organizational documents of the business you are planning to purchase. An accountant can help do a proper evaluation of the financial condition of the business. To find an attorney in your area, use the American Bar Association's legal directory.
Letter of Intent
A letter of intent usually creates a non-binding offer to purchase the business and is usually needed in order for the seller to provide sensitive information about the business. It should spell out the proposed price, terms, and conditions for the sale of the business. The letter should also state that either side may revise or quit for any reason.
Often required by the seller, a confidentiality agreement indicates that you won't use the information about the seller's business for any purpose other than making the decision to buy.
Contracts and Leases
It's important to discover all the obligations that the business is subject to. Also, be aware that you may have to work with the current landlord to assume any existing lease on the business premises or negotiate a new lease. If you acquire an existing lease from another lessee, you may have to pay the previous lessee for the privilege. The cost of acquiring your lease may be amortized over the remaining term of the lease.
Examine the financial statements from the business for at least the past three to five years. Also make sure that the statements are accompanied by an audit letter from a reputable CPA firm. Don't accept a simple financial review by the business itself.
Review the business' tax returns from the past three to five years. This will help you determine the profitability of the business as well as whether any tax liability is outstanding.
Numerous documents should be checked during an investigation. They include:
- real and personal property documents
- bank accounts
- customer lists
- sales records
- supplier/purchaser list
- advertisement materials
- inventory receipts/lists
- organization charts
- payroll, benefits, and employee pension/profit sharing information
- list of employees
- certification by federal, state or local agencies
- list of owners
It is important during the closing to make sure that you have legal counsel available to review all documentation necessary for the transfer of the business.
The following items should be addressed in a closing:
- Adjust Purchase Price — This would take care of prorated items such as rent, utilities, and inventory up to the time of closing.
- Review Documents Required to be Provided by the Seller — These would be a corporate resolution approving the sale, evidence that a corporation is in good standing, or any tax releases that may have been promised by the seller. Check with your local department of corporations or secretary of state.
- Signing Promissory Note — In some cases, the seller will carry back financing, so have an attorney review any Note documentation.
- Security Agreements — These documents may be necessary if you are going to finance your purchase. A Security Agreement lists the assets that will be used for security as a promise for payment of the loan.
- UCC Financing Statements — These documents are recorded with the Secretary of State in the state you have purchased your business. Again, these documents are necessary if you are going to finance your business.
- Lease — If you have agreed to assume an existing lease, you will be required to execute the assumption. Make sure that you have the landlord's concurrence to assumption of the lease. You may have negotiated a new lease with the landlord instead of assuming the existing lease.
- Vehicles — If the purchase includes vehicles, you may have to execute the transfer documents for the vehicles. You can check with your local Department of Motor Vehicles to determine the correct procedure and necessary forms.
- Bill of Sale — The bill of sale will be proof of the sale of the business and will transfer the ownership of the other tangible business assets not specifically transferred on their own.
- Patents, Trademarks, and Copyrights — May need to execute the necessary forms if part of the transaction.
- Franchise — May have to execute franchise documents if the purchase of the business was a franchise.
- Closing or Settlement Sheet — The closing or settlement sheet will list all financial aspects of the transaction. Everything listed on the settlement should have been negotiated prior to the closing, so there should be no surprises.
- Covenant Not-to-Compete — It is a good idea to have the seller execute this agreement. This will help add to the success of your operation of the business without any interference from the previous owner.
- Consultation/Employment Agreement — If the seller has agreed to remain on for an amount of time, this documentation would be necessary.
- Complete IRS Form 8594 (PDF file), Asset Acquisition Statement — This document will indicate how the purchase price was allocated to the various assets. Important for your tax return.
- Bulk Sale Laws — Make sure that all bulk sale laws have been complied with in the transfer of the business assets.