There are two ways you can become a business owner.
- Create and establish your own business that you build from scratch or
- Buy a business to shape and build.
When we think of start-ups, we usually focus on the first option. You see a problem, find a solution and invest your time and energy in converting that solution into a saleable product or service.
But you can also be a start-up in the sense of becoming a business owner for the first time, with an existing business.
Which one you choose, will often be dictated by the reason why you want to be a business owner? Is it to:
- build wealth and gain a financial return
- satisfy your creative or entrepreneurial flair
- improve your lifestyle or work-life balance
- to solve a problem and pursue excellence in your industry?
The timeframe to achieve your objective can vary depending on whether you establish or buy an existing business, and there are pros and cons to both options that you should consider.
Here are some of the key considerations and issues you should research to make your decision:
- Freedom – When you establish your own business, you get to build it the way you want from scratch, instead of having to try and shape an existing business that isn’t quite right.
- Risk – There is a fair degree of risk associated with establishing a new business. On the other hand, with an established business you already know it works.
It’s been proven there is a market and the market has hopefully paid a fair price, providing a good profit margin and importantly a return on investment to the owner.
- Ability to obtain finance – A business with a proven track record can find it easier to obtain finance. Banks can look at an established business’ track record and lend on that basis rather than unproven projections.
- Cost – You need to compare the cost of starting a business, against the cost of purchasing a business. An existing business will have a price tag commensurate with the infrastructure, processes, systems, staff, customers and goodwill that buying the business comes with.
On the other hand, there are many costs associated with purchasing all the things you need to establish a new business, as well as the opportunity cost of foregoing income initially until the business can afford to pay you.
- Cashflow – Arriving at a positive cashflow position for a newly established business is a milestone, and it can take some time to arrive at that point.
When you buy a business, cashflow is generally immediate, allowing you to service debt you obtain to buy the business and providing some form of salary for the incoming business owner.
- People – Staff that come with a purchased business are familiar with the business, product and customers. They’ve already been trained and can run the business or important elements of it. This allows the new owner to focus on the areas they need to address, better manage their own work hours and achieve balance if that’s important to them.
Buying a franchise is another option to establish a “new” business in a new location, while taking advantage of the existing knowledge, systems, brand, suppliers and support network of a franchise group.
However, given the rules and expectations outlined in most franchise agreements, you’ll find you might not have the degree of control or freedom over the decisions you make about your business.
While there are many positives associated with buying an established business, it’s important you perform due diligence to identify any risks and ensure you’re not picking up a “red herring”.
The seller of a business should be prepared to provide enough information for you to perform this assessment and if they don’t, be cautious and consider why.
Some of the key questions to ask during your due diligence are:
- Why is the business owner selling? Is there a problem that the current business owner can’t resolve? Do you have the ability to fix it yourself? Or is the outgoing owner simply retiring or pursuing other interests?
- Does the business ownership documentation confirm the person selling the business has the right to?
- Does the business have a good reputation? Are there any inaccurate or negative perceptions you need to address or overcome?
- What is the competition like and what future trends and developments are anticipated?
- What does the customer base look like? Are there lots of customers or does the business rely on one or two large customers? How strong are customer relationships? What risk is there in terms of losing customers or their current level of purchase? Are there contracts in place and can they transfer to you?
- What assets come with the business? Are they in good condition, adequately insured and meet any regulatory requirements such as OH&S?
- What leases are in place? What are the terms and conditions of those arrangements? Will you be taking those leases over or will they be paid out during the sale?
- How does the current location affect the business in terms of passing traffic, accessibility or any future developments or changes to the surrounding area that will impact on the business?
- What intellectual property (trademarks, patents, copyright, brand names, logos, domain names) does the business rely on, who owns them and can they be transferred?
- What permits, licenses and memberships does the business require? Can they be transferred with the business and will you be able to maintain them in an ongoing manner?
- Will the existing staff of the business continue employment with you after you take over? What are the salaries, entitlements and expectations of any staff that come with the business?
- What stock does the business hold? Does is come with the business? Will you need to supplement or purchase additional stock to meet initial demand after you take over? Is there any old stock that has depreciated in value or can’t be used and should be written off?
- Will you have all the right resources to continue meeting sales orders after you take over? What additional resources will you need to grow sales?
- What supplier contracts are in place? Can they be transferred to you? Will suppliers continue to offer any favourable terms the business currently has in place?
- What do the financial accounts for the last three years tell you about the business? How realistic do the costs, sales and profit figures look? What are the projected sales and revenue targets for the next 12 months? Are these realistic and achievable for you? How would any changes you propose affect costs and sales?
- Have all taxes, insurances, compliance and other regulatory costs and administrative requirements been met by the business?
- If your purchase is subject to finance approval, is there a clause in the sale contract that allows for this?
- Is there a restraint of trade clause in the sale contract to prevent the seller from establishing a competing business within a certain timeframe?
All of these factors should be taken into consideration when buying a business, and when weighing up the opportunity to buy versus create, establish and build your own start-up.
Marc Peskett is a partner of MPR Group a Melbourne based firm that provides business advisory and finance lending services, as well as tax, outsourced accounting and grants support to fast growing small to medium enterprises. You can follow Marc on Twitter @mpeskett