BUYING A BUSINESS - 27.11.2019

Avoiding a dud business

The time is right

It’s quicker and easier to buy a business that’s already established than starting from scratch. But it will still take time, money and patience to ensure that you are making the right decision. You’ll need to consider everything from staff to how much cash you will require upfront to cover the purchase and other fees.

Value for money?

There’s no right or wrong answer to how much a business is worth. The price will usually be a multiple of recurring turnover, fees or profits after tax, but in the end it comes down to what the buyer will pay, and you certainly don’t want to pay over the odds. There are four key questions to ask when preparing to value a business: (1) How does it generate profits?; (2) Can it continue to generate profits?; (3) Can its profits be increased?; and (4) What profits can it add to your existing business and how?

Show me the money

To answer these questions you’ll need at least the last three years’ audited accounts and current year’s budgets and management accounts. This will help you build a picture of trading profits, cash flow and the balance sheet. You’ll want an expert to help you through this.

Tip 1. Have someone look critically at the figures and the underlying records to make sure that the business is as profitable as the accounts imply and that the assets are as valuable. A decent accountant can do this due diligence for you. They should act as devil’s advocate especially if your heart starts ruling your head.

Tip 2. Don’t automatically choose your own accountant for this. Find out whether they’ve done it before. If not, you may be better off using one who specialises in due diligence work (look for one with a corporate finance department).

Tip 3. Ignore any claims by the seller that there are far more sales going through the business than actually turn up in the books. This claim would be impossible to prove, and the seller is effectively admitting that the business’s records are unreliable. There is also a possibility that as the new owner you would be liable for any extra tax owing.

What does due diligence cover?

Your accountant should have a pretty good handle on this and they’ll be looking at things like: does the business depend on one supplier, i.e. could the costs be increased suddenly without an alternative source of supply? Are all tax liabilities up to date and are the gross margins in line with industry norms? The second stage is where you get the lawyers involved. This is particularly important where you’re buying the shares in a company, but even where you’re acquiring the assets of a business as a going concern it’s important to make sure you’ve got the legal side of things covered, including warranties and indemnities from the seller.

Tip 1. It’s better to retain part of the purchase price for a period of time (often twelve months). This will give you plenty of time to discover if there are any liabilities that haven’t been disclosed, which can then be offset against the outstanding balance.

Tip 2. If you’re unsure about future prospects or the price seems uncomfortably high, then a solution could be to link part of the purchase price to future performance.