Buying an existing business can be a less risky and more quickly profitable venture than starting your own business from scratch. But it’s not entirely risk free and your success will depend heavily on how you choose and evaluate the business you buy.
Look at both financial statements and tax returns form the past 3-5 years to judge both the current fiscal health and financial trends. Make sure you see figures that are accompanied by an audit letter from a reputable CPA. Don’t accept a simple financial review or a compilation because those are based on figures supplied by the company. Is this business in sound financial condition? Do the financial statements match the tax returns? Are sales and operating ratios in line with industry standards? Your accountant can help you analyze these figures to determine the net worth of your company.
Payables and Receivables
Check the dates on invoices to see if the business is keeping up with its bills. Normal payment times vary from industry to industry, generally 30 to 60 days is standard. If bills are being paid 90 or more days past the invoice date, the owner may be struggling with cash flow. Also find out if any liens have been placed against the business because of unpaid bills.
Inspect the accounts receivable with a skeptical eye: often their stated value is somewhat inflated. Take a close look at the dates on them to determine how many are delinquent and by how long. This is important because the older the receivable, the lower its value and the greater the chance that it will never be paid. While you’re at it, make a list of the business’ top ten accounts and run a credit check on them. If the majority of customers or clients are creditworthy but are late to pay, you may be able to solve the problem with a more rigorous collections policy. If the clientele is financially unstable, start looking for another business.
You need to determine how critical the employees are to the success of the business. You also need to look at their work habits to determine if these are people you can work with. How long have these key employees been with the company? Will these people remain with the company after a change of ownership? What incentives will you have to provide to get them to stay? Can any key employees be easily replaced? What are their relationships with customers and would customers follow any of these employees if they were to leave? Also look at the role the current owner plays in the company. Is this a role you want to play? Are there any current employees who can take over those responsibilities if necessary?