Whether you are thinking of buying a small or larger business, you must do some serious due diligence. Here are a few key factors to look into:
Comparable Prices
Every type of business is evaluated differently. Some businesses are evaluated based on cash flow, others based on multiples of profits, others based on the company’s growth potential, and still others use completely different criteria. The ways you evaluate a website versus a restaurant are completely different. Look at other sales in the industry to see what comparable companies are selling for. Determine how companies in the industry are valued and see if that matches the asking price of the company you are considering.
Tax Returns
Request tax returns from the company. Never pay more than the annual income they reported on their taxes. It is common for business owners to say, “We earned $200,000 in revenue last year, but our returns only show $150,000.” Also ask to see audited financial statements.
Track Traffic and Sales Yourself
If you’re buying an Internet business, ask the website owner to host your own tracking pixel on their site for a week or so to see if the statistics pan out. If a restaurant owner says they average $2,000 a day in revenue, then sit across from the restaurant for a day and count the number of patrons. Multiply this by the average order size to see if it is in the right ballpark. In other words, no matter what kind of business you are considering, check the statistics yourself. The only exception is if the business has audited statements from a reputable accounting firm. And if there is a mistake, you will have the recourse of suing the accounting firm.
Any Undisclosed Problems
Few business owners will honestly tell you of the problems in their business. Before you make a concrete offer, it’s your job to dig out any issues that may be there. First, Google the business name and see what comes up. Then Google the name, plus words such as “lawsuit,” “sued,” “complaint,” “BBB,” “scam,” “review” and so on. Determine what people are saying about the business, whether it has had complaints and if they were substantiated.
Also look at the fundamentals of the company. This is when industry knowledge comes in handy. For example, with an Internet business, a shrewd website owner will be able to evaluate just how likely the traffic is likely to continue in the future, and an experienced laundromat owner will be able to evaluate the likelihood of future repair costs, and so on.
Financing
Finally, discuss financing terms with the seller. Believe it or not, sellers will more often than not be willing to finance part of the sale or even have part of the sale be tied to the future performance of the business. It doesn’t hurt to ask.
These are a few of the most important considerations to look into or ask about when you are considering purchasing a company. Unless you are truly looking at a once in a lifetime opportunity, it pays to take your time and do your due diligence carefully.
