How to buy a business?

10 Things to Consider before buying a business

1. Inventory

Refers to all products and materials inventoried for resale or use in servicing a client. Important note: You or a qualified representative should be present during any examination of inventory. You should know the status of inventory, what's on hand at present, and what was on hand at the end of the last fiscal year and the one preceding that. You should also have the inventory appraised. After all, this is a hard asset and you need to know what dollar value to assign it. Also, check the inventory for salability. How old is it? What is its quality? What condition is it in? Keep in mind that you don't have to accept the value of this inventory: it is subject to negotiation. If you feel it is not in line with what you would like to sell, or if it is not compatible with your target market, then by all means bring those points up in negotiations.

2. Copies of all contracts and legal documents

Contracts would include all lease and purchase agreements, distribution agreements, subcontractor agreements, sales contracts, union contracts, employment agreements and any other instruments used to legally bind the business. Also, evaluate all other legal documents such as fictitious business name statements, articles of incorporation, registered trademarks, copyrights, patents, etc. If you're considering a business with valuable intellectual property, have an attorney evaluate it. In the case of a real-estate lease, you need to find out if it is transferable, how long it runs, its terms, and if the landlord needs to give his or her permission for assignment of the lease.

3. Tax returns for the past five years

Many small business owners make use of the business for personal needs. They may buy products they personally use and charge them to the business or take vacations using company funds, go to trade shows with their spouses, etc. You have to use your analytical skills and those of your accountant, to determine what the actual financial net worth of the company is.

4. Sales records

Although sales will be logged in the financial statements, you should also evaluate the monthly sales records for the past 36 months or more. Break sales down by product categories if several products are involved, as well as by cash and credit sales. This is a valuable indicator of current business activity and provides some understanding of cycles that the business may go through. Compare the industry norms of seasonal patterns with what you see in the business. Also, obtain the sales figures of the 10 largest accounts for the past 12 months. If the seller doesn't want to release his or her largest accounts by name, it's fine to assign them a code. You're only interested in the sales pattern.

5. Debt disclosure

his includes all outstanding notes, loans and any other debt to which the business has agreed. See, too, if there are any business investments on the books that may have taken place outside of the normal area. Look at the level of loans to customers as well.

6. Marketing strategies

How does the owner obtain customers? Does he or she offer discounts, advertise aggressively, or conduct public-relations campaigns? You should get copies of all sales literature to see the kind of image that is being projected by the business. When you look at the literature, pretend that you are a customer being solicited by the company. How does it make you feel? This can give you some idea of how the company is perceived by its market.

7. Marketing strategies

How does the owner obtain customers? Does he or she offer discounts, advertise aggressively, or conduct public-relations campaigns? You should get copies of all sales literature to see the kind of image that is being projected by the business. When you look at the literature, pretend that you are a customer being solicited by the company. How does it make you feel? This can give you some idea of how the company is perceived by its market.

8. Industry and market history

You should analyze the industry as well as the specific market segments of the business targets. You need to find out if sales in the industry, as well as in the market segment, have been growing, declining, or have remained stagnant. This is very important to determine future profit potential.

9. List of current employees and organizational chart

Current employees can be a valuable asset, especially key personnel. Evaluate the organizational chart to understand who is responsible to whom. You must also look at the management practices of the company and know the wages of all employees and their length of employment. Examine any management-employee contracts that exist aside from a union agreement, as well as details of employee benefit plans; profit-sharing; health, life and accident insurance; vacation policies; and any employee-related lawsuits against the company.

10. Product liability

Product liability insurance is of particular interest if you're purchasing a manufacturing company. Insurance coverage can change dramatically from year to year, and this can markedly affect the cash flow of a company.