Introduction
Not all business owners begin their journey by starting the business from scratch. Business ownership can be achieved in a few different ways and the most common roads to business ownership that we will look at today are,
1. Purchasing an existing business,
2. Buying a Franchise, or
3. Starting your own business.
Some fundamentals, such as market research and business plans, are required regardless of whether you purchase or start the business, but there are numerous advantages and disadvantages associated with each purchase choice.
Our review today will enable you to be a little more acquainted with, and prepared for,
the first big decision on the business ownership journey ahead.
It is common to hire an Accountant to assist with the business startup, but it is still beneficial for you to understand the process and key information that you should know before committing to a business.
Buying an existing business
Buying an existing business can be preferable for some as there is visible trading history and financial data that can be reviewed and then you can hit the ground running. But you still must carefully research the business and do your own due diligence.
Due diligence is a record checking technique that is all about ensuring that the data you have received from the seller is truly reflective of the current state of the business and the market. Due diligence is the process in which you review the business, both financially and operationally, to work out if you are buying a good or failing business.
The financial state of the business is important, but don’t just focus on reviewing the numbers.
Businesses that have been profitable in the past can still fail due to other external factors so researching the business and the market is still important before signing any contract.
Advantages:
- The business is already operating so you can trade and make money from day one
- The business should have an already established customer base
- The equipment and infrastructure already exist
- Staff will already be trained
- The business would have an established brand
- The purchase cost is agreed and fixed
- Generally easier to obtain finance for the purchase due to the established trading history
Disadvantages:
- The cost is greater as you are paying for the ‘goodwill’ the current owner has
established with the business (that is, you are paying for the work that the owner has put into starting and developing the business)
- You may take over the business and the customers may leave, there are no
guarantees
- The seller may not tell the truth with regards to an important factor impacting the
business
- The brand may not be ‘you’
If you have the available finances and want to purchase an established business, you must
research the business before agreeing to purchase. It is important that you try and determine
the truth behind why the business is for sale and ensure that you are getting value for money.
Also consider what is happening in the market for the goods or services. For example, is the market shrinking due to new technology and therefore the owner is getting out now before the downtrend ripples through.
An Accountant can help you with a review of the financial accounts, but if you would like to research the business opportunity yourself, here are some items that you should keep in mind –
Business:
- Is the business well known in the community?
- How long has the business been in operation?
- Have the current owners generated any bad will against the business?
- Does the brand have a positive or negative image?
- How much goodwill are you paying? Does it seem reasonable or excessive?
- Is the business seasonal?
- Identify your competitors. Who are they and how do they compare?
- Are there any opportunities in the market that you could seize to grow the business?
Location (if a physical business):
- What are the current lease terms and when does it expire?
- Do you have to accept these terms or is the landlord willing to negotiate a new lease?
- How does the rent compare with surrounding buildings?
- What is the rental bond?
- Does the owner look after the building and maintenance requirements in a timely manner?
- How often can the landlord increase the rent?
- What are the outgoing costs that are charged in addition to rent?
- Is the location still ideal or has the demographic or area changed?
- If you decide to change location, will the business be negatively affected?
- Is any development planned nearby that could impact the business?
- Are any competitors set to open nearby?
- Is there adequate parking for staff and customers?
- What is the signage availability? Is the signage visible by passing customers?
Profits:
- Is the business making a profit?
- Has it consistently made a profit?
- What is the trend? Have profits increased or decreased over the last few years?
- Is the declared income just from this business, or is the current owner including income
from other operations that will not transition with the business?
- Look at the expenses – is anything missing? Are any costs excessive?
- Do the financial reports reconcile to lodged BAS and tax returns?
- Will the payables and receivables at the time of sale remain with the seller?
Fixtures, Fittings and Equipment:
- What fixtures, fittings and equipment come with the purchase? Are they old or new?
- Will anything need to be repaired or replaced in the short term?
- Is the equipment obsolete or overvalued?
- Is the equipment owned or financed?
- If financed, will it be returned to the supplier or will financing be transferred to you?
- Are any important items of equipment not being sold with the business?
Inventory:
- Is the inventory old or new?
- Is the inventory current product or items that don’t move quickly?
- Is an inventory management system in place?
- How has the inventory been valued for sale?
- Who are the current suppliers and are there any obstacles to you purchasing from the
current suppliers?
- Are other suppliers available?
Staff:
- Have the staff received the correct training?
- Do you want to employ the current staff? Are they willing to stay?
- Is the current staffing level optimal or could you operate with fewer staff?
- Consider whether you will be working in the business full time. Will you be replacing a
current staff member?
- What are the current wages – both salary and casual?
- Ensure to factor in the associated payroll costs such as superannuation, payroll tax and
workers compensation insurance in any calculations.
- If you are employing the current staff, will you be taking on current staff leave entitlements?
Customers:
- Who is the target customer?
- Are the current customers loyal to the business?
- Is the business consistently attracting new customers or is it reliant on returning customers?
- Is the business focused on a shrinking market?
- What level of online competition do you have?
- Is this business also online? Ensure the website and domain are included in the purchase.
Purchase a Franchise
The purchase of a franchise is another option if you have the financial resources available and think that maybe hitting the ground running may be for you (if the franchise territory you are buying is established). Of course if you are buying a new territory that doesn’t have an already established operator, there may be delays with income generation.
Whilst historically when you thought of franchises you would think of big names like McDonalds, but no more, numerous entities are throwing their hat in the ring so you need to undertake just as
much research as you would with any other business model.
Franchises are controlled by long complex legal agreements, so ensuring that you understand what you can and can’t do and what the Franchisor can and can’t do is very important. The Franchise agreements are generally weighted towards the Franchisor so make sure the agreement is reviewed by yourself or an Accountant or lawyer.
If buying a franchise interests you, consider the following-
- Franchises are generally quite expensive.
- Many small cost franchises have flooded the market recently, but don’t just purchase a franchise because the low price tag is appealing. The ongoing fees may be a killer and in many cases there are so many sold that your business will have no impact.
- Carefully review the terms and conditions, especially the ongoing franchise and/or marketing fees payable
Look at any costs or restrictions that may be applicable should you decide to sell the franchise at a later date.
- Look for a professional reputation and competence of the franchisor. Ensure that they have strong industry knowledge and experience. It also helps if they are people that you feel comfortable dealing with.
- How much assistance will you get from the Franchisor? You will be paying them good money so know exactly what you will be getting in return, including any training.
- How small or large is your exclusive territory? Are there enough potential customers in that territory to sustain your business and provide the income level you desire?
- Are you ok with the level of control that a franchisor will exert? Most franchise models provide the Franchisor with quite a bit of control over your business with regards to how you can operate your business, restrictions on suppliers, ability to review financial data etc.
- What are the terms of the contract? Make sure you read the small print. Can the terms be changed by the franchisor at any time? Do you have an automatic option to extend the Franchise at the end of the term and how much does that cost?
- Are the systems and operations something that would suit you and your business style? Some people enjoy being told how to operate whilst others (like me!) like to do things our own way.
Buying an established business or franchise requires time and research to ensure you are not paying too much or simply buying a lemon that is about to implode.
The old ‘Buyer Beware’ adage is in play, so make sure you take the time you need to determine,
to the best of your knowledge, that the business is sound and offers the profits or opportunities
that you are after.
And remember existing businesses come with established brands and franchises come with strict rules and guidelines, so be honest as to whether you can (or even want to) build your business around these existing limitations and restrictions. I considered buying a franchise a few years ago, but I knew that having my hands tied with regards to branding and operations wouldn't be for me.
Start Up
Starting your own business from scratch is exciting and can provide amazing rewards for your hard work, but it can also take time to build up sales and customers. But the beauty of starting your own business is that you can move at your own pace and even start it on the side whilst still gaining income from a job.
Starting an online or home based business will help to reduce cost commitments at the crucial start-up phase.
The advantages of starting your own business are –
- Don’t have to pay for goodwill so less initial cash outlay
- You can choose the location (if applicable)
- You have total freedom of choice in all operational aspects
- There are no preceding negative brand implications
- You can start from home, if practical to do so, with minimal costs
- There are no negative surprises to uncover
- You decide on the brand, the company values and marketing direction
- You can go at your own pace and even start whilst maintaining your current job
Disadvantages:
- It is generally more difficult to obtain finance at the start (if required), unless you can offer the bank sound security, like a slice of your home
- Setting up can be costly (depending on the business equipment needs, but generally a lot cheaper than buying a business)
- Building up goodwill and a customer base can take time
- Profitability and positive cash flow are not already available
When starting your own business, document a business plan and action plan so you can move forward consistently and are prepared for items like initial start up costs (for example website costs and equipment).
Also, be realistic in setting income goals so you don’t underestimate how long it will take to start making a profit. Building a business from scratch will take time and you will need the financial resources to keep you going until the business becomes profitable, if you don’t start the business on the side whilst continuing to work in a job in the short term.
Summary
When it comes to buying a business - buyer beware. Smart people have purchased established businesses displaying generous profits on paper only to see it fail a short time later, so don’t just take a sellers word on the stability of a business, make sure you can back it up with research, facts and review.
Start-ups will have less up-front costs and they offer the opportunity to progress at a pace that suits you (provided that you haven’t thrown in your day job where you would need to get a move on!).
One method is not any better than the other, they are just very different and ultimately suit different people and different financial circumstances. Ultimately the choice will come down to what is best for you, the type of business you are interested in, the amount of financial resources you have available and how much control you want over branding and business values.
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