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To buy, or not to buy (a business)? That is the question!

January 10, 2012

Many people ask whether they should start up a business, or buy one that is already up and running.  Some critics say, “Why should I pay big money some guy for some business I can start, myself?”  And sometimes, the critics are right!

But it is not ALWAYS the case.  And it is not ALWAYS a black and white issue.  The wise entrepreneur will need to actually do something most people do not want to do, in order to answer that question:  Work!  Research!  Investigate the options, in a detailed manner!  They are willing to WORK IN the business, but they are frequently not willing to WORK TO GET the business.  What people do not realize is that the preliminary research and preparation of a Business Plan will frequently make life and work much easier, in the long run.

When we say this to people in public forums, frequently we will get commentary from a number of people that tell us why this is unnecessary.  They see no value in writing a Business Plan, which is the document that is the most common way of documenting such research.  They say things like:  “Bill Gates never did one when he created Microsoft.  Steve Jobs did not do one when he started Apple.”

We don’t know whether they wrote Business Plans or not, when they started.  But even if that was true, those are two people that were part of creating perhaps the most innovative products in the 20th Century.  If you have the most creative product of the 21st Century, maybe you don’t need a Business Plan, in order to start.  Anyone else…?  You need a Business Plan!

For every successful business founder who never had a Business Plan, we can mention thousands of others that have failed.  That is not to say that every business that has no Business Plan will be unsuccessful; or that writing a Business Plan is a 100% guarantee of success.  But there are tremendous number of businesses that fail that would never have even opened if the founders had done their research properly, and there are others that might have survived if they had a Plan that gave them specific and strategically planned direction.

Why do people have such an aversion to doing this?  A business may be the biggest investment any person makes, in his/her entire life.  If that is your goal, it is vital that you understand the very business you want to start or buy, and that is what the Business Plan does:  It formulates the research and findings for all aspects of the business, from learning about the market, the competition, the history and potential future of the industry, the costs involved, the source of the products involved, the pricing considerations, cash flow issues, legal factors…and much more!

A number of people have come to us about writing their Business Plans, and we can put the documentation into a presentable format; but YOU, the prospective Business Owner really need to do the research, yourself.  The point of doing a Business Plan is not to have one and put it on the shelf; it is for YOU TO LEARN about your own business.  If someone else does it for you, what have you learned?

And it is guaranteed that Microsoft and Apple each have extraordinarily detailed Business Plans, updated on a regular basis, at this very moment!

A properly written Business Plan details the costs involved in starting a given business.  In a Retail operation, this will include the costs of putting the space in operational condition, because the vast majority of improvements in a Leased Retail space come out of the Tenant’s pocket – not the Landlord’s.  (Even in this economy, in most markets, Landlords provide only a “cold, dark, shell”.  This means that the Tenant can be responsible for installing things such as drywall on the walls, lighting fixtures, plumbing, floor tiles or carpeting and even heat/air conditioning, in some areas.)

The Business Plan budget will include Recruitment Costs for Employees that may be needed.  The cost of Inventory, in order to start operations, and keep in mind that a new business may not have any credit, so initial Inventory may need to be paid on a Cash on Delivery (COD) basis.  There are deposits that will be required by the Landlord, the Telephone Company, the Utility provider and others, depending upon the business involved.  There are Insurances that will be needed before starting, as well as other costs that will need to be paid in advance, again depending upon the type of business.  Promotional Expenses, whether it be for Brochures and other Print Materials, and other Advertising may be a big expense.  People need to know you are out there, to begin with.

One of the biggest considerations in starting up a business from scratch is in terms of the losses that will normally be anticipated, until it achieves a break-even position on Operational Expenses.  The vast majority of businesses will not make money for many, many months after opening their doors.  Throughout that period, Employees need to be paid, Sales and Withholding Taxes need to be paid, as do Telephone, Utility, Rent, Loan Payments for any money borrowed in order to obtain startup funding, and Inventory replacement.

When a new business opens its doors for the first time, people do not normally line up to get in and spend their money in huge amounts.  Customers need to learn what the business is, where it is located, whether it is good or not…  It is a gradual process, but can vary greatly depending upon what is offered, the location, the nature of the competition and the general demand for that kind of item or service.

You cannot bank on immediate Income and Profitability, because if the money rolls in from the start, that’s great!  A bonus!  Maybe even a miracle!  But if it takes time for the business to achieve Revenue levels that will allow it to at least break even on a monthly basis, how do you deal with losing, potentially large amounts of money in the first months/years of operations, if there is no planning and resulting funding to accommodate such losses?

This is critical, and the vast majority of economists agree that the biggest reason for failure of startup companies is a lack of Capitalization:  They did not plan for the losses and any way to cover the money lost, in the beginning.

(Another reason for failure – this time, among companies that were initially successful – is in planning for growth.  Too much growth that is allowed to occur too quickly will exhaust Capital capabilities.  These businesses need to control and even slow the rate of growth, before they become victims of their own success.  But that is an entirely different scenario…)

One of the ultimate reports that is generated through the research performed in a Business Plan, is a Pro Forma Profit and Loss (P&L) Statement, which should be conducted by projecting Revenue and Expenses on a monthly basis, for a minimum of three (3) years.  This mechanism allows the individual to determine what Capital will be required, not only in order to open the doors, but in gauging the amount of money that will be needed, in order to get by financially until the business breaks even on monthly operations.  It is then also the basis for a Loan Application, since the vast majority of Lenders will require a Pro Forma P&L, with that request.

Once the Business Plan has been written, the author will be able to see whether there is a market for that business, at all.  And sometimes, it is not!  We have historically consulted with Clients on performing Business Plan research, and on a number of occasions it has been determined that the business being planned is simply not worth the investment.  There are a number of reasons for this.  Sometimes, it is because the market trends show that a good business is due to be eroded by new technology or legal issues.

Examples of technology changes are in the CB Radio fad and Pay Telephones (remember them?), both of which where devastated by the Mobile Phone.  The iPad and similar devices are radically damaging sales of the Laptop Computer, which in turn caused a critical decline in Desktop Computers.

Legal changes in the market can be demonstrated by the Retail Adult Video industry.  Many communities have outlawed these storefronts through zoning and other legislation, causing a tremendous decline in the number of such operations.  And technology via the Internet all but finished the remaining locations, because of the easy access to that kind of purchase or rental, in the Consumer’s own home.

There are other reasons for making a decision not to pursue a given line of business, based on the findings in the Business Plan.  Frequently, the projected Profitability does not justify the amount of money that needs to be invested.  Sometimes, the Business Owner’s position in the business makes a difference.  Many people come to us wanting to buy a business where he/she can be an “absentee owner”.  Right off the bat, that kind of person would normally have to have deep pockets, in order to purchase a big company.  That’s because, in order to achieve that kind of goal, SOMEONE normally has to be in charge on a daily basis.  If it were an Owner/Operator situation, the Owner is the Manager.  If the Owner is not there, then a Manager needs to be hired, which means additional Gross Profit is required, in order to cover the Expense of payrolling the Manager.

Sometimes, the level of Capital required to start a business up is higher than it is to buy a currently operating business.  If and how that occurs can only be determined by researching and writing a Business Plan, allowing the prospective Owner to compare the two.  If you look at the Pro Forma for starting a business, and add all of the startup costs and all the losses that would be anticipated, the total is the beginning of the number to use against the financial comparison with the mature business acquisition.  Does it cost $200,000 to start a business, and it will cost $250,000 to buy an ongoing business OF THE SAME SIZE?

The term, “of the same size” is crucial.  If it costs $200,000 to BREAK EVEN on a startup, but the mature business that costs $250,000 is generating $100,000 in PROFIT, a further decision needs to be made:  How long would it take for the startup business to get to a $100,000 Profit?  And will it take more Capital to get to that point?  The Business Plan helps in answering some of these questions, or at least demonstrates what needs to be considered, in answering these issues.

In making a decision of whether to buy or perform a startup, there are other questions that may also need to be answered in some businesses, and with which the Business Plan can assist:

  • Is there technology that needs to be acquired, which is difficult to purchase?  Buying a company that already owns that technology can save huge amounts of time in making such purchases, and may even allow for the only opportunity to acquire that technology.
  • The same can be said for branding:  A given brand (or franchise) may only allow one business in a given geographic area; if there is already one present, the only way to obtain that brand is to purchase the existing unit.
  • Licenses from a State authority can take time, and purchasing a business with that License may be easier and more cost-effective than trying to get a new one.
  • Licenses from the State or County – such as Liquor Licenses – may be restricted by geography or population, again making the acquisition the better or only way to go.
  • Purchasing a mature business may allow the purchase of technical skill an easier method, than any alternative.  We sold a Children’s Day Care Center, because the Director agreed to stay aboard.  The Buyer would otherwise have to go through a training process that would have delayed the business acquisition for as much as nine (9) months, effectively killing the deal.  Technical company purchases with a trained staff can be vital to the acquisition of mature companies, and the more technical, sometimes the easier it is to purchase, rather than start up.
  • Obtaining financing for a mature business may be easier than trying to get similar financing for a startup.

There are any number of other reasons to startup rather than buy, or the other way around.  But decisions like that cannot be determined, without some semblance of in-depth research and planning.

(Receive in-depth, personal consulting online, with The BAF Group’s principal at https://clarity.fm/donaldbarrick .

The BAF Group LLC is a full service Business Brokerage, with a history of more than a decade of service. Its Principal Broker possesses 25+ years of Business Sales and Divestiture. Although most of our work is involved in the Mid-Atlantic States, we have represented Sellers and Buyers throughout the Continental USA, and a number of overseas Buyers, as well. Some of our listings and additional information about us can be viewed at www.bafgroup.com. Thank you for your interest.)

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