It is easier to buy a small business than it is to start one from the ground up, because the business already has equipment, inventory, employees, customers, and a — hopefully good — track record. When you look at it like this, it all sounds great, right? There are still risks involved in buying a small business that you need to watch out for, so you do not end up buying a ship that is already sinking.
Take a look at their discretionary income, which is the amount of money the owner makes after paying the business expenses. While the books may show that all expenses are being paid and business is consistent, the discretionary income may be declining. If it has been declining, that is a serious warning that the business may be in trouble.
If the discretionary income is less than you can live by, you also may want to reconsider purchasing the business. Putting yourself in a position that you know will cause you to struggle is going to cause you unnecessary stress.
Another red flag with the discretionary income is if the owner is not being forthcoming with you about the numbers, they may be attempting to hide accounting problems or something funny with the money.
When you are buying a business, it is important to talk to the existing employees — especially any leads or managers. This can give you a good idea about the culture of the business. Try to find out if the employees are happy, what their complaints may be, and if they plan to stick around after the business changes hands.
Talking to the employees can also give you a better picture of any skeletons in the business’ closet that the current owner does not want to share. If the business was ever a crime scene or had legal problems, you need to know, and the employees can help you learn about these things. You may learn the real reason the owner wants to sell the business, assuming they were dishonest with you about their reasons.
Bad or Old Equipment
Is the equipment getting old and starting to fall apart? Does the furniture look like a 70s reject? If your answer to either of these is “yes,” you need to discuss this with the owner.
Sometimes, when someone decides to sell their business, they stop bothering to invest money in it to keep the equipment running smoothly and help the business keep growing. Looking at the expenses over the last 12 months can help you determine if anything is being neglected. When looking at the expenses, do not just focus on equipment, also see if other parts of the business are being neglected, like advertising and staff training or hiring.
If you need to replace or repair equipment or furniture right away, you may end up having some big expenses on top of what you are paying to buy the business. You may be able to negotiate replacing the equipment as part of your purchase contract, but you need to know it needs replacing first. Talking to the employees can help with that too. They are the ones who use the equipment every day, so they know all of its quirks and problems.