There are a number of considerations to bear in mind and questions to ask when considering to buy an already established business. These questions should be asked before you take the leap and sign your life away.
We take some insights from Associate Director in the audit division of BDO Cape Town, Mary-Anne Greisdorfer.
- Have you analysed the financial records?
The company’s 3 year financial records including balance sheets, profit and loss statements, tax returns, purchases and sales records and bank statements should be reviewed. The records should be analysed in terms of potential growth.
“The financials form the basis of everything, and your assessment of these is the first point of business as you want to ascertain the viability and profitability of a business before proceeding. Being able to review a fully audited set of financial statements is first prize”, says Greisdorfer.
“Second to this, if audited financials are not available, is a compilation of the financial statements. You must also ascertain who did the audit or who put together the compilation – ensure it is a reputable firm with a strong track record. Also be sure to ascertain what accounting framework they use”.
- Have you assessed the tax implications?
Once business shares are purchased or business assets in the form of buildings, there are Security Transfer Tax (STT) levies to be paid by the purchaser. This adds to the initial purchase price of the assets or shares which should be considered in advance. The purchaser should ensure that he is aware of all the costs incurred to him or her and whether he or she is able to afford it.
- Why is the seller really getting out?
A prospective business buyer should ask themselves why the seller wants to sell. This is important in understanding the dynamics of the business and whether it will be a good investment.
“Take the time to ask the seller about why they are selling. Build a relationship with the seller and be thorough in your due diligence”, advises Greisdorfer.
- Who is steering the ship currently?
The person who steers the ship is generally a company’s CEO or management team. They are fundamental in the functionality of the company. Therefore, it is important to find out who these individuals are and whether the company’s success is dependent on them.
“Ask things like: Is the company’s success heavily tied to this person/these people? Do you feel comfortable that the business can do well if that person/those people leaves the company?” says Greisdorfer.
- What business model does the company employ?
A company’s business model is the backbone of the company. It translates to the company’s failure or success. Therefore, questions like: “what business model/strategy does that business use to maximize its profit? For example, does it offer the lowest possible price so it can sell more products or does it sell fewer, higher-quality items but earns a larger profit per product sold” should be asked, says Greisdorfer.
- Do you have a competitive advantage?
“Do you have a competitive advantage – either through superior products, patents, brand power, technology or operating efficiency? Ask what is unique about this business’s product or service?”
A company’s competitive advantage essentially sets it apart from other company’s and this will lead to good company performance.
- How does the business make its phone ring?
This speaks to the marketing of the company. A company’s marketing is key in growing its customer base, says Greisdorfer.
“So it is important to know what marketing the business has engaged in and what was successful versus what was not. Also ask if the product or service is likely to maintain or improve its marketability or is it in danger of becoming over-sold, out of style or obsolete?” adds Greisdorfer.
Public perception of the business is another means to gather the reception of the company. This will provide you will raw, truthful information required to make a value judgement on the company and its overall success.
- Is the revenue on the up?
Revenue is the turnover or amount of money a business makes from sales of its products or services during a specific period.
The revenue of the company is however immune to the economy and may not necessarily increase annually. This is especially true in a depressed economy. Yet, a company that continues to fall in revenue indicates trouble. Therefore, Greisdorfer advises that the sales be assessed year-by-year and month-by-month.
- Are the profits increasing?
A company’s profits or net income is the amount of money a company earns from sales, after expenses and taxes have been paid.
A company with growing profit indicates a business’s success. However, inflation should be considered in years to come.
“Also look at year on year trends in expenditure and ascertain things such as if the business has been cutting costs to boost profits? Are there maybe unrecorded liabilities that would understate the expenses to boost profits? Is the business carrying more stock at year end as this reduces the cost of sales numbers and thus increases profits”, notes Greisdorfer.
- How much debt does the business have?
A company’s debt can be determined by doing a debt-to-equity ratio. This will tell you how much debt the company has compared to the amount of equity the business holds. This indicates how well the business is able to repay its debts in the instance of financial problems.
“Generally, the lower the debt-to-equity ratio a company has, the less risky it is to you as a buyer”, says Greisdorfer.
- Turnaround time on stock and payment to suppliers
The business’s volume of stock and turn-around time between stock sold and the debtor paying is important to discern. If the volume of stock is excessive and the turn-around-time that the debtor pays is slow, then the company may lose out on profits.
- Are you savvy about the legalities?
The terms and conditions of lease agreements and your rights and obligations under such agreements are crucial to understand. This will ensure that you do not enter an agreement which may hold you liable for further expenses which you were not aware of.
Also, buyers should research whether there are any legal proceedings pending against the current business owner. These legal proceedings may be passed over to the new business owner under the terms and conditions.
- What is your exit strategy?
“This is an important question to ask even as you make the decision about whether to buy a business or not,” says Greisdorfer. “This should be considered right from the start. You should also have a buy-sell agreement in place if you happen to have any partners involved in the business.”
– BUSINESS REPORT ONLINE