Purchasing a Business – Part 1

by | Jan 20, 2021 | Blog

A New Year always brings new opportunities both personally and in business.

It’s at this time that many of our individual and business clients begin to get serious about purchasing an established business with one of the most common questions being: “We’ve identified a business that’s for sale – so what should we be looking for?”

We often think how such a simple question leads to such a detailed response – at least that’s what it feels like. So, in our first 2 blogs of the year, we’ll attempt to answer this question.

Part 1 will focus on 3 basic areas:

  1. Understanding the vendor
  2. Research, Research, Research
  3. Conducting Due Diligence

Part 2 will deal with:

  1. Determining the value of a business
  2. Conducting negotiations
1. Understanding the Vendor?

When assessing the suitability of a business, it’s important to understand why the vendor is selling in the first place. Understanding this question can assist you in deciding to purchase the business and it can give you an advantage in negotiations over price. Questions to keep in mind include:

 

    • Does the vendor have to sell?
    • Why is the vendor selling? Are there personal reasons (ill health, marriage breakdown, retirement)?
    • Is the vendor under financial pressure – whether in the business or personally?
    • Is the vendor attempting to sell the business before an undisclosed change in market conditions or business circumstances occurs?
    • How quickly does the vendor need to sell the business?

 

2.  Research, Research, Research

Purchasing a business is a big deal – in many ways it can make or break you. If you’re looking to purchase a business, we’d encourage clients to do as much research as they can. This research should include:

 

    • Research the market the business operates in. Has there been any changes in market conditions or are any changes expected in the short/medium/long term?
    • Are there any possible major industry wide disruptors that can be foreseen that may impact business performance?
    • Who are the main competitors of the business? How are they trying to differentiate themselves from the business being sold? What dangers do they represent to the longevity of the business being sold? Research competitors and if possible, visit competitor premises.
    • Does the business being sold have any competitive advantages? Or can you see opportunities to create an advantage?
    • If possible, gain access to some current customers and suppliers to the business.

 

 3. Conduct Due Diligence

Before deciding to purchase a business, it’s critical to conduct due diligence. We usually break due diligence into two parts: Financial and Operational.

 
Financial

It’s important to review all relevant financial documents for at least the preceding 3 financial years. Information to review should include but not be limited to financial statements, tax returns, BAS’s, tax portals, records of debtors and creditors, sales records, cash flow / profit and loss forecasts, stock records, asset schedules, employee entitlements including superannuation obligations.

It’s always important to look at several years of financial records. Many people purchasing a small-medium business prefer to see clear trends. For example, a business that demonstrates solid growth in revenues paired with improvements in net profitability over a 3 – 5 year period may be more attractive than a business that has experienced a sudden spike in revenues and or profits in the financial year just before sale. When viewing financial information, you should also be looking for consistency in accounting methods and reporting.

What debts does the business have? Are there debts owing on assets that are registered on the PPSR? Are there refunds / warranties / potential claims that exist for the business?

 
Operational

Conducting a health check of business operations is also a very important part of conducting due diligence. Areas to cover include:

    • Are all appropriate Contracts, Agreements and Licenses in place to enable a new owner to continue the ordinary operations of the business? This includes arrangements with suppliers, client/customer contracts, licenses and permits with relevant authorities/agencies etc
    • What assets does the business have? What is the condition of assets such as plant and equipment? If the business is asset heavy, it’s always a good idea to have those assets independently valued.
    • Is inventory included in the purchase of the business? What is the current state of the inventory and how is it managed and stored?
    • Will you continue to operate the business from its current premises? If so, review the terms and longevity of the lease including whether the lease can be assigned to a new business owner.
    • View employment contracts, review pay and conditions and ensure all employee entitlements are being met.

 

The above does not represent an exhaustive list of what you should cover when making the decision to purchase an established business. And remember that when making the decision, there is assistance available in the form of your professional advisers.

 

Stayed tuned for Part 2 of our Blog next week. But as always, if you require further information or advice please call or email your regular DRB Group contact.