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Copyright 1999
Russell L. Brown
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business opportunities articles index
I've worked with many business sellers and
many more potential business buyers over the
years and let me tell you; it's never easy
getting a deal accomplished! I strongly believe
and firmly advocate that the absolutely best way
for an entrepreneur to successfully get into
business, or expand what they already have, is
buy an existing profitable company. But there
are many obstacles and pitfalls along the way
that must be overcome. It really is a jungle out
there!
To help those who are considering buying or
selling a business, I offer the following
overview of what I think are the twelve most
important Laws of the Business Buying and
Selling Jungle. These have been excerpted in
part from my book, Strategies for Successfully
Buying or Selling a Business, in which each Law
is examined and discussed in much greater
detail.
Jungle Law #1: Lawyers Are Deal Killers!
There certainly is an important role for a
competent commercial law attorney to advise and
prepare the legal structure of a business
purchase and sale transaction. The problems
arise when lawyers see themselves as business
negotiators whose mission is to get the "best
deal" for their clients. They frequently forget
that the "best deal" has to involve both
parties, the buyer and the seller, and that
compromise is usually the best solution. Lawyers
generally have a very difficult time with
compromise in this type of situation because
they often see their role as advising their
clients on how to get the better deal. Usually,
an attempt at a lopsided deal for either party
will result in "no deal" at all.
Jungle Law #2: Caveat Businessus Emptor;
(Let The Business Buyer Beware!)
As a matter of basic principle (and law in
most States), all business brokers dealing with
the public are bound to be honest and forthright
in their conduct concerning the businesses that
they represent for sale. But they also have a
fiduciary relationship (position of trust) to
uphold between themselves and their clients (the
business seller, in most cases). They must
present a business for sale in its "best light"
without misrepresenting any significant facts
but at the same time not pointing out all of the
potential business pitfalls. This usually
establishes an adversarial relationship between
the buyer and the broker as well as between the
buyer and the seller. The best course of action
for a buyer is to trust only what they can
verify during a rigorous due diligence process
and the best approach on the part of the
seller/broker is full disclosure of all
pertinent information.
Jungle Law #3: A Business Is Worth Only
Whatever Someone Is Willing To Pay For It At A
Particular Point In Time!
Buyers and sellers are natural adversaries;
the sellers want as much as they can get and the
buyer wants to pay as little as possible. The
broker is intensely interested too, because the
commission amount is usually based on a
percentage of the total selling price. So, what
process should you use to value a business?
Forget about putting a value on the assets based
on resale value. Forget about comparing the
business to the one in the next town that sold
for a particular amount. Forget about all the
"rules of thumb" like X times earnings or Y
times gross income or some dollar amount per
account or any other shortcut formula. A
business value, and therefore its selling price,
only makes sense when it's based on the
capitalized earnings stream. Capitalization is
simply the process used to determine today's
value of a stream of future earnings. In the
case of valuing a business, "today's value" is
the value of the business, and the "stream of
future earnings" is the expected future years'
profit of the business based on current
earnings. Most small businesses sell for a price
in the range of 2-5 times earnings before
interest and tax expenses are deducted.
Jungle Law #4: A Business Buyer Is Really
Buying A Stream Of Earnings!
The assets of the business are just the tools
of the trade that enable an earnings stream to
be realized. Without the earnings stream, the
business essentially has no value. You should
note that in using this method, a business may
actually be worth less than its fair market
asset value or in many cases worth substantially
more. A seller will be able to get the most they
can for a business by showing a buyer the true
investment value in the business based on
provable earnings.
Jungle Law #5: Ignore All Claims Of
Unreported Income!
This is a very sensitive subject known as
unreported (to the IRS) cash sales. Some
business sellers may try to get you to accept
their claim that they had significant amounts of
cash income that did not show up on their IRS
Tax Return and accordingly want you to include
this phantom income in your valuation of their
business. I highly recommend that you totally
ignore these claims and deal only with the
business's reported income. Who is to say if the
business owner's claims are true? If the
business owner will lie to Uncle Sam might they
not also lie to you?
Jungle Law #6: Most Sellers Are Fibbers!
(Or They At Least Stretch The Truth)
Of course, this is not a completely true law
of the jungle. Most sellers are honest people
trying to get by in life like everyone else.
However, a buyer should approach all information
provided in the sale with some skepticism.
Buyers are making a major financial decision and
should carefully consider all information
presented during a detailed due diligence
process. If a buyer approaches the purchase of a
business with a good healthy dose of "prove it
to me," then it will be difficult for them to
get burned.
Jungle Law #7: If A Seller Really Wants To
Sell, You Probably Shouldn't Buy!
Whenever you look at any business for sale,
you should approach the situation with a great
deal of caution. You should make it your
business to verify all of the facts possible
about the business, including determining the
reason for sale. There are some very good
motivations for sellers to sell and other ones
that are not so good. Usually, the best reason
for a sale from the buyer's perspective is the
planned retirement of the owner or a sale
necessitated by illness. By far, the best
potential purchase is a long-standing
single-owner profitable business where the owner
is approaching (or at) retirement age and is
generally reluctant to sell but realizes that he
eventually has to.
Jungle Law #8: 99% Of Potential Business
Buyers Never Buy A Business!
This alone may be reason enough for a seller
to retain a business broker to represent him in
selling the business. A professional broker
knows how to sort through the many non-qualified
potential buyers to get to the few who actually
do have the means and motivation to buy a
business. Once the unqualified potential buyers
have been culled out, still only somewhere
around 50% of these folks eventually buy a
business. For this and many other reasons, I
strongly recommend that sellers use a
professional business broker to represent them
in selling their business.
Jungle Law #9: Always Assume There Are
Skeletons In The Closet!
Most businesses have some negative feature(s)
that the seller will be reluctant to talk about.
You can be sure that any problems will come out
later as buyers begin analyzing the business
(due diligence), and it could kill the sale if
the problems are perceived as cover-ups. This is
because buyers will ask themselves (logically)
"if they hid this fact from me, what else are
they hiding?" If the negative aspect(s) is
clearly presented and discussed with the buyer,
it may not be a serious problem because the
buyer may feel that it can be overcome, avoided,
or changed. The seller should strongly consider
this and determine all of the possible negative
factors that could affect the sale of the
business. If the problems are very serious and
non-correctable, the business may not be
salable.
Jungle Law #10: Someone Will Always Get
Cold Feet Just Before The Closing!
Closing the deal is always difficult, but
usually the shortest part of buying or selling
an operating business. After all, the
valuations, investigations, and negotiations are
complete and now it's a matter of getting
everything into writing in a form that satisfies
everyone so that the transfer of ownership of
the business can take place. However, you can
definitely count on someone getting cold feet
just before the closing. Be prepared for this!
The seller and buyer may both start to wonder if
they are really getting a fair deal. The best
way to get ready for this is to anticipate it
happening and then to deal logically, reasonably
and unemotionally with it at the time.
Jungle Law #11: Negotiations Must Stop At
The Signing Of The Purchase And Sale Agreement!
Once the Purchase and Sale Agreement has been
signed by both the seller and buyer, there is an
excellent chance that the sale will actually
take place. But, there must be an end to the
negotiation process or things will begin to
unravel. The deal at this point is like a house
of cards with many parts of the negotiated deal
contingent on another part. Trying to reopen
negotiations after a Purchase and Sale Agreement
has been signed will most likely lead to a
collapse of the entire deal.
Jungle Law #12: After Buying A Business,
Do Not Change Anything (At First)!
Of course, this doesn't hold true if you're
buying a turnaround situation; but in general,
if the business you are buying is profitable,
leave it alone while you learn how to manage it
in accordance with the status quo. One of the
experiences I have had that best illustrates
this point is as follows: One buyer of a fast
food chicken franchise soon after the closing
changed meat suppliers because he found that he
could get the chicken at 10¢ a pound cheaper.
What the new owner did not realize was that
these chicken pieces were 25% larger than those
provided by the original supplier. The problem
with this is; the franchise doesn't sell chicken
by the pound; it sells it by the piece. The new
franchise owner completely wiped out his profit
margin by paying a smaller price per pound but
delivering to the customer 25% more chicken at
the same retail price!
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