SHOULD YOU BUY AN EXISTING BUSINESS OR START ONE FROM SCRATCH?

Buying an existing business offers many benefits. Perhaps one of the most important ones is that you get immediate cashflow. In addition, it is easier to get financing from banks or other institutions, or funding from investors, because there is a financial history that they can evaluate. Another benefit is that, just like for the new owner, the risk to banks and investors will be reduced by the other elements that will be discussed further down.

The new owner will get a business that took 5 to 30 years of effort and development by the current owner, but he will have to pay a purchase price equivalent to only the next 2 to 4 years of cashflow. Along these same lines, buying an existing business offers a great return on investment (ROI), typically in the range of 20% to 50%. Although it is true that in a perfect and efficient financial market this rate of return is commensurate with the risk taken, it still compares favorably in absolute terms with other alternatives. For example, the average long-term historical return of the S&P 500 is in the range of 7% to 10%. Most bonds (unless you are investing in Argentina, Greece, or Puerto Rico) fall somewhere in the range of 4% to 8%, depending on their exact type and risk. With real estate, you can a reach a return-on-investment of 12% or more, but you will also have trade-offs. Chief among these trade-offs is a significant lack of liquidity when compared with trading stocks and bonds. Selling stocks or bonds takes a few seconds and costs a few dollars. Selling real estate can take months or years, and it will cost you thousands of dollars. Depending on how you invest in real estate, you may also have reductions in ROI related to taxes, or maintenance, insurance, and other expenses. In any event, it’s clear that buying an existing business can have a very attractive risk/reward profile, especially if the buyer can develop the appropriate selection and risk mitigation strategies. Helping a potential buyer achieve this is one of the objectives of my book (link at the end).

Finally, there is another important benefit to buying an existing business: everything is ready to go! The current owner is conducting business every day, one way or the other. He has customers, a brand, staff, suppliers, business infrastructure (computers, telephone, facilities), etc. The new owner may have good ideas for changing or improving the current business operations, but the fact remains that the current owner has operated successfully for many years with his current system.

The current owner has developed a proven business model. He took the initial risk and survived. He has already gone through the growing pains and done all the “trial and error” for the new owner. Don’t forget — 50% of small businesses fail during the first 5 years. The current owner is selling a business that has successfully jumped this hurdle.

If the transaction is structured correctly, the current owner will train the new owner completely and to his satisfaction. Further, the current owner may even retain a financial interest in the business and will have a vested interest in the new owner’s success; and therefore, will be willing to provide the appropriate ongoing support to ensure that this success happens.

For additional information related to buying or selling a business, please refer to my book: SECRETS TO BUYING OR SELLING A BUSINESS

Sal is a business broker with over 30 years of business experience, both as a small business owner and as a corporate executive for global corporations.