“More and more these days I find myself pondering how to reconcile my net income with my gross habits.” – John Nelson
I happened to find a tattered article from an old business journal which contained a variety of “absolutes” about buying and selling businesses.
It reminded me of the time a couple of years ago when I found a marketing article which talked about the importance of name recognition in successfully operating a business. A surprise came at the end of the article when I read that the article was written in 1951 by a funeral director! As the saying goes, “The more things change, the more they stay the same.”
Certainly, one of the “laws” that has withstood the test of time is “what a business buyer is really buying is a stream of earnings.” Over the years the term may have changed to “cash flow” but the principle remains the same. The assets of any business are simply the tools that help build its cash flow, a business essentially has no value. When looking at a business under these terms, a business can easily be worth less than the fair market value of its assets, or in many cases more.
Consider the following recent example from two Northern Nevada businesses. One business was a manufacturing company that had over $1.2 million in equipment and the other was a roofing company with only $45,000 in hard assets. Both grossed about $3 million dollars annually. The manufacturing company generated $200,000 in cash flow and the roofing business earned $800,000.
Even though the manufacturing company had significantly more hard assets, most buyers found the roofing business a much more attractive company because of significantly stronger cash flow. A professional business broker understands this principal and can help expedite a transaction for both the buyer and the seller by uncovering the real value of a business.
The article I found also stated that “99 percent of potential business buyers never buy a business.” Although the 99 percent figure may be a little high based on my own experiences, it’s pretty close. This by itself may be reason enough for a seller to retain a professional business broker to represent their interests in selling their business. There are a number of reasons why this number is so high.
Buyers often have unrealistic expectations regarding the price of a business and the capital required to purchase it. Or, they might have an urgent “need” to get a business but lack the courage to take the “leap of faith” necessary to go through with the purchase. A good broker knows how to separate the non-qualified buyers to get to the few who actually have the means and motivation to buy a business.
Even then, sometimes a buyer may experience a financial setback that impacts their ability to meet their financial obligation as a part of the deal. This is what happened last year when the buyer of a Reno based business that had cash flow in excess of $1.3 million lost a significant amount of money in the stock market and couldn’t excuse the deal.
Another of the article’s points was that “negotiations must stop at the signing of the Purchase Agreement.” Once this document has been agreed to and signed by both parties, there is still only a slightly greater than 50 percent chance that the actual sale will take place because of the contingencies often involved. If either party try to reopen negotiations, it will most likely lead to a collapse of trust and then a collapse of the deal.
For example, last September a buyer of a local business constantly tried to re-negotiate the purchase price. When this didn’t work, the next “strategy” the buyer tried using ways to secure more inventory than what was originally agreed to. When this tactic failed, so did the deal itself. Having a business broker involved can minimize this from happening by reminding both parties about the terms and conditions of their contract.
As mentioned earlier, even though the landscape and business environment has changed over the years, many of the reasons why a buyer and seller should use a business broker have not.