Chapter 3 Finding Opportunity in an Existing Business Entrepreneurship and Small Business Management Chapter 3 Finding Opportunity in an Existing Business
Ch. 3 Performance Objectives Understand the potential benefits of buying a going concern. Identify potential drawbacks of purchasing a business. Learn how to identify and evaluate purchasing opportunities.
Ch. 3 Performance Objectives (continued) Learn how to determine the value of a business. Learn how to negotiate and close the deal. Recognize joining a family business as an entrepreneurial pathway.
Why Buy an Existing Business? Quicker, easier start-up Employees bring knowledge/relationships Seller may help with transition Reduced risk due to established business structure and customer base Cost may be less to buy than to start a similar company
Potential Pitfalls of Buying an Existing Business Higher initial investment Known and hidden problems Not a good “fit” with personality, lifestyle, or work-environment requirements Existing customers may not remain customers after business is bought
Finding Available Businesses Direct inquiry/networking (employer, customers, competitors, friends, family) Solicitation by direct mail/advertising Internet research Business brokers who buy and sell businesses for a fee
Evaluating a Business for Sale Start with background data from owner Scan Internet for press coverage and legal issues Ask outside parties for information: bankers, suppliers, employees, customers Examine internal and financial documents Identify real reason owner is selling Be alert for conflicting information
Three Methods to Determine Business Value Asset valuation—analyzes the underlying value of the firm’s assets Earnings valuation—based on a stream of earnings multiplied by the capitalization factor or by the Price/Earnings ratio Cash flow valuation—uses projected future cash flows and time value of money
Standards for Asset Valuation Book value—reported in firm’s records Adjusted book value—considers actual market value versus the stated book value Liquidation value—net cash potentially obtainable from the quick sale of assets Replacement value—cost of newly purchasing the assets
Determining Variables to Use in Earnings Valuation Type of earnings Historical earnings Future earnings under current ownership Future earnings under new ownership Measure of earnings Earnings before or after tax? EBIT or operating income?
Non-Financial Factors Affecting the Offer Price Market space Competitive environment Firm’s legal and regulatory status Pending physical or labor changes Need for investment in plant, property, and/or equipment Value of customer “goodwill”
Negotiating and Closing the Deal Secure qualified legal and financial counsel. Establish what is being purchased: assets only or “whole business.” Determine the terms of the sale. Consider buying the business over time. Hold a formal closing to complete all legal documents.
Joining a Family Business Two or more members of same family managing and/or working in the business May provide opportunities to: Foster entrepreneurial talent Build on a solid foundation for future success Turn around a floundering business Important to communicate clearly about roles, compensation, ownership, etc.