In our practice, we deal with a variety of buyer types. They can range from strategic buyers such as private equity groups and companies seeking to acquire businesses that tend to take a sophisticated approach to the business acquisition process, to individual buyers that have never owned a business and are new to the process. In truth, most of the buyers we deal with fall into the latter category.
To these individuals, we’d like to offer three simple pieces of advice:
- Define your Salary Needs: The first thing any individual buyer needs to understand clearly is how much income they need to draw out of the business. This will pretty much define everything else. Most small, closely held businesses are valued based on a multiple of the Discretionary Earnings (DE) of a business (DE is the total cash flow to the owner). In general, businesses are valued at 2 to 3 times DE. A buyer should be able to readily understand what the available cash flow for a salary is and how much money they will need to invest.
- Bigger is Better: Firms with higher levels of cash flow that show consistency year to year are better buys, even if you have to use leverage to purchase them. Any company yielding more than $500,000 in annual DE will be valued such that there will be plenty of cash flow to service debt, pay yourself a salary and even hire someone to run it if you’re not familiar with the industry. Work with a bank to find out how well qualified you are for borrowing. If you can get a loan, then you’ll be in a better position to buy a bigger—and more likely better—company.
- Exercise Patience: Finding a business that generates sufficient cash flow and meets your criteria takes a long time, and the process should be worked through continuously. We’ve worked with buyers whose searches have taken two years or longer. Good businesses don’t come on the market that often. To find them, our suggestion is to monitor business brokerage websites such as BizBuySell every few days to see what new listings have been posted and stay in touch with several brokers to make sure you’re “top of mind” when they get a new engagement. Alternatively, engage a broker like us to act as a buyer agent whose role is to proactively speak to owners who may not have listed their business for sale.
If you take the time to define your living needs and bankability and plan for the time it takes to find a business, then you’ll be successful in your search for a quality business.