I had the pleasure of speaking to a very sharp woman considering purchasing a small business. The current owners of this service business wanted her to make an offer.
The best small business tip I ever received was from Phil Clements, CPA, J.D., LLM (he has more letters than that, I just can’t remember them all).
When you buy a small business you’re looking for four things:
- Unique value that’s hard to copy (reputation, intellectual property, proprietary process or designs)
- A client base with predictable, profitable future revenue streams
- Predictable cash flow (which means expenses are under control)
- Strong prospects for growth
If any of these conditions are not present, you might be buying a profitable business today that has meager prospects in the future. Or, you might be paying a premium for a business that is in decline.
The other challenge with buying a service business, is the real value in the business is in the loyalty of the customer base and the uniqueness of the value the business provides.
The unique value drives customers buying from you instead of the competition.
The customer base drives revenues and gross margin.
The most important small business tip is this: if the business doesn’t have repeat buyers or it churns its client base faster than a normal 10-15% per year, don’t buy the business. It probably doesn’t pay.
The other trap to look for is a where the owner claims the business throws off a lot of free cash flow, but can’t prove it by reviewing the tax returns for the last two years.
That’s a bad sign when the current owner is telling you they pad their expenses to reduce their tax burden.
You have no idea how to prove what the business is really generating. Our small business tip is this; we recommend you either hire a forensic accountant to comb through expenses line by line or stay away.
The good news is, over $4 trillion aggregate annual revenue from small businesses must either change hands or close their doors. Why? The older baby boomers in the U.S. want to retire.
That means lots of opportunity out there.
If anything we’ve said about revenues, free cash flow, or gross margin is confusing, watch our Instant CFO Course. A $249 value for only $49.
You get the Instant Marketing Manager and Instant Sales Manager Courses as a bonus.
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In your corner, as always.
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