Entrepreneurs and small businesses are the backbone of the American economy, and business owners make a great living at it. Once you have decided that you want to own your own business, what’s the next step? Is it better to start a new business from scratch and build it from the ground up, buy a franchise, or buy an existing business? The thought of buying a well-established and profitable business is often overlooked by new entrepreneurs.
As with any investment, there are risks involved in owning your own business and these risks are different for starting a new business vs buying an existing business. Before you take the plunge, consider these factors:
The Case for Buying a Business
A surprising fact that many entrepreneurs are unaware that there are thousands of existing businesses for sale and you don’t have to build one from the ground up. Equally surprising is the fact that businesses for sale are rarely distressed or selling for financial reasons such as declining sales or profitability problems. Most businesses sell for personal reasons such as retirement, health issues, or the owner is just burned out after running it for 20 years. These are viable and profitable businesses with employees and infrastructure in place. Most importantly, these businesses have an ongoing stream of cash flow and in many cases this cash flow is substantial.
One should not underestimate the benefits of immediate cash flow. Buying a profitable business with established customers and steady cash flow substantially reduces your risk and eliminates the startup period where a new business burns through cash every month.
All of these factors are already in place when you buy a successful existing business that can be transferred to a new owner. The business is proven in the marketplace and has revenue and earnings, which means there is immediate cash flow and an existing customer base to build on. You will still need working capital to operate the company, but you won’t have months and months or negative cash flow while you are starting up and launching a new concept.
Vendor relationships are established in an existing business, employees are trained and knowledgeable about the business, and the business is already operating. Office equipment plus any additional capital equipment is transferred to the new owner as part of the sale free and clear of any liens.
Many small and mid-size businesses qualify for SBA financing of the business acquisition. If both buyer and the business qualify you can purchase a business with 10% down, and 10 year financing terms. Financing terms like this are simply not available for start-ups.
There are many hurdles a new business has to overcome, whereas an established business has already overcome these challenges, and has been proven to be successful.
What about Starting a Business?
An important factor to consider when starting a business is that a majority of businesses that fail do so within the first five years of starting. There are various reasons this happens with start-ups, such as insufficient working capital to survive until the company is profitable, more costly than expected start-up costs, and more. When you’re starting from scratch your business is unproven, there are no customers, no vendor relationships, no employees, no inventory (if needed), and no equipment, office, or infrastructure in place. These things take both time and money to put in place. It is critical not to underestimate how long it will take and how much it will cost.
Working capital and a cash reserve fund is a critical aspect of your start-up plan. The most common cause for new businesses failing is they simply run out of cash and don’t have sufficient capital to survive while building the business. In most cases when you start a new business there are no customers eagerly waiting to buy your products or services on day one and it takes time to build your customer base and get your name out there. During this start-up period, your new business is losing money every month.
What about Buying a Franchise?
Buying a franchise reduces the risk of starting your own business and franchises offer procedures, systems, and a turn-key approach to opening your new business. With that said, the start-up costs are still substantial and nearly always significantly underestimated. While your new franchise brings brand recognition, there is still significant time required to build your local customer base and sales revenue, and during this period your business will be losing money every month (this is where the start-up expense is nearly always underestimated).
If you have your heart set on and your mind made up on a franchise something to consider is buying an existing franchise location. Existing franchise locations are for sale and the cost of buying an existing location vs the cost and risk of opening a new franchise location is usually a good deal, less costly, and lower risk than opening a new location from scratch.
Read more about the best times to buy or sell a business.
Financing the Purchase of a Business
Financing is something that is often overlooked or many assume financing is not available. While financing is seldom available for start-ups, it is available for the acquisition of established businesses that have good financials. SBA loans are the most common financing for small business acquisitions with funding up to $5 million. In some cases, SBA financing is available for new franchise purchases.
In the case of a start-up, your only financing alternatives are personal funds, personal loans (e.g. HELOC), credit card debt (very expensive), friends, and family.
Whether or not you buy or start a business you always need working capital to keep the business and yourself going. Working capital is often underestimated and is the most common thing that gets entrepreneurs in trouble. The advantage of buying an ongoing business concern is that on day one you have immediate cash flow whereas with a start-up it will likely take months before you recognize a profit from your business.
Getting Started
Here are some resources for getting started on buying a business:
SBA Financing for Business Acquisitions
“Buy Then Build”, by Walker Diebel available on Amazon
“Own Your Future, Straight Talk about Buying a Business and Building Your Future” book by William Grunau
Business for Sale Websites
If you make the decision to buy a business here are several sites you can check for businesses for sale:
