The Advantages of Buying an Existing Business
Between 2010 and 2015, 63% of New Zealand businesses that began trading did not exist after 2 years. Purchasing a business that is already operating dramatically reduces the risk of one of your largest investments, James Ashwin shares some of the main advantages when it comes to investing into an existing business over starting a business from scratch.
Successful businesses often continue to be successful
A business that has been profitable for some time often reflects an owner that has established a solid customer base, has developed successful relationships with critical suppliers and has control over the day-to-day operation of the business. When things have gone well, it's important for a new owner to spend a period of time in the business to understand why it has been successful and then make changes or improvements slowly and methodically, it's important to focus on the relationships with customers, suppliers, and staff that have made the business a success. This advantage often accompanies the second advantage, using the experience of the previous owner.
Leveraging the experience of the previous owner
In cases where the business boasts a track record of success, a new owner may negotiate with the current owner to stay on as a consultant for a period of time. This allows for a smooth transition during which the seller introduces the new owner to customers or suppliers and shows the new owner how and why the business ticks. The previous owner can also be very helpful in unmasking the unwritten rules of the business like whom to trust, expected business behaviour, patterns in turnover/profitability and many other critical intangibles. In some cases hiring the previous owner as a consultant for the first few months can be a valuable investment for continued success.
The beauty and simplicity of a turn-key business
Starting a business from scratch is not only high risk, but can be a very daunting, time-consuming task, purchasing an existing business is one of the fastest pathways to success in entrepreneurship. When things go well, purchasing an existing business saves the time and energy required to plan and launch a new business. The buyer inherits a business with a team and systems in place that should already be generating revenue and profits, the two critical questions to ask here are:
1. “What do I gain by acquiring this business over starting something on my own?”
2. “If I start a business on my own, how much $$ and time will it cost me before I become profitable and reach the same point of the existing business?”
You can't put a price on a superior location
Securing premium sites and locations across NZ is becoming more and more difficult. When the location of the business is critical to its success, purchasing a business that is already in the right location may be the best choice. In fact, an existing business’s greatest asset may be its location. A location that provides a significant competitive advantage may be reason enough for an entrepreneur to decide to buy instead of build, we regularly see this in hospitality businesses where it's often cheaper and easier to purchase an existing business and convert into their dream business. Opening a second class location and hoping to draw in customers often proves fruitless unless you're a very experienced operator, if you're looking at a brand new site or location the question to ask yourself is "If this site has been available for X weeks/months, why has someone else not taken it?"
Employees and suppliers in place
Experienced employees that continue to work for the business are a significant resource and asset because they can help the new owner learn the ropes of the business beyond the Vendors assistance period. In addition, an existing business has an established set of suppliers with a history of business transactions. Vendors can continue to supply the business while the new owner assesses the products and services of other vendors. Thus, the new owner can take the time needed to evaluate alternative suppliers.
Installed equipment with known production capacity
Acquiring and installing new equipment can impose tremendous strain and uncertainty on the financial resources of a business. The buyer of an existing business can determine the condition of the plant and equipment, its capacity, its remaining life, and its value before buying the business. In many cases, the buyer will purchase the existing physical facilities and equipment at prices that are significantly below their replacement costs. In some businesses, the purchase of these assets may be the best part of the deal.
Inventory in place
The proper mix and amount of inventory are essential to both cost control and sales volume. A business with too little inventory won't satisfy customer demand, and too much inventory ties up excessive amounts of capital, increases costs, reduces profitability, and increases the likelihood of future cash flow problems. Many successful established business owners have learned a proper balance of inventory. Knowing the “right” amount of inventory to keep on hand can be extremely valuable, especially when purchasing businesses that experience seasonal fluctuations or those that must meet the needs of high-volume customers.
Established trade credit
Previous owners have likely established trade credit relationships of which the new owner can take advantage of. A proven track record in a business gives the purchaser a lot of leverage in negotiating favourable trade credit terms because at the end of the day, no supplier wants to lose a good customer.
Easier access to financing
Banks and other lending institutions perceive the risk associated with buying a business with a solid history of performance to be significantly lower than that of an unknown start-up, this generally makes it much easier for the new owner to secure financing. A buyer can point to the track record of the business along with plans for improving it to convince potential lenders to finance the purchase. Many lenders will finance 50% of the purchase price of a business with the remaining 50% required in cash or equity in a property, depending on a number of factors, such as the industry in which it operates, its track record of success, its profits, cash flow, assets, and collateral.
Some existing businesses can be purchased for a great price, especially in the current market. If the current owner needs to sell a business quickly, they may have to set a price for the business that is below the market value. Any special skills or training required to operate the business will limit the number of potential buyers; therefore, the more specialised the business is, the greater the likelihood is that a buyer will be able to purchase the business at a sharp price.