People buy existing businesses for many reasons. Some investors want to reduce their risk by thoroughly researching the past financial statements; others want to find a “deal” in an under-performing business in which they can “turnaround” the business for substantial gains. When I look for an existing business to buy, I use the following filters to quickly screen potential businesses out from the crowd.
3 Years Running.
The existing business must be running for at a minimum of three years. I look for businesses that have survived the dangerous start-up phase. Most small businesses fail within the first 3 years, usually due to poor planning and cash-flow shortages. If a business has made it past the 3 year mark, then I run it against the next filter.
Positive Cash Flow.
The business must be profitable, not just on paper, but actually be providing the owner with discretionary income. Cash flow can be confusing. I simply look at like this; take all the revenue a business makes, less what it takes to earn the revenue, less all the overhead of running a business (including wages/salaries) that equals cash flow, or owner’s discretionary benefit. This is before taxes and doesn’t include written off expenses like depreciation. It’s the cash left on the table. If a business doesn’t have cash flow, I don’t consider it.
Manager in Place.
The final screening filter I use is whether the business currently has a manager running the operations. I’m looking to invest in a business, not a job. Meaning, I want the business to run with my oversight and not my hands-on involvement. If the business currently does not have a manager, I look to see if it has enough cash flow to cover the expense of hiring a manager.
If an existing business passes these three initial hurdles, I then start the process of due-diligence and research. This of course is when I finally decide whether the business makes sense to purchase.
Buying an existing business, especially an existing franchise business, can help you reach your goals of independence and security.
