What to look for when buying a business.
A checklist as long as a persons imagination can be drawn up. However for the purpose of this exercise we list a few items that might assist a potential buyer of a small business in deciding to buy or not to buy.
· Why is the business for sale?
· What was the income of the business and what is the earning potential of the business?
The seller`s income and the buyer`s income will never be the same. No two people make the same business decisions. A simple business decision can have a major effect on the profitability of the business. Some decisions only show their result over months or even years.
To determine the income of a business a buyer can look at the:
- Financial statements of the business, however the financial statements seldom reflect true figures and are often corrupt.
- Purchases of the business. A retail business such as a liquor store can be evaluated by investigating the purchases over a period of at least a year. From that information you can establish an estimated turnover figure. Check the invoices of the purchases. Establish the mark up- percentage of the products and apply it to the products and quantities. The invoices for the overhead cost and other expenses can be brought into the calculation to establish an estimated net profit. A restaurant which have high volumes of liquor purchases will have higher profit margins than a take away which does not have liquor sales.
- Stock holding. There are businesses which have a correlation between their stockholding and their turnover figure. A liquor store with a stockholding of R80 000 can hardly have a turnover of
R400 000 per month.
- Observe. By observing the situation inside the business and store room, one can form a picture
of the operation of the business. If it is a manufacturing business, the work- in- progress can tell a story. If the store room of a liquor store is packed to capacity with quart empty beer bottles, one can assume that the seller is servicing shebeens. This business has a very high turnover with low profit margins. Some businesses are clearly over staffed which inflates the expenses and reduces the profit margins. The cost of the rent in relation to the turnover is critical. A rent which exceeds 15% of the turnover is most undesirable.
- How long did the seller have the business? This information together with the reason for selling can be a factor in deciding to buy the business.
- Did the Business support the sellers household or did they have another income?
If the business was the only source of income for the sellers household for a some time it can count as a positive factor in the decision process.
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