Being Smart with the Sale of a business
Are you thinking about purchasing or selling a business? Can you determine the outcome before the sale is completed?
I had the opportunity to meet with the husband of one of my longest and dearest clients. She had recently married “Francisco” (Not his real name, but I like how it sounds.)
Click the image
Francisco has worked at a business in the construction industry and the owner was willing to sell to Francisco. I do not know all the facts related to the sale, and I do not know the history between Francisco and the owner. I don’t have to know those things for the purpose of the point I’m trying to make. The owner is seller financing the sale of the business to Francisco. There is a 500,000 payable that Francisco makes monthly payments on and then when Francisco sells the business to someone else, the owner gets another 500,000. So in theory, if Francisco never sells the business, the previous owner never gets the second 500,000. That being said, in theory the business has a valuation of one million.
Francisco just sent me the previous year tax returns. My first, immediate, precise reaction is that this business is not worth one million dollars. The revenue for the previous two years was:
1.7 million &
Top line should not be the deciding factor here. Especially because this business is in the construction agency. Cost of Goods sold (so covering materials and subcontractors) was
1.2 million and
That means in both years, the Gross Income (Top line revenue minus cost of goods sold) was around $550,000. Mike Michalowicz is probably having a stroke reading this. (If you don’t know who he is, you should check out his books.)
At best the company is worth $550k. Wages for both years were around $340,000. That means after paying your people to do the work, paying for materials and all other direct expenses to get your product complete, you have $210,000 for operating expenses, including your own wage. The previous owner couldn’t make that work. He ran a 135,000 to 160,000 loss for the previous two years.
What would you pay for a company that would lose you $150,000 per year? My first thought is that you would have to pay me something to take that on. I am pretty sure the deal is done. Francisco is in it now and making monthly payments to the previous owner.
What is the take away?
If you plan on buying a business, consult with a professional. I’m also not referring to professionally licensed business valuators. Those guys are ridiculously expensive for most small businesses. Not to mention at the end of the day, the price has to be agreeable to both the buyer and the seller. But having that consultation would have at least giving Francisco some concrete thoughts as to why it is not worth one million dollars.
What would you do if you are Francisco? Start looking hard at all your expenses and start cutting and making your business more efficient. Adopting a Profit First setup is also recommended here. (I’m not a certified Profit First professional…..yet….maybe they will accept me into their fold. But I believe the Profit First approach is the solution to most small business owner’s money problems.
Check out Mike Michalowicz’s book: Profit First