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Tuesday, May 25, 2010

When Is Buying a Business From Someone a Bad Idea?

Question: I'm considering the purchase of a homebuilding business from a distressed seller at a deep discount. I value your opinion.....and I like your cocky approach to business. When is buying a business from someone a bad idea?
A.U. Wilmington NC

Answer Marc Charles;

Well.....this is kind of a loaded question! First of all I'm never enthusiastic about buying a business from someone when I can start, launch and develop a business in the same market for a lot less money.

Granted, there are exceptions.

You can read my formulas for considering a business for purchase in past columns, articles and in this blog's archives.

But let's look at this realistically.

The only real thing a business can offer is a customer list, maybe location, and I suppose reputation.

The physical assets like equipment, real estate, buildings, cars, etc. are rarely worth what a person is selling them for.

So, you focus on the customer list and ACTUAL real time orders.

Granted, employees and management matter....but as we all know, people can be replaced, as hard as that may seem.

This is a drawn out response....but I'll give you an example of a very bad deal.

In Rockport Maine a guy bought a home building business from the founder. The seller agreed to carry a mortage on the business and property for about a million dollars.

When the economy tanked in 2006-2007 it took the home building business with it.

Now the buyer is saddled with a a million dollars in debt, no sales and nothing to show for it.

Plus, the seller has put a lien on the property and business, kicked the buyer out, and started the business back up again.

This may be one of the worst deals I've seen in a long time.

No offense, but the buyer was not a seasoned deal maker or entrepreneur. He failed to look at the worst or even a bad case scenario.

What's more, the buyer never took control of the customer list or future home buyers.

Not good.

I want to eliminate or transfer as much risk as humanly possible. If I can't transfer the risk, I won't do the deal.

In this example, the buyer could have opened his own home building business down the road. Location is not a big deal in this situation...we're in the middle of nowhere (Midcoast Maine)!

That's right.

The buyer could have opened his own home building business down the road, and run it out of a home or small office. He could have started closing sales.....although not as many as he's predicting because he's clueless we're in a depression....but he could start closing deals and building homes.

But he could do it for much less than 1 million dollars...and he would OWN his business and the client list outright.

However, most people won't do this because they're lazy, uninformed or desperate.

Whatever business you are considering purchasing ask yourself if you could build or operate a similar business your self. In most cases the answer will be YES.

I hope that helps.

Marc Charles

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