Question: What is the best formula to use when buying a business?
L.L. Naples FL
Answer Marc Charles:
If you use the formulas taught by the largest business schools it would be three times net profit. So, if you buy a restaurant which has an annual net profit of $500,000, you would pay $1.5 million.
But I’m not a big proponent of business school formulas, especially when it comes to buying a business.
I would never pay $1.5 million dollars for a restaurant with an annual net profit of $500,000. There are too many reasons to go into the details here.
But the biggest question to ask is whether or not the restaurant will produce the same kind of numbers going forward --- in the current environment.
There’s a hot dog stand on the coast of Maine which has annual sales of about $300,000. His net profit is about $95,000 per year. If the owner listed his restaurant for sale at three times net profit, or $285,000 – a purchase like this would make more sense to me.
On top of that, the hot dog stand in question is always packed with customers, and it only takes a couple of people to run it. I suspect he’s taken business from the surrounding restaurants during the current economic downturn too.
I’m not real big on buying someone else’s business though, with some exceptions.
I prefer starting businesses on a smaller scale from the ground up, with as little overhead and debt as possible….in a market emerging in a hot rising trend.
I hope that helps!