Many people want to own a business. But is buying a business a good investment? The answer, of course, depends on the buyer and the business that they are purchasing.
It’s important to do your research in determining your strengths and weaknesses and what you can offer to a business that you would purchase in terms of your skills and passions. Money is important, but it’s also important to be interested in the business that you own. That will spur you on to more motivation and more success. It doesn’t necessarily need to be your first love, but it has to be something you will want to do day in and day out.
Buying a Business when you already own a business
For people that already own a business, it might be a little easier to determine things that you like and don’t like. So whether or not a business is a good investment in this scenario is seeing how the business you will be purchasing can complement your existing business. Will it allow you to reach more customers, provide additional services, add valuable employees, increase efficiencies and share best practices. The more synergy there is between the companies, the more likely it is that the investment will pay off well for you.
Some profitable purchases are made when companies purchase a competitor. In other cases, good investments are made with the acquisition of a supplier or customers. And expanding into a new geographic location through acquisition can also be an effective way to increase your profitability. A complementary acquisition can also be good such as purchasing a company that has a product or services that your customers have been asking for, and now you can supply this directly to them, creating more reasons for them to do business with you.
Review the Financials to determine whether buying a business is a good investment?
With any investment decision, it’s important to review the costs and benefits of the investment. You want to review the last three years’ tax returns and a current year-to-date profit and loss. If you are not fluent in reviewing financial information, then you’ll need to hire an accountant to review the business for a potential investment. They will typically be involved in due diligence and reviewing the numbers to see if they make sense. Make sure the accountant is familiar with small businesses. They may or may not be familiar with business valuations. So you can also consider hiring a business valuation consultant or use a relatively low-cost service like bizbuysell for metrics on valuations of what similar companies have sold for based on the net income.
Factors that go into business valuations
There are a number of factors that go into business valuations. For example, determine whether one customer makes up a large portion of their revenue. And if so, how long has the customer been with them, and do they have any contracts in place. If not, then you’ll need to gauge the likelihood of that company staying with a new owner of the business.
Another thing buyers look for when investing in a business is how much recurring revenue they have. The more, the better. So, for example, in the case of two software companies, one company may have a pricing model that charges for a license based on a monthly or yearly fee. The other software companies sell licenses with one upfront fee. Everything else being equal, the company with the monthly licenses will typically be a more desirable investment than the one that sells a license for one upfront fee. However, the price of the business may be higher for the company with recurring revenue.
Getting back to the financials, you will want to take into account whether the business is increasing, decreasing, or staying relatively stable. And how much of the business is dependant on the owner vs. the employees, and how difficult it will be to replace the owner after he provides a transition to you.
The price of the business is a factor in the return on investment
Companies that have more desirable attributes will typically have a higher valuation and be priced higher. So it’s not just about getting a low price for a business. You need to weigh the value that the business is likely to provide relative to the price you are paying to determine whether it is likely to be a good investment. Of course, every business has some risk. So, there is bound to be some level of anxiety with any major purchase, but you’ll need to get some level of comfort with the risk versus the potential payoff of acquiring the business.
What is a better investment, Buying a Business or Starting a Business?
Many people want to know whether buying a business or starting a business is the better investment. Of course, there are trade-offs with both. With starting a new business, you might have less of an upfront expense rather than purchasing a business. But with most existing businesses, you are getting profits coming in from day one.
And keep in mind that most new businesses fail, so when you are purchasing an existing business that has been established for many years, your risk is much lower, and your expected return on investment is usually greater, with the failure risk being smaller. When buying profitable businesses, you buy a business with cash flow from day one, with existing customers and staff.
Just like buying a home, you will want to consider a number of different businesses before selecting one that is right for you.
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