While hundreds of people each month start a business in Massachusetts, only a handful of them actually go through the formalities that will be necessary to be legitimate. This is because it is often unclear to the entrepreneur whether she will actually make a substantial income, or whether the business will be more of a hobby. But when an established operation is for sale, the potential buyer needs to be a lot more prepared in planning to buy a business. This article provides a general outline of what is involved.
PROFITS – Look to Cash Flow and Analyze Income and Expenses
This should be one of the easier and most obvious aspects to consider when planning how to buy a business in Massachusetts or any state for that matter. Any diligent business owner ought to have at least three years of income tax records to show when offering the business for sale. While two years’ worth of data may show a change, three years of data will allow for the revelation of a trend.
Many times, however, the seller of a private business will not keep records as formally as the buyer expects or wants. Certain expenses may be only incidental to the business (e.g. a charitable contribution), or perhaps related to one time expenditures (e.g. an office move). While such informality is not necessarily an indication of dishonesty, keep in mind that relying on the business owner’s personal assessments and assurances is done at the buyer’s risk.
S.W.O.T. – Analyze Internal Strengths & Weaknesses, Market Opportunities & Threats
These factors are often those that are considered before one even considers buying a business. In looking at when and how to buy a business, people often make judgments on such bases. One might speculate greater opportunity for a local pizza shop, if a new recreation center were under construction across the street. Or one might find a weakness in expanding restaurant sales if the dining room were too small.
Still, it is helpful to lay these factors out in a list or chart format, as one would in typical PRO-CON fashion. Analyzing the strengths and weaknesses internal to the organization forces the buyer to examine issues like whether equipment needs replacement, whether employees and management are efficient and productive, or whether a property lease is likely to increase in the future. And in exploring opportunities and threats, the buyer can paint a picture of the company’s future by addressing demographic and behavioral trends among the business’ clientele.
VALUE – Assessing Assets, Profits and the Market for the Business
Determining value is a very murky task when looking at how to buy a business, in part because the Pro Forma Financial Statements of future earnings are based on past records that may or may not be entirely available as mentioned above. Existing management of the organization will also provide the best insight into the growth and competitiveness of the business, but should probably be taken with a grain of salt due to potential conflicts of interest.
In terms of valuation methods, there are a variety of approaches, or some combination, that may be employed by the analyst. A short article such as this could not adequately describe how these methods work, but they may look at comparable public company valuations, the value of cash flow, and the availability of capital.
NEGOTIATE – Formulate a Plan to Obtain Favorable Terms
This is the primary area where you will need the help of an experienced Massachusetts business law attorney to help you learn how to buy a business. The business lawyer will conduct a review so-called “due diligence” in order to validate each point of the agreement to purchase the business. In any case the purpose of this review is to maximize the purchaser’s ability to make an informed decision while identifying all reasons for negotiating terms like price and liabilities.
While each business is too unique to formulate any kind of general checklist, some of the categories of information that due diligence might investigate include 1) Business records (e.g. Meeting minutes, Locations where business is conducted etc.), 2) Employment matters (e.g. Retirement plans, Non-compete agreements), 3) Material agreements (e.g. property leases, loan agreements, titles), 4) Marketing and sales (e.g. Licenses, Supply agreements, joint venture agreements), and 5) Regulatory matters (e.g. Government licenses, certifications).
One of the most heavily negotiated issues will likely be the representations and warranties made by the seller, as this will govern the allocation of risk between the parties.
AGREEMENT – Memorializing a Comprehensive Purchase of the Business
The Negotiation process traditionally begins when the buyer’s counsel submits an initial draft of the purchase agreement. The first section will cover the how, when and where on each stage of the purchase. Then as alluded to above will come the representations and warranties; assuring seller’s title along with statements made information obtained from due diligence, and to some extent very general representations made by the buyer.
Another important part of the agreement concerns the buyer’s and seller’s obligations in executing the sale itself. These are usually labeled “covenants” and provide actionable assurances that each party will fulfill his or her obligation in closing the sale. This will include delivery of documents, gaining the approval of all parties concerned, and notifying third parties like suppliers or distributors.
Some of the most critical provisions in these agreements are those concerning the conditions necessary for the sale to go through. Some conditions, like approvals from government entities are unavoidable, but the presence of others may have the effect of adjusting financial adjustments before the closing. Naturally your Massachusetts business law attorney will provide a great deal of insight on how these agreements should come together.
