The Top 3 Critical Issues in Buying or Selling a Business

I’m often asked what the top critical issues are in buying or selling a business.  If the top three issues discussed below in the sale or purchase of a business are not properly addressed, then there is a good chance the transaction will fail.

So to get to the core of the question, these are in my opinion the top three issues involved in buying or selling a business:

1. Confidentiality

Confidentiality is critical to the successful transfer of a business.  If word gets out that a business is for sale, several things start happening and none of them are good for the seller or buyer of the business.  First, key employees start looking for other jobs, fearing that a new owner may not retain them.  In the uncertainty, customers may begin shopping elsewhere.  Suppliers get nervous.  Competitors can take advantage of the situation.

This is why a prospective business buyer will be asked to sign a non-disclosure confidentiality agreement early in the process of looking at a possible business acquisition. In this agreement, the potential buyer confirms that he/she will not disclose the fact that the business is for sale except to professional advisors.

If you show that you take the need for confidentiality seriously, you will be regarded as the professional that you are.

2. Valuation

Nothing causes the buyers and sellers of businesses more anxiety than the issue of valuation. The question of selling price haunts both parties. The seller doesn’t want to price his business too low and “leave money on the table.”  On the other hand, the buyer of the business is afraid he’ll pay too much and not get the best possible price.

Formal, fully documented business appraisals are now readily available.  In addition, there are rules of thumb guidelines that can be used to quickly estimate the value of a business.  As just one example, we know that a full service restaurant with a liquor license is worth about 30% of its annual gross revenue as an ongoing business.  This assumes – big assumption – that the business is earning the average bottom line profit for its peer group.

There are rules of thumb guidelines for almost all categories of business from ice cream stands to manufacturing plants.  But again, these guidelines provide only quick estimates.  And written, fully documented business appraisals are now done by several respected national firms at a cost similar to real estate appraisals.

3. Financing

Financing is always a concern, as hardly any business buyer has the financial capacity to write a check for the purchase price of a business.  If they did, they would most likely be living off of investment income rather than buying a business.

These are five possible sources for business acquisition loans:

BANKS – Although most people seeking a loan to buy a business will think first of a traditional bank loan, I can tell you from years of business brokerage experience that banks generally do not make business acquisition loans.  There are exceptions but they’re rare.

SBA – The SBA, through its approved lenders, provides business acquisition loans.  The SBA does not make direct loans, but rather guarantees a portion of the loan that is made by the approved lender.   It’s known as the SBA 7(a) program.  Wells Fargo Bank is currently the top volume SBA lender nationally.

The SBA route for a business acquisition loan is sometimes frustrating because of the time and detail that is involved.  However, keep in mind that the SBA will approve loans that others have turned down and will usually approve them with a smaller down payment.  In most cases, it’s worth the wait.

FAMILY – Many times the older generation in a family will loan the down payment or the entire amount needed to a promising member of the family’s younger generation.  If your family is willing to loan you the money, one word of advice is in order.  Have a very clear understanding as to how the debt is to be handled and put it in writing in the form of a legal note.

THE SELLER – In a significant percentage of the business transfers that I handle as a business broker, the owner of the business finances a portion of the purchase price for the buyer.  Some sellers cannot offer owner financing for a variety of reasons, but when they can, it conveniently solves the problem of financing.

The fact that the business owner is willing to finance the sale of his company provides more than a convenient finance plan.  More importantly, it provides a strong validation of the owner’s belief that the business will support the owner and earn enough cash to pay back the loan.  You can’t get any better recommendation on the business than this.

The normal down payment for owner financing ranges generally from around 30% to 50% of the purchase price of the business.  Interest rates are generally market driven but there is more flexibility here than in other forms of financing.

401(K) FUNDS AND IRA ACCOUNTS – The use of these funds to buy a business, without tax penalty, is a fairly recent development.  Several national CPA and attorney groups have developed a plan, approved by the IRS, which allows you to use your funds for business acquisition.  There are legal and accounting fees involved, but they are a small fraction of the tax penalty that would be assessed for cashing in these accounts early.

 The above ­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­­five sources of financing are not exclusive to each other.  I recently handled a transaction in which three of the five sources were used to buy the business.

It’s called creativity!

If I can assist you with any considerations involved in the transfer of ownership, please don’t hesitate to email or call me.

For further reading, here are additional related articles:

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.   He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

 
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Here’s How to Value an HVAC Business

how to value an HVAC business

Here’s how to quickly estimate the value of an HVAC business.

The valuation of privately held businesses is sometimes confusing.  But fortunately for heating, ventilation and air conditioning – HVAC – businesses, we have valuation formulas that will yield a pretty close approximation of value.  In determining how to value an HVAC business, let’s take a look at two valuation formulas.

Two frequently used formulas that professionals use to value an HVAC business involve (1) a percentage of gross annual revenue, and (2) a multiple of discretionary earnings.

First, let’s consider the formula that uses a percentage of gross annual revenue.  One widely respected reference source says that HVAC companies are worth somewhere in the range of 35 to 50 percent of annual revenue plus inventory stocked for resale at cost.  Where within this range a particular business falls depends on several factors discussed below.

The other formula maintains that HVAC businesses can be valued by using a multiple of yearly discretionary earnings.  What are discretionary earnings?  The number is sometimes also sometimes referred to as adjusted cash flow.

One easy way to define discretionary earnings is to explain that it is the total financial benefit to the business owner from his/her ownership of the business, regardless of how he/she takes that benefit out of the business.  For a more detailed description of the term, take a look at this article.

So with the term defined, let’s again quote a respected industry source which asserts that HVAV businesses are valued at 2 to 3.5 times discretionary earnings plus inventory for resale at cost.  This valuation based on a multiple of discretionary earnings is generally considered more accurate than the formula that uses a percentage of revenue.  After all, earnings are more important to value than revenue.

The formulas do not include the value of any real estate.  Any realty included in the transaction should be added to the final formula result, and as stated above, the cost of any inventory which is on hand for resale should also be added.

So where in the two ranges quoted above would a particular business fall?  Listed below are some of the factors to consider:

  • Location in a growing area with a strong local economy adds value.
  • A clean set of books and tax returns bring value to the company.
  • A trend of growing revenue and profits definitely creates value.
  • A good staff including a general manager and well-trained technicians adds value.
  • Conversely, an overreliance on the owner for management lower value.
  • A large number of annual maintenance contracts for recurring revenue adds value.
  • A significant portion of income derived from new construction lowers value.
  • Higher revenue and profits command higher multiples of discretionary earnings for valuation purposes.

However, an HVAC company, like any business, is worth what a willing seller and a willing buyer, with no undue pressure on either party, are able to agree upon as the market value of the company.

If my firm can assist you with your valuation or transfer of ownership processes, please don’t hesitate to contact me.  My office is 251-990-5934 and my email is Will@WilliamBruce.org.

Here are three additional articles that might be of assistance:

Using Rules-of-Thumb to Quickly Estimate Business Value

The Top 3 Critical Issues in Buying or Selling a Business

The Critical Question of Price When Selling a Business

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.  He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

 

 

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What Are the Differences Between EBITDA and Seller’s Discretionary Earnings (SDE)?

What are differences between EBIDTA and Seller's Discretionary Earnings

There are important differences in EBITDA and Seller’s Discretionary Earnings (SDE).

The differences between EBITDA and Seller’s Discretionary Earnings (SDE) cause confusion.  Sometimes the two terms are incorrectly viewed as interchangeable, but there are important differences.

First, some definitions.  Both are business performance benchmarks that are widely used in valuing a business for sale or acquisition.  However, there are critical differences in EBITDA and Seller’s Discretionary Earnings, and if you use the wrong one in valuing the company under consideration, you could calculate a grossly inaccurate appraisal of the business.

EBITDA

EBITDA is defined as earnings before interest, taxes, depreciation and amortization.  In other words, to compute EBITDA you take the net profit of the business as shown on the company’s tax return or P&L and add back the interest, taxes, depreciation and amortization.  Only these four items are allowed to be added back.  The resulting number of this calculation is EBITDA.  It’s by far the easiest benchmark to compute because the adjustments to net profit or loss are limited and well defined.

Seller’s Discretionary Earnings (SDE)

In computing Seller’s Discretionary Earnings (SDE), you again start with the net profit or loss of the business and add the items listed above for EBITDA.  Then for SDE, you also add back some other items.  Those additional items are the business owner’s salary and perks, any one-time expenses not likely to recur (ie: a major remodeling expense), and any expenses that will disappear for the new business owner.

As just one example, let me tell you about the sale of a restaurant that I handled as a business broker several years ago.  The profit and loss statement from the business was actually showing a small loss.

However, the owner’s wife drove a Lincoln Navigator which was listed on the books of the business as a company vehicle. The company also paid for all her gas and maintenance on the Navigator although she had no role in the operation of the restaurant.  Same for the daughter’s Honda which she drove back and forth to college. The daughter was also on the payroll as an employee of the restaurant which furnished her with spending money at college, although she never actually worked at the restaurant.

The family’s week-long ski vacation to Colorado was charged to the business because the owner attended a business meeting for a few hours while in Aspen. You see where I’m heading here, don’t you? By the time all these items plus any non-cash expenses (eg: depreciation) were accounted for, the restaurant was actually producing a nice yearly discretionary income for the family.

DISCLAIMER: Hey, I’m not with the IRS and don’t render an opinion on these sorts of things!

Simply put, the calculation of Seller’s Discretionary Earnings is an attempt to determine the business owner’s total financial benefit derived from owning the business.

With the differences between EBITDA and Seller’s Discretionary Earnings, which one to use?

So with the differences, which one of these benchmarks do you use when buying or selling a business?  More than anything else, it depends on the size of the business.

For large businesses, usually with a professional non-family CEO running the company, EBITDA will yield a more applicable result.  These businesses are usually the ones being sought by private equity groups or considered by publically traded firms as a merger candidate.

But for smaller businesses, usually run by an owner-operator and with annual revenues below, say, $5 million, the calculation of Seller’s Discretionary Earnings will be much more meaningful.

More Information

For additional information on related topics, these articles may be helpful:

Please don’t hesitate to call or email if my office can be of assistance.

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.   He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

 
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Here’s the New $600 Billion Federal Reserve Lending Program for Businesses

William Bruce talks about new $60 billion loan program for pandemic victims.

The Fed has budgeted $600 billion for the new loan program.

For some reason, this new loan program for businesses has not received much attention.  But $600 billion has been allocated for the project, so if you’ve been hit hard by the pandemic, it might be a lifesaver.

The name of this new program, The Main Street New Loan Facility, is somewhat of a misnomer.  The maximum allowed annual revenue that business can have and still qualify for a loan is $5 billion.  I’m not aware of any “Main Street” business that has that kind of revenue!

But regardless, it’s a new program by the Federal Reserve to assist businesses that are trying to recover from the Coronavirus pandemic.

As the Fed explains it, the Main Street New Loan Facility (“Facility”) is intended to facilitate lending to small and medium-sized Businesses by lenders.  An eligible lender is a U.S. federally insured depository institution (ie: banks, savings associations and credit unions).  The Fed will buy 95 percent of the loan from the lending institution.

An eligible borrower is a business that

  • was established prior to March 13, 2020,
  • is not an ineligible business (ie: banks; life insurance companies but not         independent agents, finance companies; factoring companies; investment companies, bail bond companies; and any other businesses whose stock in trade is money),
  • meets at least one of the following two conditions: (1) has 15,000 employees or fewer, or (2) had 2019 annual revenues of $5 billion or less,
  • is created or organized in the United States with significant operations in and a majority of its employees based in the United States, and
  • does not also participate in the MSPLF, the MSELF, or the Primary Market Corporate Credit Facility; and has not received specific support pursuant to the Coronavirus Economic Stabilization Act of 2020.  (PPP loans are OK.).

Loan terms:

  • 5 year maturity
  • principal payments deferred for two years and interest payments deferred for one year (unpaid interest will be capitalized)
  • adjustable rate of LIBOR (1 or 3 month) + 300 basis points
  • principal amortization of 15% at the end of the third year, 15% at the end of the fourth year, and a balloon payment of 70% at maturity at the end of the fifth year;
  • loan size can be from $250,000 to $35 million
  • is not, at the time of origination or at any time during the term of the loan, contractually subordinated in terms of priority to any of the borrower’s other loans
  • prepayment permitted without penalty.

Other requirements and conditions:

  • Borrower must commit to not repaying principal or interest on other loans until the Facility loan is paid in full unless the debt or interest payment is mandatory and due.
  • Borrower must commit that it will restrict compensation, capital distributions to owners per the issued guidelines.
  • Each borrower that participates in the Facility should make commercially reasonable efforts to maintain its payroll and retain its employees during the loan term.
  • A lender will pay the Fed a transaction fee of 100 basis points of the loan amount at the time of origination. The lender may require the borrower to pay this fee.
  • A borrower will pay a lender an origination fee of up to 100 basis points of the amount of the loan at the time of origination. The Fed will pay a lender 25 basis points of the principal amount of its participation in the loan per annum for loan servicing.

There are many other details.  Speak to your banker to see if you qualify.  You’ll be dealing with the government so a word of warning: expect some confusion and delay.

Please don’t hesitate to call or email if my office can be of assistance.

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.   He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

 

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Giving a Shoutout and Thanks to the Invaluable Healthcare Workers During this Covid Mess!

William Bruce salutes and thanks healthcare workers.

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Considering Buying a Business? Here’s a List of the 6 Most Frequently Asked Questions.

If you’re considering buying a business of your own, it’s natural that you would have lots of questions about the process.

William Bruce, President
American Business Brokers Association

I’ve been a business broker for over three decades.  During these enjoyable times, I’ve had the opportunity of assisting many individuals in achieving their goal of owning a business of their own.

In this work, I’ve found that many buyers of businesses have the same questions.  So I thought I’d list those questions that I’m most frequently asked along with my responses.

Why would a good business be for sale?

Answer by William Bruce: I have found that some buyers think that if a business is for sale, there must be something wrong with it.  This is sometimes true, but most businesses are for sale for legitimate reasons including retirement, health problems, family issues and burnout.  Burnout after many years of operating a business is real.  I experienced it years ago after owning a heavy equipment dealership for almost 20 years.

How will I know if the asking price of the business is reasonable?

Answer by William Bruce:  This is a very good question.  There are fairly simple guidelines for closely estimating the value of many types of small to medium size businesses.  These rules-of-thumb vary by category of business, but usually seek to estimate value (1) by applying a percentage to gross annual revenue of the business or (2) applying a multiple to the discretionary earnings of the business.

For example, we know that a full-service restaurant will most likely be valued at around 30 percent of gross annual revenue, assuming that the bottom line earnings support that appraisal number.

We also know that the majority of businesses will appraise for somewhere in the range of 2 to 3.5 times discretionary earnings.  As just two examples, a convenience store will appraise at approximately 2.25 times discretionary earnings plus inventory at cost, and a lawn maintenance service valuation will average about 2.75 times discretionary earnings.

Written and fully documented business valuations are also available for a reasonable cost from several highly respected national business valuation firms.

For further reading on this issue, please see this article.

What are discretionary earnings?  Is it the same as cash flow?

Answer by William Bruce:  The terms “discretionary earnings” and “cash flow” are used interchangeably by business buyers, sellers and brokers to refer to the total owner’s benefit from owning the business, regardless of how the owner takes the money out of the business (salary, draws, perks, etc.).  It’s the cash left over after only the necessary operating expenses of the business are paid.

CPAs sometimes refer to the process of computing discretionary earnings as “normalizing” the profit and loss statement.  The computation removes the camouflage from the bookkeeping practices of most business owners.

For an article on how to compute discretionary earnings, please see this article.

 How do I finance the acquisition of a business?

Answer by William Bruce:  There are five possible sources of financing for buying a business including (1) banks, (2) SBA-guaranteed loans, (3) the seller of the business, (4) family and (5) in recent years a new program that allows you to use your 401(k) or IRA funds to buy a business without an early withdrawal penalty.

For a discussion of the pros and cons of each of these options, please see this article.

How much down payment do I need?

Answer by William Bruce:  It depends on several things but between 25 and 35 percent should suffice in most situations.  You should also have in reserve for working capital about two months operating expenses of the business to get you comfortably over the initial timeframe.

What is due diligence?

Answer by William Bruce:  Due diligence is a fancy term.  In practical use, it can be summarized as that phase in the purchase of a business when you have access to all the books and records of the business (1) to verify the accuracy of the information that you’ve previously been furnished and (2) to make sure that there are no serious, undisclosed problems with the business.  It’s customarily done after a buyer and seller have agreed upon price and terms, with the completion of the transaction fully contingent upon a satisfactory due diligence investigation.

For a more thorough explanation, please see this article.

For a comprehensive discussion of these and other issues involved in buying a business, you can order William Bruce’s complimentary 62-page booklet “How to Buy a Business in a Safe & Organized Way.”  The booklet walks you through step-by-step the process of buying a business to make sure you get what you pay for.  To order, please click here.

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.   He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

Follow William on Twitter and LinkedIn.

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How to Use the SBA to Buy a Business

Information on how to use SBA 7(a) loan to buy a business.

The SBA 7(a) program is a popular loan option for buying a business.

Except for the SBA 7(a) program, banks generally do not make loans to individuals to buy a business.  This statement will surprise a lot of people.

Most people will think first of a conventional bank loan when seeking financing to buy a business.  But I can tell you from decades of experience, this just doesn’t happen often.  The bank’s advertising will lead you to believe they do, but they will usually find some reason not to make a business acquisition loan.

However, after you’ve bought the business and been operating for a while, the irony is this:  The same banker that turned you down for a loan to buy the business may come by your office soliciting your business.

But fortunately for individuals considering buying a business, participating banks have the Small Business Administration 7(a) loan program to offer.  Except for some specialized programs, the SBA does not make direct loans to borrowers.  Instead, the SBA guarantees a percentage of the principal amount that the bank loans to you.  In a practical sense, the SBA is co-signing the loan with you at your bank.

What is the SBA 7(a) loan program?

It is the SBA’s most popular business loan program.  To be eligible for such a loan to buy a business, the borrower and the business must:

  • Operate for profit
  • Be small, as defined by SBA
  • Be engaged in, or propose to do business in, the United States or its possessions
  • Have reasonable invested equity
  • Have a minimum personal credit score of 660
  • Use alternative financial resources, including personal assets, before seeking financial assistance
  • Be able to demonstrate a need for the loan proceeds
  • Not be delinquent on any existing debt obligations to the U.S. government
  • An independent, third party valuation of the business must meet or exceed the agreed upon acquisition cost.

Additionally, after deducting a reasonable salary for the owner, the business being acquired must produce a net cash flow of 1.25 times debt service.

Some banks do not participate in the SBA loan programs, but fortunately many national, regional and community banks do participate.  Some banks are designated by the SBA as “Preferred Lenders” which means they have a streamlined application process and more local underwriting authority.  My experience is that you’re much better off using a Preferred Lender compared to a bank that only processes a few SBA loans per year.  The top 100 most active SBA 7(a) lenders can be found here.

Admittedly, the SBA loan application can be time consuming and sometimes frustrating.  But keep in mind, the SBA-backed loans are approved in a lot of instances where no other financing options are available.

Amount Available, Down Payment Required, Interest Rate and Collateral

Interest rate on SBA 7(a) loanThe maximum amount that can be loaned under the program is $5 million. The average loan amount in fiscal year 2018 was about $425,000.  Interest on the loans is negotiable with the SBA setting the maximum rate that a bank can charge.  As this is being written, the average rate for loans over $50,000 is 6.00 percent, give or take.

The down payment required is usually 15 to 20 percent of the price of the business being acquired.  Some lenders will allow a portion of this downpayment to be covered by a seller note (ie: a note payable from the buyer of the business to the seller for a portion of the acquisition cost).  SBA restrictions on this seller note usually do not allow repayment of principal and interest for a stated period of time.

The length of the loan for business acquisition can be up to 10 years, or for real estate, the term can be up to 25 years.

There are fees involved in applying for a 7(a) business acquisition loan but in many cases, these fees can be added into the loan amount.

Banks love collateral and will usually reach out and grab whatever collateral is available; collateral required for SBA7(a) loanhowever, many lenders will approve a SBA 7(a) loan even when there is less than 100 percent available collateral coverage.  Some banks are more “cash flow lenders” than others, meaning that they will look more to the future earnings of the business being acquired as collateral for the loan rather than current hard assets.

My office stays up to date on the loan preferences and appetites of many lenders.  If you need a recommendation of a bank most suited for your particular situation, just shoot me an email at Will@WilliamBruce.org.

For further reading, here are additional related articles:

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William Bruce is an Accredited Business Intermediary and Appraiser assisting buyers and sellers of privately held businesses in the transfer of ownership.  His practice includes consulting services nationally on issues of business valuation and transfer.  He currently serves as president of the American Business Brokers Association.  He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

 

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My 7 Favorite Phone Apps.

This column is usually devoted to business issues, but today I’m sharing my favorite phone apps that make my daily life easier.

I’m not as tech savvy as many of my friends, so my favorite apps tend to be more utilitarian than whiz-bang.  With that in mind and for what it’s worth, these are the ones I use the most.

Google Maps is a favorite app of William BruceGoogle Maps – Previously, I relied on Waze for driving directions until it took me on a wild goose chase through the piney woods of the Florida Panhandle.  Now, after switching to Google Maps and using it for several weeks, I’ve decided it’s the superior app.  Very reliable.

WeatherBug is a favorite app of William Bruce.Weather Bug – This is the best weather app that I’ve found: concise, understandable, accurate and easy to navigate.  You can check your hometown weather of course, but also the weather and forecast for anywhere around the world.  It worked well in Scotland on my last trip abroad.

My Radar – And speaking of weather, this is a handy radar app.  It has vivid displays of rain and its intensity.  You can also overlay wind directions and temperatures.  When driving, it even follows you down the highway and shows any weather you may encounter ahead.

Dropbox is a favorite app of William Bruce.Dropbox – For me, this app has taken the place of  Microsoft’s My Documents.  The advantage is that all of your files are readily available across all devices including the phone, iPad, laptop and desktop.  Mighty convenient!

TurboScan is a favorite app of William BruceTurboScan – I’ve tried several phone scanning apps and have decided this one is the best.  It’s easy to use and produces excellent scans in either jpeg or PDF format.  It’s great for use in offsite meetings when you’re signing documents and you want to make immediate copies for all the parties.  It’s so handy, in fact, that I use it at my desk even when I have a full-featured scanner nearby.

Kayak travel app is a favorite of William Bruce.Kayak – Fortune Magazine several years ago surveyed business executives asking what travel app they used.  Kayak was the top choice. And I can see why now after using it myself.  It’s a nifty app that collects all of your travel items in one place including airline and hotel reservations, rental cars, event tickets and appointments, etc.  The app then builds your itinerary around these items with reminders.  If you have a change of planes at an airport, it will even tell you when you arrive at the airport what gate your connecting flight is leaving from.  Highly recommended.

KeyRing is a favorite app of William BruceKey Ring – This handy app stores all your loyalty cards: airlines, hotels, stores, restaurants, etc.  Using this app means you never miss out on earning points because you don’t have the physical card with you.  I’ve even scanned my driver’s license and medical insurance cards into this convenient service.

My Favorite iPhone AppsSo let’s get a discussion going.  What apps are you using that you like a lot?  Which ones are the most helpful?

Let me know.  I’m always on the lookout for apps that make life easier.

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.   He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

 

 

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Best and Worst Franchises Listed by SBA Loan Defaults

By William Bruce

A franchise can be an excellent investment if — big “if” — you choose the right one.  But how do you determine which are the best and the worst franchises?

Franchises ranked best to worst

Comfort Keepers had the lowest loan default rate of all franchises for the 10 years ending 2018.

To shed some light on the issue, the Small Business Administration has provided us with their list of franchise brands ranked by the percentage of loans in default status.  Many individuals buying franchises use the SBA business acquisition loan program.  So in my office, we think the 10-year loan default rate is a pretty good indicator of whether the franchise is worth considering.

The lists below are for a 10-year period ending September 30, 2018.  Only franchise brands with a minimum of 10 loans are included.

The following top 40 franchises had the lowest SBA loan default rate during this timeframe.  Percentages have been rounded to the nearest whole number.

Franchise SBA 10-Year Loan Default Rate
Comfort Keepers 8%
Christian Brothers Automotive 8%
Home Instead Senior Care 9%
Once Upon A Child 12%
Zeppe’s 12%
Comfort Inn 12%
Buffalo Wild Wings 14%
Plato’s Closet 14%
Merlin’s Muffler 14%
H & R Block 14%
Sports Clips 14%
Culver’s Frozen Custard 15%
Molly Maid 15%
Five Guys Famous Burgers And Fries 15%
Penn Station, Inc. 16%
Cookies By Design 16%
Papa Murphy’s Take & Bake Pizza 17%
Medicap Pharmacy 17%
Great Clips 17%
Jackson Hewitt Tax Service 17%
The Cleaning Authority 17%
Primrose School 18%
Kids R Kids 18%
Wild Birds Unlimited 18%
Signs By Tomorrow 19%
Napa Auto Parts 20%
Massage Envy 20%
Pinch-a-Penny 20%
Jimmy John’s 20%
Subway Sandwich Shop 20%
Hampton Inns 21%
Liberty Tax Service 21%
Taco Bell 21%
Aussie Pet Mobile Villa Park 21%
Little Caesar’s Pizza 22%
Wingstop Restaurant 22%
Servpro 22%
Jani-King 23%
UPS Store 23%
Money Mailer 23%

best and worst franchises

At a whopping default rate of 92%, Noble Roman’s Pizza was the worst franchise on the list.

Using the same yardstick, the worst 40 franchises during the same 10-year timeframe are listed below.  There may be reasons for defaulting on a business acquisition loan other than a lack of financial performance from the franchise; however, we think a high default rate, especially over a 10-year period of time, is at least a red flag to be considered.  Our advice is to be wary of investing in one of these franchises.  If you do want to consider one of them, do your due diligence thoroughly, including talking to many of the current franchisees.

Franchise SBA 10-Year Loan Default Rate
Noble Roman Pizza 92%
Image Sun 80%
24 Seven Vending 79%
Wireless Toyz 74%
Executive Tans 72%
Play N Trade 71%
Country Clutter 71%
Camille’s Sidewalk Café 70%
Pro Golf 67%
Figaro’s Italian Pizza 67%
Buffalo Wings & Rings 67%
Planet Beach 68%
Obee’s Soup Salad Subs 63%
Pita Pit 63%
Amoco 62%
Athlete’s Foot 62%
Mr. Transmission 62%
Beef O’Brady’s 61%
Golf Etc. 61%
Bounceu 61%
Dream Dinners 61%
Atlanta Bread Company 60%
Petland 60%
Salad Works, Inc. 60%
Golf U.S.A. 59%
Nick-n-Willy’s Pizza 57%
Wing Zone 57%
Kwik-Kopy 57%
Philly Connection 57%
Premier Rental Purchase 57%
Econo Lube N Tune 56%
Dollar Discount Stores 56%
Steak Escape 56%
Carvel Ice Cream 55%
Coffee Beanery 54%
Taco Del Mar 54%
Dickey’s Barbeque 54%
Juice It Up 54%
Great Wraps 54%
Wings To Go 53%

Some franchise brands have been ineligible for SBA guaranteed loans from their inception.  This is most commonly because of legal issues created in their franchise documents.  For a list of franchises and the issues which render them ineligible for SBA loans, please see our article by clicking here.

Here are additional articles that might be of interest: What is a Franchise Really Worth (includes valuation formulas for most food service franchises), How to Analyze a Business You’re Considering BuyingHow to Make a Written Offer to Buy a Business and How to Handle the Due Diligence Investigation When Buying a Business.

For our article on a special type of franchising, referred to as master franchising, please click here.

Please don’t hesitate to call or email me if my office can be of assistance.

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  His practice includes advisory services nationally on issues of business valuation and transfer.  He currently serves as president of the American Business Brokers Association.  He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org.

Posted in Business Valuation & Appraisal, Franchises, Valuing, Buying or Selling a Business | Tagged , , , , , , , , , , , , , , , , , | 29 Comments

Buying or Selling a Business? You Must Know the Differences in an Asset Versus a Stock Sale.

The differences explained between corporate stock versus an asset sale when buying or selling a business.

The differences between the two methods of buying or selling a business can be critical.

By William Bruce

Are you confused about the differences between an asset sale and a stock sale when buying or selling a business?

My business brokerage firm is often asked about the differences.  The differences between a stock and asset sale can be critical in the sale of small to medium-size privately-held businesses

First, let’s define each.  In an asset sale or acquisition, selected assets are bought from the selling entity by the buying entity.  Those “selected assets” usually include all of the operating assets of the business plus the intangibles (trade name, goodwill, etc.).  No liabilities of the selling entity are assumed unless specifically agreed upon by both parties.

A corporate stock sale is just the opposite.  The buyer purchases the outstanding shares of stock in the corporation held by the seller.  The purchaser thereby assumes, through the stock acquisition, all of the assets and liabilities (known and unknown) of the company.

The same concept applies to a Limited Liability Company (LLC).  Instead of shares of stock, the buyer purchases the seller’s membership in the LLC and thereby assumes the assets and liabilities of the company.  In this article, when referring to corporate stock transactions, the same considerations apply to LLC membership transfers.

What are the advantages and disadvantages of each?

The critical advantage of an asset sale to the buyer of the business is that none of the UNKNOWN liabilities are assumed.  The potential of unknown liabilities is the real problem.

I remember from my law school days, the typical textbook example is a slip and fall accident in a business. The owner of the businesses is unaware of the incident when he/she sells the company.  A couple of years after the sale of the business, the accident victim files suit for damages.  In a corporate stock sale, the new owner of the business is on the hook for that accident.  Not so in an asset purchase.

It’s this kind of potential exposure that causes most lawyers for business buyers to strongly – very strongly – advise against a corporate stock purchase when acquiring a small to medium size privately held business.

Another advantage to the business buyer in an asset versus a corporate stock purchase is that the new owner of the business gets to set up the individual assets on a new depreciation schedule and start depreciating the assets all over again.  This provides a significant tax deduction for several years.

In the acquisition of the corporate stock of a privately held business, the buyer assumes the existing corporate depreciation schedule in which, most likely, the assets have been fully depreciated, providing little to no tax shelter in the coming years.

On the other side of the table, an advantage to the seller in a corporate stock sale is that most of the proceeds of the sale are taxed at the lower capital gains rate.

However, 90-plus percent of the small to medium-size privately held business ownership transfers that my firm has been involved in have been asset sales, primarily due to the liability exposure issue.  I remember one instance when we nearly had to peel a lawyer off the ceiling when his client thought he might want to buy a business in a corporate stock acquisition!

As a practical matter, about the only time we get involved in a corporate stock sale is when the corporation holds licenses that are not transferrable. Durable medical equipment dealerships are an example with their licenses and contracts from Medicare, Medicaid and BlueCross-BlueShield.

Should you have any questions about this or other issues involved in business ownership transfers, don’t hesitate to call or email.  Please be aware that I’m neither an attorney nor an accountant, but hey, I did spend the night in a Holiday Inn Express last week!

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  His practice includes advisory services nationally on issues of business valuation and transfer.  He currently serves as president of the American Business Brokers Association.  He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org.
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How to Conduct Due Diligence When Buying a Business

By William Bruce

How important is due diligence when buying a business?  It’s the most important step in the process.

Due diligence is a fancy term.  In How to conduct due diligence when buying a business.practical use, it can be summarized as that phase in the purchase of a business when (1) you verify the accuracy of the information that you’ve previously been furnished and (2) you make sure that there are no serious, undisclosed problems with the business.

In this step, you will inspect the books and records of the company to verify the financial information.  You will also check whatever appropriate sources are necessary to make sure there are no undisclosed problems lurking around the corner that would adversely affect the business.

We’re assuming that you have made a written contingent offer to buy the business and that you and the seller have agreed on price and terms, possibly after some back and forth negotiations.  Now the transaction is contingent upon your due diligence investigation.

The “Books and Records”

After the seller has accepted your contingent offer, you are entitled to all the books and records of the business.  Since you’re this far along in the transaction, you most likely already have the profit and loss statements and the tax returns.  At this point, you can ask the seller any questions you want about information contained in any of these records.  In fact, you will probably need his assistance in interpreting some of these financial reports.  Don’t be shy.  Ask for any clarification you need.

You may also want to look at other documents such as the bank statements to verify deposits, the monthly sales tax reports if there is a question about sales revenue or the seasonality of sales during different times of the year.  Also the quarterly payroll reports should be available for your inspection if there is any question about wages.

Again, this is the time for you to satisfy yourself as to the accuracy of the information you were previously given and upon which you based your contingent offer to purchase the business.

The Other Issues

The other points to be covered during due diligence involve questions about key employees and the legal, regulatory, and environmental issues plus the lease if the business is in a leased location.  Checklists for each of these areas of inquiry are readily available online.  Just be aware that this is not General Motors buying Ford.  Those kinds of checklists will fill a library!

Remember, in an asset sale, you are buying selected assets of the business and assuming none of the liabilities.  (In a corporate stock sale or LLC membership sale, all issues would definitely remain for the new owner.)  However, even in an asset sale, there are some issues that might legally follow the assets, so you need to be aware of any problems that might exist, and make sure they are handled to your satisfaction.  For example, unpaid payroll taxes follow the assets regardless of the type of sale.

Now if everything checks out all right – and in the majority of cases it does – then you are almost to the finish line.  As the astronauts say near the end of the countdown to blastoff, “We’re good to go.”

If I can answer any questions or assist in any issues involved in buying or selling a business, please don’t hesitate to contact me at (251) 990-5934 or Will@WilliamBruce.org.   To subscribe to this blog, please see the top right portion of this page for the place to insert your email address.  (Don’t worry, we will not sell or use your email address for any other purpose!)

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William Bruce is an Accredited Business Intermediary (ABI) and Senior Valuation Analyst (SVA) assisting buyers and sellers of privately held businesses in the transfer of ownership.  He currently serves as president of the American Business Brokers Association.  His practice includes consulting services nationally on issues of business valuation and transfer.   He may be reached at (251) 990-5934 or by email at Will@WilliamBruce.org. 

Posted in Valuing, Buying or Selling a Business | Tagged , , , , | 12 Comments