What I see in the Market for Small Businesses - Buy a Business - Sell a Business

Well, spoiler alert, there is no market for small businesses.

I made this video to explain why. https://youtu.be/aOFhyYjFoYc

You see for a ‘market’ to exist, you need many buyers, sellers and a product or commodity.  For example, there is a market for 4-door used cars and a market for 3-bedroom homes in each town and city, but small businesses are very individual.  They’re unique.

Therefore, they each have their own market!

In the video I give an example of the process engineer who will never buy the highly profitable flower shop.  I used to see it all the time when I owned my business brokerage.

As far as pricing goes, it doesn’t change much over time except if certain industries are perceived to be more or less risky.  Business are valued on their cash flow and what the buyer is willing to pay is based on their perception of the risk that the cash will continue to flow into the future.

There is one exception though.  It’s an old story about market manipulation.

I’ve seen first-hand that government programs meant to encourage immigrant investors are causing price bubbles in certain categories.  Convenience stores, franchise food locations, Laundromats, gas stations.

Anywhere someone with limited English can run a simple business and quickly learn enough words to make change and serve customers.

I recently worked on a case where a newcomer was willing to overpay by 40%... because he was up against a time-limit and if he didn’t buy a business he would lose a $75,000 deposit that he had made to get into the country.

Welcome to Canada, let us into your wallet.  I bet he feels all warm and fuzzy about igloos, beavers and maple syrup.

Just like in any market where politicians and civil servants decide to meddle, an artificial urgency has been created and business sellers are taking full advantage of these victims created by government policy.

For a full education and help on buying a business, visit www.BusinessBuyerAdvantage.com

To learn how I can help you sell your business yourself, visit www.HowToSellMyOwnBusiness.com

If you’d like to learn how to create high returns by making local private lending and lease deals, check out http://www.LocalInvestingCourse.com The Local Investing Academy starts in September.  For a quick introduction, read Invest Local.  It’s available from Amazon stores worldwide or as a .pdf here: https://gum.co/quoB

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If you would like to hear from me weekly before anyone else, you can sign yourself up at www.DavidCBarnett.com  If you need my help with your project, give me a call at (506) 381-8416.

Do you live in the Maritimes?  I’ve got workshops coming up on buying and selling businesses in the fall.  Book now http://davidbarnett.eventbrite.ca

Thanks and I’ll see you next time. 

[VIEWER QUESTION] How do you know if the asking price on a small business is reasonable?

This week's question is a frequent one. How do we know if an asking price is reasonable?



Transcript:

Hey everyone it's David Barnett from the investlocalbook.com blog site. This week our question of the week comes from Phil who asked how can I determine if the asking price of a business is reasonable or not. And it's a very difficult question for me to answer because there are so many different ways that I can say ‘it depends.’ Or there are certain circumstances that we have to look at. But let me try to address it with some simple sort of guidelines that can help you determine if the asking price is anywhere within some sort of ball park or not. 

The first thing you have to determine is what are they selling. Because if you are dealing with an unsophisticated seller or someone who is using an intermediary that doesn't know what they are doing, you could end up looking at something for sale which is not purely a business. This would be what we call a recasting exercise. So for example, is it a business but it also includes real estate. Operating businesses and real estate are two very different types of assets. So somebody could have a business with a free cash flow in your pocket of a $100,000 a year, and they might be asking a million dollars for that business. And on the surface that would seem very unreasonable but if you look under the hood and realize that there is a seven hundred and fifty thousand dollars piece of real estate included in that package, then of course that changes everything. And it could in fact be a reasonable asking price. But you then need to try to determine what's the building’s worth and what's the business is now worth based on the business standing alone.

So you have to do so recasting or normalization and look at that business outside of the real estate with all of the direct cost that it would normally bear if it was operating as a tenant. In general what you want to look for is, I'm I going to be reasonably compensated for the risk that I'm taking in getting into this business. So there are two different measures of cash flow that are often looked at when people are evaluating businesses. And one of them is EBITDA, the earnings before interest taxes depreciation and amortization. In the world of professional business appraisal practice, the EBITDA figure or multiplier is only used when we are talking about businesses within EBITDA of half a million or more. But you find that a lot of the times people will use that type of measure for a much smaller business. And what's interesting about the EBITDA figure is that, it's the cash flow after the professional full-time manager has been paid.

So you need to make sure that, that cash flow figure actually includes a salary for a manager and that the manager is being paid a reasonable market rate. So for example if the owner is paying himself $40,000 but a competent manager in that business should earn 70, then you are going to have to adjust that EBITDA figure. And when you look EBITDAs as a general across the board rule of thumb across all industries which means this is a dangerous thing to look at in a specific instance. But you're generally are going to be between maybe 3 up to 5 times that EBITDA figure, is going to be somewhere in that realm of reasonable.

The other way to look at small businesses is what we call sellers discretionary earnings, which is the EBITDA figure with the owners salary added back. So if the EBITDA was $200,000 and a fair market wage of an owner manager is 70,000, then the sellers discretionary earning will be 270,000. This is the figure that is more often used in evaluating smaller businesses. Because small business buyers tend to look at a business acquisition as a mixture between an investment and buying themselves a job. So that cash flow that goes into their pocket, they look at the whole thing as the return on both their invested capital and their labour together. So when we start looking at sellers discretionary earnings, that multiplier could range anywhere from as low as one times to as high as 3 times, maybe a tad bit more with most industries being around the 2, 2.3 area. But again these are general rules of thumb. If you have a seller's discretionary earnings figure of a hundred grand, and somebody is asking for 500,000 for the business, what it simply says is that a combination of your labour and capital; you are going to take five years to get that back.

And the problem with small businesses is that it's very difficult to say with any degree of certainty what the conditions of the business are going to be in five years; the market, the environment, the economy etc. And so that's why when you are looking at investing your money and your labour, most business buyers want to make sure that they can recoup that investment entirely back to themselves within about two years for example. Now that doesn't mean they are going to pay off the business in two years but it means that they need to get that value back out within that two year period. So I hope that gives you some ideas. It can be really dangerous to apply these rules of thumb in a specific instance. So for example if you went you and you valued a restaurant at the 2.2 times discretionary cash flow, you would actually end up over paying for the restaurant. It's a very competitive industry and people in that industry end up paying far less because of the risks involved.

So I hope that gives you an answer. If you want to really get in and understand how to do this, then I suggest you take my course which is available at businessbuyeravantage.com where we actually work through a step by step example with a sample company. We look at the initial financials, we do normalization. We then do an evaluation of the business and I explain why the multipliers that are put in place in that example are used and how they make sense. So thanks and we'll see you next time.

Hey you made it to the end of the video. That’s great. Don’t forget to visit www.investlocalbook.com and sign up for my e-mail list. Thanks and we’ll see you next time.

The Invest Local Book blog is all about small business, franchises, local investing, home economics, small business systems and borrowing money for your business. It's full of great content and I look forward to seeing your feedback.  Sign up for my mailing list and don't miss a thing! [CLICK NOW]

[VIDEO] Dead Capital in a business and buying a job.

In this video, I discuss the idea of 'killing' capital by putting it into a business and getting no return on the money.

I also address the topic of 'buying' a job through small business acquisition and how this compares to 'investing' in education.

Enjoy

[VIDEO] One Buyer, One Seller, Multiple Simultaneous Offers

I have often used the strategy of making multiple simultaneous offers when buying houses, businesses, or large capital items.  It can be a way to frame the discussion with the seller and show that you're open to various scenarios.  I talk about one such example in helping a friend who is negotiating to buy a company.

[VIDEO] What I've learned about inventory in successful small businesses...

I discuss some of the things I've learned about the inventory levels in successful small businesses over the years that are particularly important if you're going to buy one.

Enjoy

16 Week Business Buyer Success Program This Fall [VIDEO]

Well, I've put the finishing touches on my Business Buyer Success! program for the fall.

This program uses my Business Buyer Secrets seminar information and breaks it down into small digestible parts, gives you homework and tasks to accomplish and then a one-on-one follow up with me to review.

We then meet back and share among the group to maximize our learning of the material.

During the course, you will conduct a business search, meet professionals that you will use in a purchase and make an offer on a business.

This is your opportunity to arm yourself with the information you need to buy a profitable, mature business and pay the right price while mitigating risk through a proper deal structure.

The whole thing kicks off on September 2 and will finish just before Christmas.

See the complete details and register here: https://16weekbusinessbuyersuccess.eventbrite.ca

I walk you through the program and give additional information in this video

Special pricing offer ends August 2, 2014.  If you want to change your life through business ownership, this is the program for you. Program open to US and Canadian residents, pricing in $CAD.

[VIDEO] Should businesses own real estate? or is it better to lease?

I tackle the question:

"Should my business own the real estate its located in?"

Many business owners and buyers are obsessed with owning the building where a business is located.  I tackle this question and show you different ways of looking at it.

Let me know what you think in the comments below.

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E-mail subscribers get my new videos, content, news of live events and special offers before anyone else. I only send one short easy-to-read e-mail each week.  I'm not like the other guys.

Use seller financing when buying a business to transfer risk

My session on Wednesday with a group of newly arrived immigrants was a full day of 'Business Buyer Secrets.'  One of the biggest secrets in buying a business is how to manage risk by using vendor financing.

I recorded a video with a few thoughts and an explanation of how this works.


Let me know what you think.  Again, more info next week about my online version of 'Business Buyer Secrets' which will be mixed with one-on-one and group coaching.

Helping Immigrants make a wise investment

On Wednesday I spent the day with a group of newly arrived immigrants who are interested in either buying or starting a new business.  I got some great questions and spent most of the day teaching how to use the structure of the business purchase deal to diminish risk for the buyer.

I was really touched when one of the participants sent me this thoughtful email afterwards:

June11,2014
 David C Barnett,
 Thank you for the opportunity of sharing your knowledge and expertise about Purchasing and  Buying  an Existing Business with us today. It was insightful and very significant what we've learned from you. By far you went beyond for the presentations and illustrations you did for us to make sure we understood the delivery of each topic. It was very effective and most educational. We appreciate your time with us.
 Sincerely,
Ailen
  Sent from my iPad=

I have given the 'Business Buyer Secrets' seminar several times a year for the past few years and will be scheduling some dates which will be open to the public soon.

I'm also looking at combining the seminar information with a group coaching process where I'll walk people through the search, evaluation and offer stages over a 3-4 month period with online training seminars.  The program will also include group coaching calls and one-on-one sessions.

The program will be for people who are serious about moving forward and need a little help to avoid procrastination.