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Tip of the Spear Ventures

Venture Capital | Private Equity

business acquisitions

Acquiring a Business – The Process

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The Point: You’ve made the decision that now is the time for you to explore buying a business. But how will you actually go out and acquire a business? In this post, we explore the process involved at a 30,000 foot elevation in acquiring a business and the process… Enjoy!

Acquiring a Business The Process

The acquisition of a small business is not easy, but it can be done. There are many factors to consider such as financing, location, resources, and entrepreneurs who are willing to invest time and resources. Many businesses fail in the first few years and often several factors are involved including management and the way the entrepreneur does business. While many new businesses fail within the first year, more than 25% of all businesses make it through the five-year period with excellent results.

Acquiring a small business requires some patience, education, and hard work to make it successful. Small business acquisition experts must be able to evaluate an acquisition case-by-case basis to make sure that the best opportunities for expansion are available. They must also be prepared to do extensive research and look at different companies in order to find the best ones to partner with. For most entrepreneurs, it takes at least a few years to successfully acquire a small business. Some of the best opportunities come quickly, while others take longer.

When there is an acquisition case to be made, it is important to first determine what kind of business model will work best. There are many options for small businesses, and the best way to determine which business models to consider is to look at the business models of competitors who are successful. This will give an entrepreneur ideas on what features to look for, as well as what to avoid. Successful acquisitions will allow an entrepreneur to realize their full potential and to reach their goals. These are some of the reasons why it can be so difficult to purchase a small business.

Business Acquisitions – Initial Due Diligence Considerations

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I recently participated in a Business Acquisitions roundtable discussion. The roundtable was made up of acquisition entrepreneurs well known for their roles in company growth and market consolidation. As a result, these successes have afforded these entrepreneurs to live lives with considerably more independent lifestyles (especially for the more well-capitalized entrepreneurs present – perhaps a topic for another post). One of the topics discussed at the roundtable was from a participant’s question, “What considerations should I have when conducting due diligence during the business acquisitions process?” Often times, failed deals are the result of a lack of conducting thorough due diligence on key information items on the buyer’s part. The questions like those below in the areas of Seller, Market, Financials, Legal, Environment and Personnel are initial considerations that should not be overlooked:

About the Seller

Learning as much as possible about the seller’s motivation for exiting in order to provide important insight into what their exit target is. Questions to ask regarding seller due diligence include:

  • How was the business started?
  • Why is the business for sale?
  • Is the seller selling the entire entity or just the assets?
  • Is there a business plan in place?
  • What keeps the seller up at night?
  • If the seller is involved in the business: How much salary does the seller take (now/after acquisition)?  How much vacation (now/after acquisition)?

About the Market

A few questions about market due diligence:

  • What is the size of the market and what market share does the acquisition target hold?
  • To what level can the acquisition be grown to?
  • What are the biggest challenges to growth?
  • Who are the industry leaders (local/national/world)? Is the company considered a market leader in any aspect?
  • Does the product or service have a life cycle, or seasonality?
  • What would the business’ customers and competitors say this business does best?

About the Numbers

More than anything else, it is important to thoroughly understand the financial due diligence of the prospective business acquisition. To determine if the seller’s claims are supported by the figures, ask to review three to five years of history and future projections:

  • Sales
  • Revenues
  • Gross margin
  • Cost of Goods Sold (details)
  • Earnings before interest, taxes, depreciation and amortization (“EBITDA”)
  • Capital investments
  • Taxes
  • Accounts receivables
  • Accounts payable
  • Inventory

About Legal Issues

To avoid hidden surprises, it is important to dive into legal due diligence issues in the company, including:

  • Any possible future lawsuits (If so, due to what?)
  • Is the business location owned or leased (If leased, what are the terms?)
  • Is there proof all taxes have been paid?

About the Environment

Conducting environmental due diligence is a crucial initial step. Governmental guidelines can levy responsibility for environmental issues that existed prior to the current ownership. Find out about any hazardous materials/waste disposal or other environmental considerations that must be taken into consideration.

About the People

If purchasing more than just the physical assets of a company, a potential buyer should understand key personnel issues such as:

  • Who else (besides the seller) has equity ownership in the organization?
  • What employment agreements are in force (FTE/Contract)?
  • What role do other family members play in the business?
  • Who are the key people, what do they do and why?
  • Which key employees are most likely to leave if there is a sale, and why?
  • How well documented are the business processes?

Summary

Business acquisitions are a better way for entrepreneurs to go into business versus startups. However, with that said the business acquisitions market still is littered with deal casualties (Even with showing considerable upside versus startup entrepreneurship). Taking the time to conduct the proper due diligence is the key. Due diligence in the areas of Seller, Market, Financials, Legal, Environment and Personnel are initial considerations that should not be overlooked.

Sam Palazzolo

PS – My firm is actively pursuing business acquisitions of small businesses ($1-$10Million Annual Revenue). If this describes you/your business and you’d like to inquire about our business acquisitions process, email selections@tipofthespearventures.com.