How Much Money Do You Need (or Want) to Make From Your Business? How To Buy a Business, Part 4

How Much Money Do You Need (or Want) to Make From Your Business? 

You must answer this question very specifically because it will have a bearing on how much you will have to pay for your business.

If you need to make $100,000.00 per year then you probably won't be able to buy the business for $50,000.00.

Too many people have unrealistic ideas when it comes to buying a business.  A business is worth a certain amount based on its profitability (intangible assets) and certain other things such as plant and equipment (hard assets).  No seller is going to sell his business that makes $100,000.00 and has hard assets of another $100,000.00 for $50,000.00.  You have to be realistic.

In general terms, the more you pay for a business, the more you are going to make.  Make your decision based on the value of your time plus a return on your investment.  Don't expect to find a pot of gold offered for sale at the price of a pile of rocks.  You can spend many fruitless hours in that type of pursuit.  Pay a fair price and get on with making more money by running your new business.

If a business costs $500,000.00 and if you are worth $100,000.00 per year, then your costs will be your time plus the reasonable rate of return on the entire investment.

For example;

                $400,000.00            Goodwill

                  100,000.00            Hard Assets

                __________            __________

                $500,000.00            Purchase Price

If 8% interest is a fair return on your investment (that is probably what you are getting on your mutual fund account) then the ROI (return on investment) should be $40,000.00.

                $ 40,000.00             ROI

                  100,000.00            Your Time

                __________            _________

                $140,000.00            Your Cost to Own

Now if the business goodwill was valued at $400,000.00 because the business made $200,000.00 (salary and profit) for the owner, then this is a good buy for you.

                $200,000.00            Business Income

                  140,000.00            Your Cost to Own

                __________            ______________

                $ 60,000.00             Extra Income (Profit)

In this case, if everything else was to your satisfaction, you could stop looking.  You have found a good business to buy.

What Type of Business Do You Want and Where do You Want It?

These questions need to be considered together because it may be that you can have one but not the other.

If you want to buy a certain franchise you may have to look in a greatly expanded area to be able to find one that is for sale at the price you are willing and able to pay.

If you want your business located in a certain geographical area, you may need to consider other types of businesses.

Come to grips with this BEFORE beginning your search for your new business.  Being flexible in your search criteria may lead you to something that is perfect for you but is something that you hadn't considered at all.

Become familiar with your TARGET AREA:  What are rents?  What is the vacancy factor?  What does the future hold?  Maybe you don't have a crystal ball but you should be able to see what is happening to the area.  Is it improving or is it going downhill?  A lot of vacancies and For Rent signs indicate an area in transition.  It is up to you to determine which way it is transitioning.

How many businesses like your choice exist in the target area?  Competition is good (it draws people to the area) but saturation is bad.  You will need a certain number of customers to survive and prosper.  Too much competition leads to price wars to try to attract customers.  Price wars lead to bankruptcy.  You need a certain number of customers to survive but you also need to make money from those customers.  Giving away the store to try to get more business is a bad business model.

Finally, you need to sift through everything that you have decided and discovered to determine if your plans are possible, realistic, and available.  There is no sense in trying to put a round peg in a square hole.

Remember, there is a relationship between profitability and purchase price.   If you don't have enough money to acquire the business you want where you want it then you may want to rethink your plans or adjust them accordingly.