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Buyers

For More Information Call:

Eric Wayne
United Realty Group
12323 SW 55th Street,
Suite #1002
Cooper City, FL 33330

Cell: (954) 562-2019
Fax: (954) 775-3747

E-mail: EricWaynePA@Gmail.com

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Pit Falls of Selling a Business


Purchased a small restaurant, competitor now opening across the street

Question:
I just completed the purchase of a small restaurant in the Los Angeles area. About three months after I took it over construction began directly across the street from us for a major national restaurant chain that caters to the same clientele as us. They're scheduled to open in nine months. I'm worried they will drive us out of business. I have reason to believe that the seller knew about this but didn't disclose it to me. What remedy do I have against the seller? Also, should I sell the business now?

Answer:
While I can understand your concerns about future competition, I'm not certain how you would go about trying to prove the seller knew. Even if he did, is there anything in your contract that would have obligated him to reveal this (besides being the honorable thing to do)?

I think you need to attack this situation from two perspectives:

Regarding the seller, the first thing you can do is find out when the competitor filed for its building permits or other required filings. You may find out it was after your sale and that's the end of it; but chances are it was prior to three months ago. Next, you should consult with the attorney who drafted your purchase agreement and see what representations and warranties are included in the contract. Specific attention should be paid to any language indicating whether the seller was obligated to disclose any material facts that could have an adverse effect on the business. This does not necessarily mean that had he known about the pending construction he was obligated to reveal it. This is something best left to the interpretation of a competent attorney. Personally, I hate the idea of litigation, unless every other avenue is explored, so before you go after the seller with "guns-a-blazing" do your research.

Selling the business is not an option. How do you think a prospective buyer would feel about the viability of the business if you put it on the market so soon?

The bigger issue here is the fact that you now own the business, and your focus is far better spent on successfully operating it. There's always going to be competition and the fact remains that in less than a year, they'll be there. How are you going to position your business so that they're a non-factor? What are you going to do to keep your clients loyal to you? Sure you may see a drop-off when the chain first opens, but a good restaurant can thrive amidst heavy competition. Turn your attention to making your restaurant the place to be. Don't operate defensively. Use the new chain as a vehicle to bring new people to your location as well.

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Buying a competitor

Question:
I came across a listing on BizQuest that I'm pretty sure is for a competitor of mine. If so, I would be interested in making an offer. But I am afraid that he is not going to want to divulge any details of his business to us for competitive reasons, or maybe won't talk to us at all or even admit that he is for sale. How can we work around this hurdle? I am seriously interested in buying the business, but I understand his concern about divulging any details to a competitor.

Answer:
The most important thing is that you want to do everything above-board here and not mislead anyone.

First, is the business is listed by a business broker? If so, you will be required to complete a non- disclosure agreement on the business, and often these agreements contain a provision that you do not represent a competitor. The same holds true if it is a business being sold directly by the owner. In any case, whether a FSBO, or through an intermediary, I would suggest that you have your attorney call him/her and simply tell them that they have a client (you) who has seen one of their listings, you think it may be one of your competitors, you are very interested but you don't want to put anyone in a difficult position and you need to know how to proceed.

There may be a bit of wrangling that can go on between attorneys until all parties are comfortable, but companies buy out their competitors all the time, so this is nothing new. The main concern the owner will have is in providing confidential information to you. However, you should be willing to sign a rigid confidentiality agreement that goes so far as to detail the competitive nature of your relationship and possibly even a clear remedy for any breach.

I am not certain what your relationship is with the seller; however, if you act honorably, and your intentions are sincere, then it is simply a matter of conveying this directly to the seller. If he/she is really motivated to sell the business, a trustworthy understanding will be reached quickly.

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Dealing with cash business

Question:
The seller tells me there's about $25,000 a year in cash business. How can I verify this? The seller is insisting it exists and he is factoring it into the price. I'd like to believe him but what happens if it's less than that in actuality?

Answer:
If they can't prove it - you cannot pay for it. End of story!
Here's the approach: tell the seller that you'll agree to factor in the cash to the purchase after you've had a chance to run the business for a year and see how much it is. The seller will typically say: "how can I possibly know if you're going to tell me exactly how much you take in and how can I ever verify the amount?" To which you'll reply: "that's exactly my point".
This is always a bothersome issue for me. The seller has effectively avoided taxes on all this money year after year. Yet, here they are again expecting to get a second bonus for it..that's craziness. You cannot have it both ways, Mr. Seller. No proof. No money. Sorry!

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Buying a business with one large customer

Question:
I'm considering the purchase of a distributor business I've seen and like. My only worry is that one of their customers generates about 40% of the business. How can I protect myself?

Answer:
The seller has to guarantee that this client will remain on board for a least a year. That's why seller financing is key: if the customer disappears, then you can have a clause to lower the balance of sale. As an example, let's say you pay 2 times Cash Flow. And this client represents $50,000/year in CF. If they stop buying within a year, then you reduce the Balance Of Sale by two times the $50,000 (or $100,000).

The ONLY point you must consider is that if you are responsible for the client leaving, either through poor service or any other reason, you cannot expect the seller to be penalized.

Your other option is to include an earn out clause whereby you agree on a total price of the business, but "x" amount is not paid at closing and only is awarded to the seller after certain contingencies are met during an agreed-upon time frame. For example, after the first year, if the client is an active customer, the earn-out amount is considered to be earned. Also, try to negotiate this earn-out amount to be paid as part of the existing or new seller note.

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Seller’s agent will not release financials

Question:
I've recently looked at a business here in Dallas that I like, but I don't have the financials yet. The seller's agent won't release any more details to me until I sign a letter of intent or offer. Is this normal? How can I possibly offer to buy the business if I don't know how much it's making?

Answer:
I've seen brokers try this tactic and it drives me nuts! Keep in mind that in today's markets good businesses sell fast and so you may at times feel a bit handcuffed when the right business comes along but you simply do not have enough information to move to an offer.

However, there are three ways to overcome this:
The first is to try and set the ground rules - meet with the broker and the seller. Let them know you're very interested in the business but there's just no way you can make an offer until you see the financials. Advise them that making an offer without this information will only result in having to revise the offer (most likely), so rather than drag things on why not let you see the numbers? If acceptable, you can proceed and put forth an offer immediately.

The second approach, which should be the last resort, and not one I prefer, is more aggressive and one that should only be considered if there's absolutely no "give" by the broker and you do not feel ready to move forward with an offer as yet. Tell the broker candidly: "Unless you're planning on buying this business for me with your money, don't dictate to me how we're going to work. Do not spend my money! Until it's your personal money on the line, I'll be the one who determines how and when I'm going to make an offer." You may find this a bit too bold, but trust me, it works. Plus, you can always revert to the other strategy if you don't make progress.

The third option is to simply make an offer stipulating that the financials you require must be produced within 3-5 days. You'll then be able to review them properly. Plus a well-written buyer friendly contract will allow you a reasonable inspection/review period and, the ability to withdraw your offer for any reason whatsoever, up to the last day of the due diligence inspection period.

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Seller’s agent will not release without personal financials from buyer

Question:
I am looking at a business being sold directly by the seller. I have asked to see her financials but she won't release them to me unless I provide her with my personal financial statement. What should I do? I definitely have the money to make this purchase with some seller financing, but I am really concerned about giving her this information because it is so confidential.

Answer:
While I understand your concerns about confidentiality, aren't you really asking the seller to do the same thing for you? The seller is not being unreasonable. After all, she wants to be certain that you have the financial strength the complete the transaction. The only way for her to determine this is by viewing your financials just as you have requested for the business.
If you will feel more comfortable, you can always have your attorney draft a simple reciprocal confidentiality agreement that basically provides for you and the seller to have adequate protection with one another for all of the information that you exchange. This way, both parties will be bound to the same agreement.

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Seller’s refuses to allow buyer to meet with employees

Question:
I am in the final stages of negotiating the purchase of an existing Subway location from the owner. He is the owner-operator of this particular location. My lawyer insists that I must meet with all of the employees before closing or else "no deal." The seller refuses to let this happen. What do you suggest?

Answer:
In this particular case, I think your attorney is going overboard in his request. Don't get me wrong, there are many instances of a business purchase where it is critical to meet with the key employee(s); however, that is only when a certain employee holds a crucial position within the business. For example, if you were looking to purchase an absentee-run business that was being run by a key manager, and your goal was to remain absentee, then certainly a meeting with the manager would be appropriate.

However, one must look at the individual situation. With no disrespect to the Subway employees in this particular business, you are talking about hourly employees who will come and go over time. Turnover is always an issue and part of your role will be to continually train and hire new employees. I cannot imagine that any of the current employees are critical to the business' ongoing success. We are talking about sandwich-makers. While I don't want to discount their role, they are, after all, basic employees with skill sets that can be taught by you as the new owner.

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Lease Expiring in Six Months - Should I move the business?

Question:
We are completing our due diligence on a small "OFF-PRICE" apparel business. Through the process it was disclosed that the owner of the property will be raising the rent when the lease expires in six months. Since the current lease was 5-years the rate of increase is substantial. As such we are considering moving the business and have found a better property just a couple miles away in a very busy retail center anchored by a couple of "Majors". One of the anchors is similar to our operation and we share some brands. Is it a good idea to place a small business near a major? The two schools of thought are: We will benefit from their traffic, but the other is that their customers will ignore us altogether and perhaps siphon off ours.

Answer:
This is the million-dollar question. Personally, I am against any business relocation immediately after an acquisition if it’s the type that relies on location to drive the revenues. As you know, the three most important factors in determining a retail operation’s success are: location, location, location.

This is a very difficult situation. My first preference would be to try and negotiate a reasonable lease extension with the current landlord. Keep in mind that the cost of a move alone may wipe out any first-year lease savings, or more. As well, it has been proven over and over again that businesses that undergo big changes with a new owner usually go under altogether.

Plus, there is absolutely no way to predict what will happen in the new location. The anchor tenant may not have any impact on your business, or they can be terribly detrimental. If the business has a loyal clientele, will they follow you to the new premises? Moreover, will a move instill the perception in your clients that the business is no longer the same with new ownership?

While I wish I could gaze into my crystal ball and tell you what to do, that is simply not the case. I think you need to take a very hard look at what the consequences of a move can be. As mentioned, drastic initial changes usually are met with poor results. If forced to suggest anything, it would be to try to work out the lease in the current location. As the old saying goes: the devil you know is better than the one you don’t".

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Leases - Some Frequent Buyer Questions

Question:
I think not enough information is talked about that deals with business leases. What are your thoughts on taking over a lease versus getting a new lease? What is a triple net lease? If your company goes under, how do you get out of your lease? What is the proper amount for a security deposit? Thanks.

Answer:
I agree with you that there seems to be a bit of a void of good information regarding leases when buying a business. You raise a number of interesting questions, so let's look at each one:

Taking Over a Lease Versus Signing a New One:
On this topic, I am neutral. The key with any lease when buying a business is to have one in place that reflects what you, the buyer, need for the specific business. For example, if you are buying a retail store that relies heavily on the location to drive customers, and is not a destination location, then clearly you will want the longest lease possible in place to ensure your future success. However, what if, the business is located in a plaza where an anchor tenant drives the traffic? In this case, you'd want the ability to either renegotiate or break the lease should that key tenant leave. Sticking with the retail example, if the current lease has less than five years you would surely want to either have an option added or a new lease negotiated with the landlord.

On the other end of the spectrum, if the business does not rely on its location to drive revenue, and you are confident that you can easily find other space (and it will be cost-effective to do so) then, outside of the nuisance of moving, as long as there's a year or so remaining on the lease an assignment is fine.

Triple Net Lease:
A triple net lease is exclusive of insurance, taxes and maintenance. A base rate is applied and then the annual costs for these three components (or an estimate thereof) is added to the base and reconciled annually in most cases. In a NNN lease, the landlord will provide you with an estimate of these costs so you are not going into this blindly.

Conversely, a gross lease will include all these components in your monthly rent at a fixed rate (there can still be a year-end adjustment for common areas or extraordinary items).

If Company Goes Under - What Happens?
This depends entirely upon the terms of the lease and whether or not you have signed for it personally and personally guaranteed the lease. It is not uncommon for this to be a condition for a small business lease, and some landlords may even implement this as a condition to an assignment. We are seeing more of this in more volatile businesses such as restaurants.

If you are required to provide a personal guarantee, you should negotiate a condition that releases you after a certain period of on-time rental payments. For example, after you own the business for 12 months or so, as long as all of your monthly rent payments were made on time the guarantee is eliminated.

On this note, I urge any new business owner to make it a habit to always pay their rent on time and not even a day late. In fact, get it to the landlord a day or two early. You will always stick out as being a good tenant with the landlord and, rest assured, they know how each tenant pays. By establishing a reputation of being on time, all the time, if for any reason the business runs into any difficulty in the future the landlord will be far more inclined to work with you because of the credibility that you have established.

Although not part of your question, the same philosophy should be established with all of your suppliers - garner a reputation as someone who pays on time without any problem. It will pay huge dividends in the future if you need some relief.

Proper Amount for Security Deposit:
There are no hard rules, and each lease is different; however, you can count on it being the equivalent of anywhere from one to three months of rent.

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How to Ensure that Assets are Delivered Free and Clear

Question:
My partner and I have reached a tentative agreement on a purchase price with a seller. We agreed to a number less what they owe on their vehicles and less what it will cost for us to replace one vehicle. How do we put it in writing to protect us from spending more than we need to if there are other "assets" that are not paid off? Once we get to the due diligence phase, can we change the purchase price if there is more owed?

Answer:
First of all, congratulations on having reached a tentative deal with the seller; this is a major first step.

I will recommend that, despite my comments, you absolutely need to have any verbiage or conditions that need to be included in a purchase agreement drafted by your attorney.

The purchase agreement will contain certain representations, warranties and conditions for closing. One of these will be that the seller will need to provide proof of free and clear title to any of the assets not specifically identified of which you will take over payments.

If, however, you discover in your due diligence additional assets that are not paid off, then of course the purchase price, deal terms, etc, can be modified accordingly.

The goal of an effective due diligence is to validate what the seller has represented and to allow you adequate time to review all of the other key issues of the business, including: assets, customers, competition, company strategy, employee issues, legal and corporate matters, leases, contracts, etc. It would seem only natural that any business owner would know prior to due diligence what equipment is paid off and what isn’t. If you find too many of these outside of what you were told, one has to question the seller’s basic level of honesty and disclosure in the entire transaction.

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Recent College Graduate Getting “Cold Shoulder” From Sellers

Question:
What is my best approach for purchasing a business? I have found a few businesses with great numbers and an existing clientele. The problem I am running into is when asked for my financials to determine my buying power, the process then ceases. I have very little credit because I recently finished college. What do you suggest that I do? I appreciate any help you could offer.

Answer:
I am pleased to learn at least that your search has produced some interesting opportunities, and I understand your predicament. Certainly it makes sense from the seller's side, whether the business is being sold by the owner or through an intermediary, that they want to be sure that a buyer prospect has the financial ability to complete a transaction.

I think this is where you may need to take a step back from the search process and honestly evaluate your expectations and determine what type of business you can realistically acquire.

While it would be great if buying a business was similar to the real estate infomercial world where you can (apparently) buy significant assets with no money down, the same does not hold true in small business acquisitions. Having available funding is, however, more important than your credit rating if you look to seller financing as a means to complete a transaction.

Credit-wise the hang-up will be if you approach traditional lenders. Unfortunately, you may be penalized on two fronts: your credit rating and your lack of experience. These two criteria are crucial to any lender.

As such, my recommendation is for you to first get a true handle on how much money you have available for a down payment and for working capital. Then, you should focus your attention on businesses where the seller is either offering to finance part or where you feel confident that you can negotiate these terms.

If, however, you are in a situation where you simply do not have any assets that can be used for the down payment, you may want to look to the "Angel Investor" community. These are individuals that usually finance start-ups but they do participate in financing existing businesses. Quite often these individuals have groups/associations in cities that can be located through the chamber of commerce or online. You will be required to meet with them and present a business plan, but that can all come as step two. The first thing to do is locate these individuals/groups and arrange to meet with them so that you can educate yourself about what they expect. Generally, they want to see you as a savvy manager and someone who they are prepared to bet on to operate the business successfully. If you can impress them they will surely be open to any proposals/opportunities you may present.

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No contracts in place - should buyer walk away from business

Question:
The business I am interested in has no contracts in place, and the seller is not willing to ask the customers to enter one before selling. How secure is this and what can I do to protect myself?
Great question. Unfortunately, the vast majority of businesses you will review will have the exact same predicament. Even ones with contracts will generally be pretty loose and easy for the clients to cancel. While there are some businesses where contracts are the norm, and there are penalties involved for cancellation, these are usually ones with ongoing maintenance or service or in high- priced manufactured products.

Answer:
As far as the seller not wanting to contact the customers, this is certainly understandable from their point of view. The last thing they want is word getting out that the business is for sale. If there are no major customer concentration issues, this is not a big problem, BUT if only a few clients represent the bulk of the business then you may want to consider the following:

Add a contingency in the contract whereby you can interact with the client and the seller but only after you have signed off on all other contract conditions. Or, include an earnout where part of the purchase price is contingent on you maintaining the customer for 12 months or so after you acquire the business.

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