How to Buy a Business by LegalZoom Staff

How to Buy a Business

Be careful if you're thinking about buying an existing business. Make sure you know why it's for sale and if it's worthy of the asking price.

by LegalZoom Staff
updated August 25, 2021 ·  9min read

If you’re itching to become an entrepreneur, but you don’t want to go through the time-consuming process of starting a business from scratch, you might consider buying an existing business

There are plenty of good reasons to do so. You can save time and money by attaching yourself to a business with an established market and customer base. You’ll also likely take on less risk because the business has (hopefully) started to turn a profit, hired the necessary staff, and figured out how to operate efficiently. Most importantly, after you purchase the existing business, it’s yours, and you can take it in whatever direction you want. 

business people shaking hands after making a deal

But of course buying a business comes with plenty of risks as well, and you should be very careful before making any decisions. For one, buying a business is often more expensive than starting a business from the ground up. 

Additionally, it can be difficult to identify potential issues lurking under a business’s surface. Are there uncooperative employees or unhappy customers? Are the company’s financials accurate? Is there a market issue you don’t know about? 

We’ll walk you through exactly how to buy a business and point out what you should look for at each step so you can feel confident about your purchase. 

Step 1: Find the Business That’s Right For You 

Where do you even find a business that’s for sale? Good question. There are several options you might explore: 

  • Online marketplaces like BizBuySell 

  • Industry leaders or community members since owners might not be selling a business officially, but, when presented with the right opportunity, may become interested

  • Craigslist and newspaper ads, as well as notices in various industry newsletters 

  • Business brokers who, for a fee, can help you pinpoint a good deal, evaluate your options, help negotiate a price, and assist with the purchase paperwork

You should look for businesses in industries in which you have some knowledge or experience. Or, if you don’t have experience, make sure that you have plenty of passion to carry you through the days when running your business gets tough. 

Also consider a number of other big questions. Is the business’s location convenient for you? Or will you be an online-only business

What about the tax rates and cost of doing business in that area? Does the business seem well run, and is it large enough to turn a profit? Does the prospect of running this business every day for the next few years excite you? These are all important questions to ask yourself.

Step 2: Investigate Why Exactly the Business is For Sale 

In the same way that your internal alarm bells should ring when you’re buying a used car, for example, and you hear that it was only driven a few miles to church on Sundays, you should also be extra wary of business opportunities that seem too good to be true. 

Sometimes it’s the case that owners want to retire or take their career in a different direction at a time when business is booming. However, other times, there are more sinister reasons for owners putting their businesses up for sale. The only way to find out is to talk to the owner and do your own research. Here are other good ways to sleuth around and identify potential issues: 

  • Talk to customers: Are they satisfied with the services they’ve received? Do they have complaints about how the business has been run?

  • Talk to employees: How is the business managed? Is it disorganized and chaotic or relatively well-run?

  • Explore online mentions: Search for past mentions of the business. Have there been any controversies involving the owner or the business? How is the business perceived by the public? 

  • Look at competitors: Do they seem to be far ahead of the business you’re trying to buy? Will it be hard to catch up? 

  • Visit the business: Maybe it’s located in an awkward location and doesn’t receive enough foot traffic. Or perhaps there’s a competing business nearby. 

  • Check the owner’s credit history. Non-payment of bills may indicate hidden problems with the business.  

Step 3: Dig Into the Business’s Financials and Overall Health 

After you get the sense that the owner is selling the business for the right reasons, and you’re interested in moving forward, take an in-depth look at the business with an attorney and an accountant. Here are nine aspects of the business you should examine before taking any additional steps: 

 

  1. Articles of Organization or Incorporation: Sift through these founding documents for LLCs and corporations to learn more about the business, including how long it’s been around and who’s involved. 

  2. Certificate of Good Standing: Ask for a certificate of good standing, which proves that a company is properly registered in a state and is up to date on all fees and filings. 

  3. Local Business Licenses and Permits: In addition to making sure that your business is in good standing with the state, also make sure that it follows all local laws. This includes:

    • Zoning laws: Ensure the existing business isn’t violating any of the city’s zoning regulations, such as residential and commercial zoning, by checking the zoning laws of the area.

    • Environmental and health regulations: You should also look at the area’s small business environmental regulations to ensure the business is in good standing before moving forward with the purchase. 

  4. Contracts: Ask for copies of all legal documents. This might include leases; agreements with customers, distributors, and contractors; union contracts; contracts with employees; and other documents. 

  5. Intellectual Property Records: Does the business have the rights to a catchy name or slogan? Or a patent for an especially clever idea? That’s important information for you to know that also affects the value of the business. 

  6. Tax and Financial Records: You should examine tax and financial records from at least the past five years to determine if the business is following the law and exactly how much it’s worth. These could include:

    • Tax returns

    • Cash flow statements

    • Debt records

    • Balance sheets 

    • Marketing and advertising costs

  7. Specific Sales Data: In addition to the aggregate financial data, also look at sales records month over month to determine which products and services sell the best and what times of the year might be slow for business. You should also compare the business’s prices with those of its competitors. 

  8. Inventory, Furniture, Equipment, and Building Records: Explore what the business has, how old it is, what condition it’s in, and how much it’s worth. 

  9. Employee Information: Look into who works for the business, how much they make, and what types of benefits and insurance policies they have. Also be sure to compare this to other businesses in the industry.

Step 4: Determine How Much the Business Is Worth and Consider Funding Options   

After digging into the business’s financials with your team, you’ll need to negotiate a fair price with the seller. 

If the business already produces fairly stable profits every quarter, you should have a rough idea of how much the business will make in the future and, therefore, how much it’s worth now. The process becomes a little murky if the business hasn’t yet turned a profit but you’re fairly confident that it will in the future. 

In that case, you should consider the value of the business’s assets (equipment, inventory, real estate, intellectual property, etc.) and how much those assets could bring in during future months. 

To arrive at a fair valuation, many prospective buyers also look at how much comparable businesses have sold for in the market. This ensures that certain local factors like location and consumer demand are baked into the price. Common ways to determine a business’s fair market value include:
 

  • Income-based valuations, which determines the value of a business based on the future income a business can expect to earn, typically determined by the following valuation methods:

    • Discounted future cash flows method: The discounted cash flow valuation method estimates how much a business is currently worth by looking at future cash flows. 

    • Capitalization of earnings method: The capitalization of earnings method shows the business’s future profitability by looking at how much the business is expected to earn based on its current earnings. 

  • Asset-based valuation, which determines the business’s value based on the value of its tangible and intangible assets

  • Market-based approach, which determines the business’s value based on the value of comparable businesses within the industry. 

In terms of financing, you have a lot of options, including:

  • Use your own savings or borrow money from family members 

  • Find a business partner to purchase the business with you

  • Opt to lease the businesses with the option to purchase 

  • Take out a loan from the seller 

  • Explore additional loan options, like an SBA loan

However, you should read up on the laws around seller financing. In many cases, other loans take a higher priority. For example, if you secure a loan from the U.S. Small Business Administration, you’re usually required to pay that back before you pay a seller back. 

Step 5: Sign a Letter of Intent, If Necessary    

Before reaching a final agreement, you might consider drafting a letter of intent. Think of this as a first draft of your agreement. It’s typically short and sweet and includes the terms of the deal including price information, descriptions of any assets involved in the transaction, and other information. 

Importantly, letters of intent aren’t typically binding. Instead, they’re a way for buyers and sellers to negotiate a transaction without fully committing and to demonstrate that both parties are interested in the transaction. 

Step 6: Close the Deal   

Finally, it’s time to close the deal. In addition to settling on the appropriate price in your final agreement, you’ll also want to think about how to transfer leases, vehicle ownership records, intellectual property, and other assets into your name.

Buying an existing business can be a great way to make a profit and follow your passion. But it also sometimes takes an army to pull off. Let us help! Sign up for our six-month or one-year business legal plan. You’ll receive unlimited 30-minute consultations with attorneys who know the laws in your state and can review contracts or agreements, plus lend a helping hand when you need it. 

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About the Author

LegalZoom Staff

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This portion of the site is for informational purposes only. The content is not legal advice. The statements and opinions are the expression of the author, not LegalZoom, and have not been evaluated by LegalZoom for accuracy, completeness, or changes in the law.