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A diamond in the rough; Purchasing an existing business.

Updated: Oct 5, 2018

Have you ever walked in a business and wondered why it was not busy. You notice that the design and concept are unique, that the product and or service is interesting, but still customers simply walk on by. Perhaps it is a great concept that is sustainable through any given market fluctuation, but where is the return. Maybe you have found a diamond in the rough.

Be careful of what you are getting yourself into, assess the liability of the business.

Should you desire to purchase a business like this you really have three options. First option- recreate what you like about that venture in a market that will sustain it. The second option is to offer that owner the opportunity to turn the business over to you by purchasing the business as a going concern, if it is a corporation, or purchasing the business as a collection of assets, continuing the business as it transfers to you in a sale. The third option requires a little more tact and risk, waiting for the business to fail or for the owner to give up. In this case, you could purchase the assets of the business for your own startup. The transfer of sale for the second option really depends upon the type of ownership that the venture is engaged in. Purchasing the business as a corporate “going concern” brings an assumption of liability risk because the liability transfers to the new owners just as the physical property and assets do.

What is the value of the concept, intellectual property or distinctive competency?

Many factors are involved in the valuation of a business for resale. Assessment of physical property is the easy part of this equation. Appraising the value of the business’s life or “Good Will” is a more difficult task. But even more difficult is appraising the value of the intangible assets like territorial rights, franchise agreements, and exclusive permits of defined services.

During the period of due diligence an inquiry is made and values are established to allow both parties the time to determine the value of the tangible and intangible assets. A third party should be contracted to perform a physical inventory of all physical assets for the transfer. Real estate representatives can provide an opinion of the real property value and certified public accountants can justify the set value at the time of transfer in relation to the flow of goods.

Good will is really the perceived value of the sellers collective work based upon the sustainability of potential earning beyond the point of transfer. In some cases like the acquisition of an independent pharmacy the good will value is placed on the transfer of each prescription from seller to buyer. The value of that business is not in the inventory,it is in the potential sales of those prescriptions. Based upon a passed personal experience the number of prescriptions held by a pharmacy owner may cause the resale value to be assessed in the millions for an inventory of less than half a million. The valuation of “Good Will” may also account for the value of a human asset, and in some cases an agreement may be contingent upon the continuation of employment by valued employees within the business. Let look at the pharmacy again, the pharmacist may have served his or her clients for many years, there is a certain trust in that relationship, and therefore an agreement may be reached with the pharmacist, in order to capture the patronage of those clients. Perhaps the pharmacy owner will need to sign a non-compete clause to ensure that the customers stay with the business as opposed to the another business.

Whatever the reason for the sale someone believes that they, owner or buyer, can benefit more from the sale more than the other person. Hopefully both sides, buyer and seller, feel that way. The seller may feel that his or her maximum potential has been achieved. The buyer recognizes that the business has potential to return his or her investment. The buyer may even see a hidden asset that the seller does not, and for that reason purchase the business. One person sees a lump of coal , the other sees what is inside of the coal.


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