How to Check out a Business You're Interested in Buying

Let’s say you have decided to buy a business of your own and narrowed your choice down to a couple of businesses. How do you analyze the businesses you’re considering? There are several logical steps. Whatever the decision, discuss and share with trusted fellows. Act and deliberate as a devil's advocate to reach an optimum decision.


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    Appreciate the need for confidentiality. Confidentiality is critical to the successful transfer of a businesses.
    • If word gets out that a business is for sale, several things start happening and none of them are beneficial to a prospective buyer. First, key employees start looking for other jobs, fearing that a new owner may not retain them. In the uncertainty, customers start looking around and begin shopping elsewhere. Suppliers get nervous.
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    Go into the business anonymously. For each business that you would like to explore, visit anonymously posing as a customer. As you visit, first, note the location. Is it appropriately located for the type business? As you’re driving into the parking lot, what does the business look like from the street? What about signage and street identification? Then as you walk to the entrance, what kind of an impression do you receive?
    • Once you’re inside, take a close look around. If it’s a retail establishment, are the shelves full? Is it clean and neat? Are there customers there? Are the employees helpful? What is the general feeling you received from your visit? If you decide this is a business that you want to follow up on, make a list of questions for the owner. Make this list while your visit is fresh on your mind.
    • A word of caution: While on this visit, don’t talk to anyone in the business about the fact that the company is for sale. Chances are the employees don’t know it’s for sale. And even the owner would not be free to talk about it at this point within earshot of customers and employees. Chat pleasantly about the weather … or college football!
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    Meet with the owner. If you’re working with a business broker, he will set up the meeting at a time convenient with both parties. He will go with you to the meeting and facilitate the exchange of information. Be sure to take your list of questions. Ask anything you want to. However it’s usually best, at this point, not to discuss the selling price of the business or the possibility of owner financing. That comes later.
    • Ask anything else that comes to mind. Nobody knows the business better than the owner. If you’re meeting at the business, ask for a tour of the facility. It’s important that this meeting remain informal and cordial. Remember, you are both checking each other out. If the owner is going to finance a portion of the selling price, he’s looking at you as much as you’re looking at the business. It’s a two way street.
    • At the end of the meeting, you don’t have to express any commitment. Simply say something like: “Well this has been very informative. Thanks for your time. Let me consider this new information.” It might also be a good idea to covey to the owner that the information will be kept in the strictest of confidence. He’ll appreciate your sensitivity to that issue.
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    Compute Cash Flow. Determine the operation’s annual cash flow. Appreciate that you will be buying the ability of the business to produce cash. Cash Flow is often referred to as Owner’s Discretionary Cash Flow or ODCF, and is defined as that money that the business produces in a year that is available (1) to pay back any debt that the owner of the business incurred to buy the business, and (2) for the owner’s personal remuneration.
    • Another way to express it is that ODCF is the amount of cash the business produces after all necessary operating expenses – and only the necessary expenses --have been deducted. ODCF is not the same as net profit shown on the profit and loss statement. It’s not the same because of the bookkeeping practices of business owners.
    • Simply stated, business owners do not keep books to pay income taxes. Most business owners make strenuous efforts to reduce any taxable income. For this reason, most business owners in an effort to reduce their taxable income run some expenses through the business that are not necessary business operating expenses. This practice reduces tax liability, but it also oftentimes masks the true earnings record of a business.
    • In considering a business, your challenge is to determine its true cash flow. This process is referred as the recasting or normalizing of income. If you are using a business broker, he has probably already prepared a recasting worksheet on each business he presents to you.
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    Consider the outcomes of buying the business. After computing the ODCF of the business, the next step is to determine if the cash flow is enough for you. To do this, you need a fairly close approximation of what your debt service will be on the amount borrowed to buy the business. After all, it’s the amount left over after debt service that will be available for you and your family to live on.
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    Consider your loan options. Business loans without real estate generally run seven to ten years. With real estate, the term of the loan can be up to 20 years. An increasingly popular type loan where the seller is offering financing is called the balloon loan. It solves the problem of the seller wanting his money long before a ten or fifteen year term is up and the buyer wanting to keep his payments as low as possible.
    • It works this way. After the down payment, the seller finances the sale of the business with a note from the buyer. The payments are calculated on, say, a fifteen year amortization schedule (to keep them low) but the note calls for a payoff of the balance due (the balloon) at the end of the fifth year. During the five years, the new owner builds up a track record and establishes a relationship with a bank. At the end of five years he is in a position to refinance the balloon with the bank and pay the seller. It’s a win-win situation for both parties.
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    Make an offer, if desired. If the business is of interest to you, and if it returns the amount of cash flow you need (or can be made to do so), and if you can envision yourself successfully running the business, then you may be ready to move on to next logical step which is making a contingent offer. You make your offer fully contingent upon a further investigation of all the books and records of the business and your satisfaction with the information contained therein. This is often called the “due diligence” phase of the transaction.


  • The employment of a business broker and/or CPA can be invaluable.
  • Remain professional at all times. It will be appreciated and valued by all involved.
  • Realize that the current cash flow of the business does not include any new products, services, or management advantages that you will bring to the operation.


  • Be cautious of claims of unreported cash in the business. There may be some, but it should not be used in the cash flow calculations.

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Categories: Buying & Forming a Business