(Ambrosio’s note: This is the second of two blog posts devoted to answering a reader’s question on how to buy and sell an existing franchise business. To read the first post, please click here.)
R.C.: Are there any good resources for purchasing a franchise that is already up and running, things to watch out for, looking through their financial statements, etc?
Ambrosio: This is a really great question. Even if your heart is set on building your franchise business from the ground up, you owe it to yourself to at least take a look at the stores available for sale in your area. The information that you’ll gather through this process will help you tremendously with your due diligence, even if you decide to start your business from scratch.
Here are a few of my thoughts on the subject:
1. My favorite online marketplace for researching businesses for sale is www.bizbuysell.com. Being the undisputed leader in this category, they have the most comprehensive “business for sale” listings on the web. BizBuySell has a very robust search function that allows you to go through their entire database by location, type of business, asking price, gross income, and cash flow. You can even limit your choices to businesses that are relocatable or come with seller financing.
2. A large percentage of businesses for sale on BizBuySell are active listings of professional business brokers. There is no cost to the buyer for using the services of a business broker because, just like a real estate broker, their commissions are paid for by the seller once the business is sold. I highly recommend going through a reputable business broker rather than approaching the seller directly.
One tip: Do a bit of online research on the business brokers with active listings in your area (You can find their names on the BizBuySell listings). Visit their website (or the website of the firm they are affiliated with) to see their current and past businesses for sale. Contact several of them and find someone you trust and have a connection with.
Once you’ve chosen the right business broker, work with him or her exclusively. Business brokers are open to partnering with each other, so even if the business you are interested in is another broker’s listing, your chosen broker can still get all the information you need.
An experienced business broker can even approach owners of businesses that are not currently for sale to find out if they’d be interested in selling.
3. Once your business broker has obtained the financial statements for the target business, pay careful attention to the trend in the location’s financial performance. The seller will usually present 3 years worth of financials. Put your detective hat on to see if you can find any clues as to why the owner is selling.
In this economic environment, I wouldn’t be surprised if the majority of small businesses are struggling rather than growing. If you have a very specific reason for believing that you can turn things around, then use the deterioting financial picture as a bargaining tool in your negotations.
Personally, I have no interest in getting involved with a struggling business — it’s way too risky. The only exception I can think of is if I had deep industry knowledge and experience related to the business for sale and I knew exactly how to bring the business back to health. Otherwise, I’d stay away.
4. When buying a retail business, one of the primary assets you’ll be acquiring is the lease agreement. As a rule of thumb, you shouldn’t be spending more than 10% of gross revenues on your total occupancy expenses (rent, common area maintenance, and property taxes). But this rule is not set in stone.
If the store’s revenues are growing much faster than the annual rent increase, the occupancy costs should fall in-line within a year or two, if you as the new owner can maintain or increase the annual revenue growth rate.
5. To determine whether the asking price is fair, consult with the franchisor and your business broker to figure out the appropriate sales multiple based on the most recent sales for the franchise in your area, and system-wide. Multiples vary widely depending on the industry, the region, the franchise, and the unique qualities of the specific location. I’ve seen multiples as high as 1x gross revenues, but a multiple of 2x annual owner’s earnings seems more common.