In your decision to purchase a business, you have thought of acquisition criteria important to you. Some of these are low risk, high return, short hours, great location, good growth potential, and most importantly, a large asset base. Everyone thinking about buying a business has specific criteria, but there is a business to meet the criteria of everyone.
If you are buying a business not making a profit, you are only buying the assets. When you buy a profitable business, you are actually buying the cash flow. If it needs assets, they come with the cash flow. If it doesn’t need assets, you just have to keep the cash flow as is and growing and don’t have to replace broken or worn equipment. Good financial records are important, showing proof of income and expenses with tax records to match. Also important are a good history and a prime location. The major consideration is the cash flow. It is cash flow that funds debt service, all operating expenses, and your living wage.
If you buy a business with an asset value of $100,000, those assets will provide a tax benefit in the form of depreciation. However, at some point in the future as these assets become physically or functionally obsolete, they will have to be replaced. You should understand you won’t be able to replace them for $100,000. You should also realize the tax laws could no longer favor hard asset businesses with write-offs like accelerated depreciation and the investment tax credit. The good news is that it is highly unlikely all assets will need to be replaced at the same time, so you can plan the expense in your budget.
The seller of the business will guarantee that all equipment will be in good working order at closing. It is your responsibility, as the buyer, to inspect the equipment and determine the condition before closing. You will want a list of each piece of equipment with serial number, date of new or used purchase, and amount paid for each. You can then verify the cost to replace each item and approximate amount of time before that is necessary. With that information, you can plan for the expense when preparing your budget.
Liquidation is another argument used to buy a business with lots of assets. The argument is that you can have a distress sale of used assets if the business fails. That argument is only marginally valid once you consider the negligible value of used assets in a distress sale.
It may be easier to get a loan for a business with lots of assets. Financial institutions will provide loans to purchase service businesses now more than a few years ago, but their preference is still to have assets they can put their hands on if the buyer fails to pay the loan. An ideal situation is to find a seller who will carry the note.
After weighing some advantages and some disadvantages of buying a business with lots of assets or a service business with few assets, it really depends on the business that suits your needs and makes you happy. Whether the type of business in which you are interested requires lots of assets or few assets, look at the cash flow to see how the current owner has made the business profitable. Purchase a business you will enjoy.
