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Should I Buy A Small Business That is Losing Money?



Posted By: Peter Siegel MBA: BizBen Founder, Lead Advisor.   When considering buying a business that is losing money one has to be very careful. There are reasons that the business could be losing money that aren't fatal or extremely difficult to fix and there are other reasons that should send you running in the other direction. Peter Siegel, MBA explains.


Comments & Feedback From Pro Intermediaries & Pro Advisors On BizBen:

When considering buying a business that is losing money one has to be very careful. The first thing you need to do is find out why it is losing money. This should be done by your CPA or Due Diligence Specialist Advisor during the due diligence period. There are reasons that the business could be losing money that aren't fatal or extremely difficult to fix and there are other reasons that should send you running in the other direction.

If the business is losing money due to poor management, accounting, employees, ownership or marketing and branding then there is hope if everything else is strong and you have the experience and skills to turn it all around.

If the business is losing money because the market no longer desires its products or services or because the competition is doing everything better and cheaper or because the demographics of the local area have permanently changed then there is probably nothing you can do to turn things around. In a situation like this it is advisable to just walk away and find a different business.

Contributor: Business Broker - SF Bay Area
Multiple factors contribute to small business losing money such as human errors in the proper management of operations, loop holes in the business strategy, improper financial management or poor customer experience management. Thus, before deciding that whether you should buy a small business that is losing money you should consider having that business analyze in each aspect.

First, step for any business buyer r is to thoroughly analyze the financials of business and identify any error which that may indicate a cause of losing money for a business such as a business owner may have been spending on certain aspects of business such as organizing a weekly concert if its a restaurant which is not generating enough cash flows for it.However, cause of losing money for every business could be different. Thus, for any business losing money, it may be an indicator of loss of good will of its customers. So, you should do a little research and ask its customers them why they stopped being that specific business's customer. Because, it will point you in a more clear direction in making your buying decision.

After that, you should evaluate that if a certain error or a loop hole in the business strategy could be fixed and you are both financially stable to support the effort that is required to have that business back on track, to get back its customer's good will and becoming profitable. So, its very much dependent on the proper evaluation of all these factors.

I have seen people buy a profitable business that has been open for a number of years and through mismanagement end up either selling the business at a reduced price or seeing the business fail, and so, yes, it is possible to take a business that is failing and turn it around and make it successful. Usually only seasoned business operators will want to look at businesses that are losing money, and only from years of experience are they able to analyze the business and see opportunity to turn the business around. There are certain factors which a business owner has little control over, such as the rent, but there are other factors which someone can find mismanagement, such as a business being over staffed.

An example, I once sold a coffee house that was owned by a husband and wife, she worked the mornings and he worked the afternoons. While the husband worked the afternoons, the wife bought inventory, and had such a control on food cost that she would return avocados to the market that had gone bad and returned them for newer ones, she controlled food cost with an iron fist, and both the husband and wife worked like dogs, and had just the amount of staff they needed.

The couple later sold to a real estate agent who was getting out of the business and wanted to buy a job. Later I visited the man who bought it, and I saw it was overstaffed and he had employees just standing around doing nothing. I tried to help the new owner any way I could, giving him advice. A couple years later I saw that the business had failed and it was another concept. I understand it easier for business to go south than to build a business from ruins, but this example illustrates that there are things such as food cost and labor that can be factors in rebuilding a business.

The answer to this question also depends on who you are. Craig provides a good example.
It's what I call the "strategic buyer" -- a company already in the business that wants to "roll up" synergistic companies to gain market share, customer base, skilled employees, operational capacity, purchasing volume, etc. The corollary question is: "Can I SELL a Business That is Losing Money?" The answer is "yes"; if properly packaged and marketed to a targeted audience of strategic buyers that can appreciate the intrinsic value despite the lack of profit.

I agree that "maybe" is a good answer.

I think most brokers would agree that, all too often excited entrepreneurs miss a step in planing the business they want to open. They plan the design, the rent, the concept, the social media etc.. but they forget that most businesses lose money for about 2 years before they really become profitable.

When they are anxiously trying to figure out their start up capital, it often doesn't include this important piece and, like so many before them, they run out of money and that's where you come in. If there is something you can bring to table and you see the light at the end of tunnel then it could be a great deal.

One huge benefit, verses starting something from scratch is that often it is less than it would be for you to do it, and second, you have some income from day one.The trick in deciding is to be sure that the issue isn't something that you can't fix, like a bad location or crazy high rent. In the end you are always buying potential.

Contributor: Due Diligence, Valuations Advisor
"Turn around's rarely turn" - Warren Buffet

If you know the industry and can personally pinpoint the issues, formulate a plan , finance the journey, and tolerate the headaches along the way, then you have chance. If you don't fit the profile then you are a gambler.

"Beware of experts" - Colin Powell

Not all accountants and attorney's are all the same, although they all have plaques on the wall. I have seen some absolutely basic errors made by professionals. There is such a thing as a transaction accountant and transaction attorney. Find them.

But you must know the business in order to effect a turnaround, in my opinion.

"Maybe" is the right answer. But, to cut through all of the great advice in this thread, it's only for the experienced business owner/entrepreneur who is not relying on the business for his sustenance, who has excess money to invest that he is willing to risk (and lose), and who has the time, talent, and additional money for the long, arduous, frustrating job of turning a business around. Fortunes have been made using this approach, sometimes amounting to many times the investment. But, far more likely is that the purchase investment (in both money and effort) will be lost.

Thank you for the excellent question. Yes, under the right circumstances, a loosing business can sometimes offer the highest rewards. However, Peter is correct, You have to know the business thoroughly, what its doing wrong? how much it will cost to bring it up to the standards and model you expect to operate the business with? In analyzing these costs be very realistic. Saving old equipment and like fixtures can end up costing more later in terms of both sales, unanticipated costs and considerable personal hardship.
Most importantly, ask yourself if the market is right for your plan. Learn about the competition and develop your intended opening model effectively. You only get one Grand Re-Opening so make it right and account for it in your anticipated start up costs. This brings up the required capitol. Measure your risk carefully. Avoid over leveraging. If you end up making a mistake it will resolve easier if you are not burdened with debt. If you are starting out with your first business and you are younger, opportunity is often worth a higher risk. Youth needs experience and is also advantaged with time to correct the mistakes they make and earn back any losses made from those mistakes. Be wise though. Learn well and minimize your risk. Work your plan, Perfect your model and the rewards are often much higher than buying a business already performing at higher levels.

Lastly, be sure to seek advice from experts in addition to those that may be directly involved with the transaction. Verify everything possible and never sign off if you are not either comfortable or prepared to accept the conditions that make you uncomfortable.

Contributor: Business Broker: LA County Area
Peter: I want to echo your thoughts about overcoming business difficulties. I sold a gas station in the Inland Empire awhile back where I came across one of the smartest, shrewdest buyers I've met. It was a deal with tons of "hair" on it where, as listing agent, I thought my chances were bleak to nowhere. Poor management, terrible signage, employee theft, crime issues. Everything you'd want in a gas station, this didn't have.

Some would call this buyer a bottom-feeder. I call him creative and insightful. He was able to see what others couldn't, not even the current owner. He saw the need for a well-lighted, safe, mini-market in a sub-market where customers could feel comfortable grabbing a soda or fresh coffee 24 hours. He re-branded the station, expanded the store, signed a long term lease with multiple options and spent about $100K in rehab. He also worked carefully with the city and local police on safety. Today, his station and mini-mart are turning nice (some would say modest) profits on a business he bought very inexpensively.

Sometimes even market conditions that seem insurmountable for a business can be overcome with expertise and creativity. This is why finding a lane of expertise and staying in it, year after year, pays off handsomely.



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