Researching the Business Premises, Stock and Accounts
Chapter 5: The Business Under a Microscope
The following are all the areas that should be researched so that you can collect enough information about the business. This information can then be used to give you a more confident decision about buying the business and will also help you determine a realistic value.
5a) Premises
Look around the premises to see if they suit the operations of the business. Is it big enough to run the business, particularly if you are using the site for production? Will the amount of stock you expect to hold be easily stored especially during times of high demand? If not, would an extension solve the problem or would you have to relocate completely?
Are the premises owned or leased? If they are leased, make sure that you find out all the terms and conditions and when the next review is: the rent could be about to increase. Confirm that the seller of the business has the right to transfer the lease. This is something that you would investigate in your due diligence period (and must involve a solicitor). Find out who is responsible for maintaining the exterior and interior of the leased premises.
Should the premises be leased or rented, take note of any refurbishments that you may want to do which will add to expenses. It could be new fittings or simply a different colour of wall paint. Pay specific attention to the condition of the building as the owner could have overvalued the premises (maybe on purpose). Use a business estate agent to give an approximate value of the premises.
If the outgoing lease holder added, say, internal offices within a factory building (the office was not built by the building owners), they can negotiate a price for this directly with yourself as the office would not be the responsibility of the building owner. Further, if you do not want the offices, the out going lease holder will probably have to take the office structure down and make good this area of the building.
Changing the internal set up of a building may affect the rateable value of the premises: check with the local council what your rating covers.
Investigate the insurance of the premises: is it affordable and does it cover everything that you want covered? Whilst on the subject of expenses, find out what the average running costs of the premises are (electricity, water, gas, etc). You may think of a way to make the premises more efficient.
Where the premises are owned, your solicitor will go through the same process as they would with a private residence: searches and disbursements etc.
5b) Stock
The type of business you are looking at may not hold stock and so you can consider this section irrelevant. When buying stock that is already in a business, it is very risky and this is where the owner may try and get more money out of you.
Stock can be excluded from the overall value of the business and paid for separately during the days of the takeover. The stock value should be the cost price (the amount it was purchased for from the supplier) and you should ask for invoices to prove this. Check that this amount reflects what is stated on the balance sheet.
The owner may even try to sell the stock at market price. In which case, they may use the highest value: you on the other hand should negotiate it to the lowest market value.
Do not stray far from the original stock purchase value. In situations where the stock needs a professional valuation, searching, say, Yellow Pages for 'Stocktaking Services' will provide enough choice.
You then need to consider if the amount of stock held is what would be necessary for the type of business. If there is too much stock, find out if there is any chance of returning some to the original suppliers or if it can be excluded from the deal. Check the stock to see what will be of use to you and that all is undamaged.
Finally, check that the stock has been paid for if this is what the seller claims. Look at bank statements and match exact amounts: if in any doubt, contact the supplier (you will probably want to talk to them anyway.
5c) Accounts
This is where you need to involve an accountant. If you are unfamiliar with the construction and use of accounts it will be difficult to interpret the different figures.
When reviewing the business accounts, do not rely on the previous financial year statements to draw any conclusions. Insist on seeing the accounts from the previous five years (or whatever period they have traded if less) so that you can ask questions on anything that you find. It may be that sales have dropped or that costs are increasing. Even if you identify good aspects, such as the reverse of what was just said, question the owner to ask why. It may be that profits were high due to the lack of competition at the time or that the popularity of the product/service was soaring. Whatever reasons you are given, recognize if these trends will continue in the future.
It is important that the accounts you are given are official and not created by the business itself for guidance. Take note that it is not legally required that sole-traders or some partnerships produce business accounts at all (they use Self assessment) and that small businesses can, if they want, provide the briefest of trading details through what is known as Abbreviated Accounts.
Your accountant may also pick out things that have not been specified by the owner such as the amount of debt and other liabilities in the business. You should also determine if the business has good cash flow, and if not, if there is anything you can do to improve the situation (maybe a better credit policy).
The accounts you are given should also be used to confirm turnover/profit figures or any claims of sales numbers, etc that the owner has quoted. This research will take part in your period assigned for due diligence.
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