Considering buying a company.

[DavidDoes]

My partner (wife and business partner) have been talking about and brainstorming for starting a business for some years now, but this year we really started focusing on it. We started reaching out to people that we know who have started businesses. At the same time, someone reached out to us because they're selling their business, and they know that we did something similar (on a small scale) before, and were interested in doing it again.

Long story short, this company was mostly boot-strapped, and is of relatively low value, which is perfect for us to dip our toes. They're not everything we want to do for our business, but they have a great space with low lease, and overall low overhead, and built-in business. They currently only put in ~10 hrs per week, and are netting about 1.5x the current overhead. I know this sounds too good to be true, but these are very low numbers. We're talking less than $500/mo in space lease, even less than that in monthly raw goods cost, etc. I don't have all the numbers yet. We're meeting with the owner tomorrow to see the space, the equipment, and get detailed numbers.

This business is something that both my partner and I have experience in, so we're not worried about that aspect. We've both done P&L's, I've developed COGS for my current role with my employer, managed wholesale operations, code compliance, inspections, etc. What neither of us have done is managed the legality of it. We had a small LLC. before, but that was easy.

For what it's worth, the accounts providing income to this business are not on-contract. In this industry, there typically are not contracts unless you're working with a large distributor.

We want to, at some point in the future, rebrand this existing company, when we're ready to make it into our full vision. But for the sake of not creating confusion, we'll keep the current branding for some time. But we do want to rebrand within around a year.

So, all that said, here are some questions:

- Should we start an LLC first, then purchase the company? If so, how does this work, since the company is being sold in its entirety.
- Or should we purchase the company, then rebrand the LLC. If so, how does this work?
- Should we start an LLC and build credit rapport first? Keep in mind, we're talking less than $50,000 to acquire this company.

[calimom]

About 11 years ago I bought an existing business, which purchase price was uner $50,000, like the business you're considering. The seller accepted 50% down in cash and was willing to finance the remainder over 24 months. It came with a part time employee, an older truck and some pretty good clients. Most were not under contract, some had purchase orders. Most of the clients operated on and handshake  agreements. It was an industry I had adjacent experience in, but ramped up quickly. The seller formerly operated under a sole proprietor status, and I changed to an S Corp under advisement of my accountant.

Flash forward to now, I've tripled the monthly recurring revenue and routinely bill for additional services and product. About two years in I rebranded the company name to one that works best in this century. Just about all the legacy clients still exist and the original employee is still with me, with more hours and a better pay scale. Two more part timers have been added, and I took it from a home based business to one that operates from a small warehouse I was able to purchase about three years ago.

As far as big success stories go, this is not huge, but it is and remains, one of the best financial and quality of life investments I've ever made. I encourage you to do you your due diligence on the company for sale, and go for the purchase if you feel it works numbers-wise. I do run my small business differently than the seller did, with better use of technology and a firm idea of scouting out new clients and revenue streams, and have great respect for what she started. It was a wonderful base to work from.

Wishing you all the best! An LLC before or after purchase may work well. I use and LLC for a real estate partnership and it works great. A successful small business is a good way to build wealth doing something you enjoy.

[DavidDoes]

About 11 years ago I bought an existing business, which purchase price was uner $50,000, like the business you're considering. The seller accepted 50% down in cash and was willing to finance the remainder over 24 months. It came with a part time employee, an older truck and some pretty good clients. Most were not under contract, some had purchase orders. Most of the clients operated on and handshake  agreements. It was an industry I had adjacent experience in, but ramped up quickly. The seller formerly operated under a sole proprietor status, and I changed to an S Corp under advisement of my accountant.

Flash forward to now, I've tripled the monthly recurring revenue and routinely bill for additional services and product. About two years in I rebranded the company name to one that works best in this century. Just about all the legacy clients still exist and the original employee is still with me, with more hours and a better pay scale. Two more part timers have been added, and I took it from a home based business to one that operates from a small warehouse I was able to purchase about three years ago.

As far as big success stories go, this is not huge, but it is and remains, one of the best financial and quality of life investments I've ever made. I encourage you to do you your due diligence on the company for sale, and go for the purchase if you feel it works numbers-wise. I do run my small business differently than the seller did, with better use of technology and a firm idea of scouting out new clients and revenue streams, and have great respect for what she started. It was a wonderful base to work from.

Wishing you all the best! An LLC before or after purchase may work well. I use and LLC for a real estate partnership and it works great. A successful small business is a good way to build wealth doing something you enjoy.

What a wonderfully thorough response. Thank you so much!

So, it sounds like it was relatively easy to rebrand. Did you change the name of the company legally, or just go with a DBA?

If we were to start an LLC of our own now, because we know we want to start or purchase a business anyway, is there any downside to that if we were to purchase another company? Could we somehow merge it into our own?

[SeattleCPA]

Should we start an LLC first, then purchase the company? If so, how does this work, since the company is being sold in its entirety.

A common way to do this:
1. Form a Washington state LLC. (Here are step by step instructions: https://evergreensmallbusiness.com/forming-a-washington-state-llc/ )
2. Have your LLC purchase the assets of the business so you can allocate the purchase price in manner that lets you depreciate the items you acquire:
3. For foreseeable feature, accept the default tax accounting classification which is "disregarded entity" for a husband and wife LLC if both spouses residents of a community property state like Washington.

P.S. Here's some more info about buying a business including discussion of how purchase price allocation works: https://evergreensmallbusiness.com/buying-a-small-business-tips/

[calimom]

Great advice from @SeattleCPA as usual. And forming an LLC prior to a sale can show a potential buyer that you're serious.

This will be location dependent, but I did an official company name change with my city and county, sending the current clients a letter. I used the opportunity to open a new bank account with the new name but kept the old one till all the existing clients switched their payment info. It took a few months.

[DavidDoes]

A common way to do this:
1. Form a Washington state LLC. (Here are step by step instructions: https://evergreensmallbusiness.com/forming-a-washington-state-llc/ )
2. Have your LLC purchase the assets of the business so you can allocate the purchase price in manner that lets you depreciate the items you acquire:
3. For foreseeable feature, accept the default tax accounting classification which is "disregarded entity" for a husband and wife LLC if both spouses residents of a community property state like Washington.

P.S. Here's some more info about buying a business including discussion of how purchase price allocation works: https://evergreensmallbusiness.com/buying-a-small-business-tips/

Thanks so much! Great resource. I read through that article, and your comments, and do have some clarifying questions:

- If we only purchase the assets, could we operate as a DBA with its current branding if the branding is including in the purchase? The seller wants to sell it all, but if we can just get everything without the LLC, that's ideal for us.

- In that article, it talks about ~2.5x cash profits for valuating the company. Is that annual? And would that be net profits?

- Intangible / Goodwill value - is this where current accounts and incomes get counted? I'm unsure how to value existing accounts beyond just current net profit, as it is somewhat difficult to obtain accounts in this industry, but they're also not locked into any contract.

- When it speaks of allocation of purchase price, does that mean when the final paperwork is drawn up, that's when the purchase price is broken down?

I plan on making a valuation spreadsheet and running it by our broker friend.

edit: Also, I'm wondering how much smarter it would be to purchase the company's assets vs. the company itself. With this type of business, you must get inspections and certifications with the Washington State Department of Agriculture, the Puget Sound Clean Air Agency, City of Seattle Health, etc. I don't know if those would transfer if we just purchase the assets. With such a low-value business, would it just make more sense to purchase the whole thing? Maybe it's possible to allocate the purchase price still?

[SeattleCPA]

Thanks so much! Great resource. I read through that article, and your comments, and do have some clarifying questions:

- If we only purchase the assets, could we operate as a DBA with its current branding if the branding is including in the purchase? The seller wants to sell it all, but if we can just get everything without the LLC, that's ideal for us.

Yes, you would buy the business name,  the logo, the website, etc... I.e., all the stuff that "makes up" the brand.

- In that article, it talks about ~2.5x cash profits for valuating the company. Is that annual? And would that be net profits?

The 2.5x average multiple is based on annual cash profits. E.g., a firm generates $300,000 of revenue, pays $200,000 of expenses, and makes the owner $100,000 in profits. On average, a business like this would sell for $250,000-ish.

- Intangible / Goodwill value - is this where current accounts and incomes get counted? I'm unsure how to value existing accounts beyond just current net profit, as it is somewhat difficult to obtain accounts in this industry, but they're also not locked into any contract.

The 2.5x multiple just references the value of the ongoing business. In other words, if there is a business that generates $100,000 of profit, when you pay $250,000 for that business, you get all the stuff that's needed to generate the profit.

BTW, you wouldn't get the business's bank accounts. You probably wouldn't get the business's accounts receivable or need to pay its accounts payable. And you wouldn't be on the hook for any business loans.

- When it speaks of allocation of purchase price, does that mean when the final paperwork is drawn up, that's when the purchase price is broken down?

You negotiate the allocation as part of the price. I.e., you say, "Sure, I'll pay $100,000... but I want to specify I'm paying these prices for these items..."

edit: Also, I'm wondering how much smarter it would be to purchase the company's assets vs. the company itself. With this type of business, you must get inspections and certifications with the Washington State Department of Agriculture, the Puget Sound Clean Air Agency, City of Seattle Health, etc. I don't know if those would transfer if we just purchase the assets. With such a low-value business, would it just make more sense to purchase the whole thing? Maybe it's possible to allocate the purchase price still?

There is a way to buy a corporation but then for tax purposes elect to treat the purchase as an asset purchase. It's called a Section 338(h)(10) election. Ask your CPA for help with this.

But in general, if you buy the business (so if you buy the stock) you don't allocate the price. The price you pay is for your stock in the company.

[DapperAndy]

Just following-along, as this is good and in-depth accounting advice I didn't receive when I bought my company ~1.5 years ago.

So, while I may be a bit late to the party in some of these regards, much of what is being discussed is relevant. Thank you @SeattleCPA & @DavidDoes !