Today I was thinking of what makes a smart investor/buyer of a business. I concluded it was the investor/buyer recognizing an undervalued business when they saw it of course. But what does that mean?
Here what I mean. I recently sold a business where the income tax returns looked all right, but not great. If one were to use the latest financials, one would conclude the business was over-priced. But a closer look revealed the business was underpriced and the buyer got a great deal. Of course, the investor/buyer was willing to take a calculated risk when making an offer to invest/buy, but the buyer dug into the pile of sand and discovered there were nuggets of gold inside it.
In this particular case, the cost of goods sold cost was running 40% or more. The buyer knew well run business of this type would have a cost of goods cost in the low 20% range. The buyer knew many variable could cause a high cost of goods costs such as (1) employee’s stealing cash (2) employee’s stealing product (3) employees not ringing-up orders or giving friends free product (4) the manager or owner stealing cash and/or product from the business (5) vendors not billing correctly (6) pricing of product was wrong (7) the employees over serving/pouring, etc.
The buyer observed the business for a couple weeks before making an offer to determine what caused the high cost of goods and whether there was a gold nugget in the pile of rubble. The buyer observed several correctable factors attributing to the high cost of goods.
First, the buyer observed there were some servers not ringing up every order. Second, the buyer observed there was no Z tape being kept. Third, the buyer using a average sales per customer method determined the sales should have been 20%+ higher than what was reported. Finally, the buyer reviewed the purchases and suspected the sales had to be greater than what was being reported.
These were all odd observations leading the buyer to question the accuracy of the numbers. But the answer wasn’t whether the business had the revenue that was being reported; rather it was one where the numbers were clearly underreported giving way to opportunity.
The offer came in, the deal close. As it turned-out, the sales were 20% or greater than reported. That was $70,000+ more of cash flow each year. Or put another way, the buyer picked-up at least $140,000+ of instant equity as long as the buyer reported this previously unreported income on the tax returns when it came time to sell.
So there are great buys out there, but sometimes one needs to look beyond the reported numbers to see opportunities. They’re out there folks! All you need is a pick and shovel and patience to go through the pile of rubble to find the gold.
We at SellingRestaurants feel obligated to educate the public, our customers and our clients with information that can help them make more intelligent buying and selling decisions.
Mel Jones is one of the premier restaurant brokers in the nation having published hundreds of articles on buying and selling a restaurant and bar business, selling thousands of restaurants in CA., WA and AZ and building one of the most copied business models in the brokerage industry. Mel started SellingRestaurants in 2004 with the one simple concept, give the buyers the information they need to make intelligent buying decisions without being pestered by a broker or hiding information, prepare the business for market by researching key details that make or break deals and educate the buyer on the buying process to create an intelligent buyer. Prior to SellingRestaurants, Mel was a Chief Financial Officer for Universal Music Group, the largest music company in the world. There he participated in more than $11.5 billion of merger and acquisition transactions. He also work for top companies such as Nestle Foods, USA. He hold a Bachelors in Business Administration Finance as well as attended Law School at Gonzaga University. Give Mel a call at 480.274.7000.