How to Quickly Analyze a Business for Sale

If you are looking at buying a business as a way of getting started in your own business, then you need to learn how to quickly and heartlessly tear the business apart so you know if it s worthy of any more of your time.

Once you’ve done it a few times, and learned the key questions to ask, you will be able to do it effortlessly, and it will take you only a couple minutes.

For this example, we are looking at a coffee shop that was recently listed at bizbuysell.com, which is a great place to find listings. The ad is listing number 250918, but depending on when you read this, it may no longer be around (it isn’t this is from an article I wrote years ago- the info is evergreen, however!).

It doesn’t matter, though- here are the important facts from the listing:

• Asking: $199,000
• Gross: $275,000
• Cash Flow: Not Disclosed
• Year Established: 2 years ago
• Employees: 13
• Facilities: 1900 sq. ft. 6497 rent + NNN
• Reason Selling: Just had baby

There is also a lot of additional description about how they were voted best coffee house in the area, how they started a wholesale bakery division, and how they have a drive through lane, which is “unheard of” for an independent coffee shop. Don’t spend much time or give much credit to this part of any listing, however- the numbers speak much, much louder than any language telling you what a great business it is.

Now, here are what the above facts are saying about the business:

• Asking: $199,000

Really, the price is of no concern until you figure out what the business is worth. If it worth more than the price, then you found a deal. If it is worth less than the asking price, then you either make a lower offer or walk away. The least important part of what a business is worth is what the owner is asking.

• Gross: $275,000

This number is fairly low. Considering the business is not brand new, you can’t expect this number to go up to much more just based on people “discovering” the location. Either people have tried it and are going back to Starbucks, the coffee shop is drastically undercharging, or people just aren’t that interested in stopping by. If the business was only three months old, you might expect the sales to grow. But after two years, it should be doing more like $500K-$650K for a coffee shop this size. The only way, and that is a big maybe, to grow sales is through a big marketing push, and that is going to cost money.

The other thing not to like about this number is that it is too round. A number like $274,891 makes you think they are basing the sales on actual documentation. A round number like $275,000 probably means a combination of them taking unrecorded cash out of the business and poor tracking of sales. Sometimes people round it off because they think it looks “neater” but it always makes a smart buyer more suspicious.

• Cash Flow: Not Disclosed

No surprise here. You can bet this business is losing money. The only question is, how much? We’ll get to that in a minute. So right here, you know the value of a business that is losing money is, at most, the current value of the actual equipment and fixtures.

• Year Established: 2 years ago

New enough to not have much track record as a success (not that it is) but old enough that if it was going to grow into a viable business, it would have done so by now.

• Employees: 13

Knowing the number of employees gives you a decent gage of how busy a place is, and also what the labor costs are running. It may also suggest that a place is overstaffed or understaffed depending on the sales volume. This coffee shop seems very overstaffed. The average Starbucks has 12-15 employees, yet they do three times the business this coffee shop does.

Why does this place need so much staff? Is it the drive though? More likely, bad (lazy) management, and the decision to have an in house bakery. Labor cost in a coffee shop should run 30% of total sales tops- less is better. For sales of $275,000, labor should cost no more than $82,000. At this place, assuming the average worker gets $8, works 25 hours a week, and costs an extra $.20 for every dollar paid (payroll taxes, etc.) they are spending $162,400. Wow.

• Facilities: 1900 sq. ft. 6497 rent + NNN

This is another profit killer. They are paying over $3 a square foot for space, plus whatever the triple net costs are (NNN), which may be easily another $1,000 a month. That makes the annual rent of $89,964 over 32% of their total sales. Rent should be around 5%, and never over 10% of your sales in a restaurant if you ever hope to make any money. This may be a deal killer, because even if you can fix other problems with the business, if you can’t get the rent down to something you can live with, it just isn’t ever going to make money, period.

• Reason Selling: Just had baby

No doubt this is true, however, the fact that this business appears very likely to be losing money hand over fist might be another reason for wanting to sell!

Now that we have two major parts of our data, the labor and rent, we can do a quick final math check to take a guess at the total losses of this business. Food cost for this particular coffee shop may be around 20%, since they are making their own baked goods.

Normally it would be higher because most coffee shops buy baked goods wholesale and then mark them up. This cuts labor costs but reduces the amount of money they make on each sale. But, lets be generous and assume they are spending $.20 of each sale on their cost of goods sold (COGS). That means, of $275,000 in sales, they are spending $55,000 in COGS.

Here’s a table of their expenses:

In the table above, the “other expenses” are everything else you spend money on in running a business, and that figure is reasonably estimated at around 30% of total sales. This business may be somewhat higher or lower than that, but that is what a typical owner would spend.

The final analysis of this business is that it doesn’t appear to be a very good candidate for purchase. Our estimate is that it is losing close to $10,000 a month. Even if we are wrong by half, it is still losing over $60,000 a year! And since they told us the rent, and they told us how many employees they have, and we have a pretty good idea what food costs are, then we aren’t going to be off by too much.

Even if you took over and cut half the staff to make the labor reasonable, you are still stuck with a business that has an unsupportable rent and no real prospects for significant growth. Coffee shop competition is tight, and this may just not be a great location.

It doesn’t matter if they have a drive through, an in-house bakery or how many awards they’ve won, if the business isn’t providing a profit to the owners, and it has no reasonable chance of being turned around, then it isn’t a business worth considering buying for virtually any potential buyer.