How To Buy a Business Part 2: How to Find and Evaluate the Perfect Business for Your First Acquisition

If you’re considering buying your first business, you’re likely filled with questions: Where do you find businesses for sale? How do you know if it’s the right one for you? As an SBA loan broker, I’ve guided many first-time buyers through the process, and I’m excited to share insights that can make your journey smoother. Here’s a step-by-step guide to help you locate opportunities and assess their fit for you specifically. 

0. Define Your Target Statement

Before diving into your search, it’s critical to define what kind of business you are looking for. You must craft a target statement. It helps streamline your efforts and aligns opportunities with your goals and capabilities. And most importantly, it gets business brokers and sellers to take you seriously. Business brokers deal with hundreds of tire kickers for listings - to stand out from the crowd, you must present yourself as a serious buyer. 

Understand that buying a business is unlike any other purchase. It is a lengthy transaction that is built on trust and mutual respect - having a well crafted target statement helps demonstrate that you are a focused buyer who is likely to actually execute, rather than waste everyone's time. 

A well-defined target statement should include:

• Business Type: Specify whether you’re targeting product-based, distribution, or service-oriented companies.
• Financial Metrics: Define your target range for Seller’s Discretionary Earnings (SDE) or Adjusted EBITDA.
• Limiters: Include specific criteria such as preferred industries, geographic locations, or deal structures.

Example Target Statement: “I am seeking a manufacturing company, generating between $500,000 and $1,000,000 SDE, being sold at a 3-4x multiple, located in San Diego, CA.”

By clearly defining your target, you can focus your search, evaluate opportunities efficiently, and increase the likelihood of a successful acquisition.

Defining your target statement should not be something you take lightly - it should align well with your interests, skillsets, and goals. Every single business has problems - what problems do you want to solve? Remember, it is not just about the bottom line - it is about the company you will be leading on a day to day basis. 

Also, seriously consider how big of a company you can, and should, buy. 

If you plan to use SBA debt to finance your acquisition, SBA lenders want to see liquidity commensurate with the transaction size. While there’s not a hard and fast rule here, a general rule of thumb is around 15% of the total project. So if you’re aiming for a $1M acquisition, aim to have around $150k in liquid cash. 

While it may be tempting to go for a large acquisition, starting with a smaller business often makes sense. Smaller deals are easier to manage and execute on, and can provide a foundation for future growth. Also, if you’re lacking in liquidity, a smaller deal is much easier to get qualified for financing. 

1. Where to Look for Businesses for Sale

There are platforms like BizBuySell and BizQuest that serve as marketplaces for businesses. These sites provide key information such as purchase price, financials, and broker contact details. However, searchers often perceive these platforms as less effective for several reasons:

• Overrepresentation of Low-Quality Listings: Many listings are outdated or feature businesses with unattractive financials or operational issues. 
• Lack of Exclusivity: Since these platforms are public, there’s often high competition for good listings. High-quality businesses are more likely to be sold through private broker networks or word-of-mouth.
• Unvetted Sellers and Brokers: Some listings come from inexperienced brokers or sellers, leading to poor communication and disorganized information.
• Time-Consuming: The abundance of low-quality listings makes finding suitable opportunities labor-intensive.

Alternatives or complementary strategies include direct outreach to businesses, building relationships with experienced brokers, engaging with search communities like Searchfunder, and leveraging professional associations for insider networks. While BizBuySell and BizQuest can be a good starting point for beginners, advanced strategies may yield higher-quality opportunities.

That being said - there are good listings on BizBuySell and BizQuest, but you may have to turn over a lot of stones before you find a gem. 

2. Evaluate Financial Viability

Once you’ve found a potential business, the numbers need to add up. Ask yourself:

• Does the business generate enough to cover your SBA loan payment and your personal expenses? This is why we produced our SBA Loan Calculator Tool. It allows you to assess lending viability for a particular transaction, and see if the Debt Service Coverage Ratio (DSCR) pencils out. Every lender spreads deals a little differently, but it should give you an initial idea of whether your deal works or not. 
• Are the financials reliable and transparent? Documents like tax returns and profit and loss statements are critical. Your SBA lender has to use the business’s tax returns for their financial analysis - a business that is underreporting revenue on their tax return or trying to minimize their taxable income by inflating expenses may prove challenging to finance. 
• Are there excessive or non standard add backs that are difficult to prove, and won’t be accepted by an SBA lender? The most common disconnect I see between selling brokers and SBA lenders is add backs. 

Sellers and brokers will try to utilize all sorts of add backs - personal expenses, personal travel, one-time consultant fees, auto expense, the list goes on. But add backs that are piecemeal, unclear, and unable to be verified are unlikely to be accepted by an SBA lender as legitimate - and should affect your valuation and offer price accordingly. 

3. Determine Operational Fit

Not every profitable business will be the right fit. Consider these factors:

• Can You Operate It? Be prepared to actively run the business, especially for your first acquisition. I cannot tell you how many Searchers I’ve spoken to who are fresh out of their MBA program, and want $5M in SBA debt to buy a highly niche, technical business like elevator maintenance. However, they don’t know the first thing about elevators. Your SBA lender will not feel confident to lend to you if you do not have relevant industry experience, or at least relevant translatable experience. 

Don’t let not having direct experience deter you. You don’t need to have worked in the industry - but something adjacent or similar can help mitigate that experience gap.

For example, while you may not have been an elevator maintenance technician, if you have a professional background as a building engineer or industrial equipment maintenance, the right SBA lender may consider that as acceptable. If you lack experience in any related field, you may need to find other ways of bridging the gap - partnering with someone who does, or doing a partial buy out wherein the seller still remains a significant portion of equity. 

The more niche or specialized an industry is, the more important relevant industry experience is. A smaller acquisition with a simple business model (i.e. a laundromat, for example) will require even less specific industry experience (if at all.) 

That being said - it is much easier to obtain SBA financing to buy a business in an industry that you are familiar and comfortable with. 

Furthermore, having strong corporate leadership or general management experience can be hugely beneficial. Running and managing teams in any industry (or the military), building a business unit, starting a company - these are important parts of your resume you want to highlight to your SBA lender. 

• Worst-Case Scenarios: Think about what happens if employees quit unexpectedly. Would you be able to step in and perform essential tasks?

Going back to the $5M elevator maintenance company - are you going to be helpless if your lead technician quits? What if he challenges you, takes longer breaks, doesn’t get work done on time? Do you fire him, and lose out on contracts? Do you let your business grind to a halt as you scramble to hire someone else? How do you even know how to hire a quality maintenance technician? What qualities do you look for? 

While your SBA lender understands that you are mostly not doing the actual labor yourself, they want to know that you understand the inevitable industry specific problems and how to troubleshoot them. Remember - your lender wants you to succeed because they want to get paid back! 

For smaller businesses, direct involvement is often required. If you lack experience in an industry, seriously consider the learning curve and operational demands. 

4. Understand Potential Challenges

Every business comes with problems. Instead of avoiding them, evaluate how you’ll handle issues like employee absences, equipment breakdowns, or customer complaints. While you must delegate responsibilities and tasks to your team, it’s important to not be helpless in the face of surprises and challenges. As the owner, you’ll need to step up when problems arise. 

What skills do you bring as an operator and leader to the company, and how might those skills allow your new business to grow and thrive? What skills might you need to gain, and what skills would you need to outsource? 

5. Evaluate the Seller’s Role and Transparency

The seller’s involvement in day-to-day operations can offer insights into what’s required to run the business. Be cautious of “absentee owner” claims—what works for a seasoned owner may not work for you as a newcomer. Assess their transparency and responsiveness; a good rapport with the seller can make the transition smoother.

7. Key Documents to Review

During initial due diligence, focus on these essential documents:

• Confidential Information Memorandum (CIM): A summary of the business’s operations and financials.
• Financials (Profit and Loss Statements & Tax Returns): These should mostly align, but discrepancies may occur due to tax planning. As stated earlier, your SBA lender has to do their financial spread based off of the business’s tax returns. There’s many things in the financials (too many for one article) that your SBA lender is evaluating, that you should also be aware of during initial due diligence. Here’s a few: 

-Revenue: Has there been a decline? Or a spike? If so, why? What’s the story there? Declining revenues is almost never a good sign - but a sufficient explanation could still make the deal work. 

-DSCR (Debt Service Coverage Ratio): If the SBA debt were applied to the business for the past few years, would it be able to support the debt? Most lenders like to see above a 1.3x DSCR at a minimum. A common question I get is - why the need for historical cashflow? If the business wasn’t able to support the debt in 2022 and 2023, but can support the debt in the YTD financials, why not lend on it? SBA Lenders like sure bets - they want to make sure that the business is enduringly profitable and will have no problem meeting its SBA debt requirements. 

8. Final Thoughts

Buying a business is a life-changing decision that requires careful planning and evaluation. By doing your homework, staying realistic about your capabilities, and starting small, you can position yourself for success. If you’re ready to explore SBA financing options or need guidance, feel free to reach out. I’m here to help you achieve your dream of business ownership!