Buying vs. Starting a Small Business: Insights from an Asphalt Repair Entrepreneur

The Opportunity: Acquiring an Established Asphalt Repair Business

In the world of small business ownership, entrepreneurs often face the decision of whether to start a new venture from scratch or acquire an existing operation. This dilemma is at the heart of a recent conversation between an experienced business advisor and Rory, a young entrepreneur in the asphalt repair industry.

Rory, who currently operates his own asphalt repair business, has stumbled upon an opportunity to purchase a competitor's company. The potential acquisition presents both exciting possibilities and significant challenges, making it an ideal case study for those considering similar moves in their own industries.

Current Business Operations

Before delving into the details of the potential acquisition, it's important to understand Rory's current business model:

• Services: Rory's company specializes in asphalt repair, including line painting, pothole filling, crack filling, and asphalt sealing.
• Client Base: His primary client is his brother-in-law's larger asphalt company, which subcontracts these specific services to Rory.
• Experience: Rory has been operating his business for about two years.
• Marketing: Recently, he has begun to expand his marketing efforts by creating a website and planning social media campaigns.
• Revenue: In his first year, Rory's business generated $70,000 in revenue, with a take-home profit of $35,000.
• Employees: He currently employs two workers.

The Target Business

The business Rory is considering purchasing has the following characteristics:

• Owner: The current owner is 75 years old and looking to retire.
• Experience: The business has been operating for 30 years.
• Client Acquisition: Traditionally, the owner has relied on door-to-door sales and a large list of repeat customers.
• Services: Similar to Rory's business, focusing on residential asphalt maintenance.
• Equipment: The business owns commercial-grade equipment, which is attractive to Rory for expanding his operations.
• Revenue: Reported annual revenue of approximately $190,000-$200,000.
• Employees: The business employs three workers during the operating season.
• Seasonality: Due to the Canadian climate, the business operates primarily during the summer months.

Valuation and Financial Considerations

One of the most critical aspects of any business acquisition is determining a fair valuation. In this case, several factors complicate the process:

Reported Financials

The financial statements provided by the seller raise some red flags:

• Revenue figures are listed as negative numbers, while expenses are positive - an unusual accounting practice.
• The most recent income statement (from 2021) shows a net income of only $2,200 on sales of $156,000.
• There are discrepancies between the handwritten sales figures provided by the owner and the official financial statements.

Equipment Value

The business owns various pieces of equipment, including:

• A commercial truck
• A large commercial seal tank system
• A 22,000-gallon storage tank
• Trailers
• Hot rubber applicators

Rory estimates the total value of this equipment to be around $70,000-$80,000.

Asking Price

The current owner initially asked for $250,000 for the business but has since lowered the price to $150,000.

Analyzing the Opportunity

Given the information available, several key points emerge that Rory must consider:

1. Financial Discrepancies

The significant differences between reported and actual revenue, as well as the unusually low profitability shown in the financial statements, suggest that the business may be operating partially in cash transactions not reported for tax purposes. This practice, while potentially beneficial for the current owner, makes it difficult to accurately assess the true value and potential of the business.

2. Equipment Value vs. Business Value

The most tangible asset in this acquisition appears to be the equipment. At an estimated value of $70,000-$80,000, this represents a significant portion of the asking price. However, the business itself - considering its client list, reputation, and ongoing operations - doesn't seem to justify the additional $70,000-$80,000 in value based on the provided financials.

3. Profit Potential

Rory's own experience suggests that the profit margins in this industry can be quite high - potentially up to 50%. However, the target business's financial statements don't reflect this level of profitability. This discrepancy could be due to unreported cash transactions, inefficient operations, or a combination of factors.

4. Market Position and Growth Potential

While the business has an established client base built over 30 years, it doesn't appear to have grown significantly in recent years. In fact, revenue seems to have declined from previous highs of $300,000 annually. This trend raises questions about the long-term viability of the current business model and market position.

Recommended Approach

Considering all these factors, the business advisor suggests a strategic approach to this potential acquisition:

1. Focus on Equipment: Offer to purchase the equipment for its estimated value of $70,000-$80,000.

2. Performance-Based Compensation: Propose that the current owner stay on for three summers in a sales capacity, offering him 10% commission on all sales he generates.

3. Total Package: This structure would potentially result in a total payout close to the owner's asking price of $150,000 if sales remain at the reported $200,000 annually, but it ties the additional compensation to actual performance.

4. Negotiation Strategy: Be prepared for the owner to initially reject this offer. He may spend time seeking other buyers willing to pay his asking price upfront. However, as the next season approaches, he may become more motivated to accept a deal if no better offers materialize.

Long-Term Business Development

Beyond the immediate acquisition decision, the conversation revealed several strategies Rory could employ to build a more valuable and sustainable business in the long run:

1. Expand Service Offerings

Consider adding snow removal services to create a year-round business model. This addition would allow Rory to offer comprehensive parking lot management services to commercial clients.

2. Develop Recurring Revenue Streams

Create packages for commercial property owners that include all aspects of parking lot maintenance - from snow removal in winter to sealing and striping in summer - for a flat monthly fee. This approach can lead to more stable, predictable revenue and higher customer retention.

3. Focus on Commercial Clients

While residential work can be profitable, commercial contracts often offer larger scale projects and the potential for long-term relationships. Use the winter months to focus on sales and marketing efforts targeting commercial property managers.

4. Invest in Marketing and Sales

Transition from a purely service-oriented business to one that prioritizes marketing and sales. This shift can help attract larger clients and create a more scalable business model.

5. Operational Efficiency

Learn from the current owner's financial statements and ensure that all revenue is properly reported and accounted for. Implement systems to track expenses accurately and maximize profitability.

Key Takeaways for Entrepreneurs

This case study offers several valuable lessons for entrepreneurs considering the acquisition of a small business:

1. Due Diligence is Crucial: Thoroughly examine all financial statements and be wary of discrepancies or unusual accounting practices.

2. Value Tangible Assets: In some cases, the equipment or other physical assets may represent the bulk of a business's value, especially in service-oriented industries.

3. Consider Alternative Deal Structures: When the asking price doesn't align with the business's apparent value, consider creative approaches like performance-based payouts.

4. Look for Growth Opportunities: When acquiring a business, think beyond its current operations and consider how you can expand or improve the model.

5. Understand Industry Dynamics: Having experience in the industry can provide valuable insights when evaluating a potential acquisition.

6. Plan for the Future: Consider how the acquisition fits into your long-term business goals and what steps you'll need to take to achieve them.

Conclusion

The decision to buy an existing business versus starting from scratch is never straightforward. In Rory's case, while the initial asking price for the asphalt repair business seemed high given the financial information provided, the opportunity still holds potential value - particularly in terms of acquiring commercial-grade equipment and an established client list.

By approaching the deal with a clear understanding of the business's true value and a strategic plan for future growth, Rory can potentially turn this acquisition into a stepping stone for building a larger, more profitable enterprise. The key lies in careful negotiation, thorough due diligence, and a vision for how to improve and expand the business post-acquisition.

Ultimately, whether buying or starting a business, success depends on the entrepreneur's ability to identify opportunities, mitigate risks, and execute a solid business plan. Rory's experience serves as a valuable case study for other aspiring business owners navigating similar decisions in their entrepreneurial journeys.

Article created from: https://www.youtube.com/watch?v=x9Bo8eQibjo