The first decision a prospective business owner makes is whether to start a business from scratch, buy a franchise, or buy an existing company. This is not a legal question, though there are legal issues that may influence you. Ultimately the question is about fit. Which approach best fits your circumstances and your goals as a business owner?
The Chicken.
Helping people buy or sell existing businesses is a substantial part of my practice, but in truth few first-time business owners buy existing companies. Buying a turn-key operation is a turn-off for some entrepreneurs and too expensive for most of the rest. Buying a company is still attractive as a straight-forward way to get into business, that plus the certainty of most buyers that they will do a better job than the current owners.
Buying a company is actually a complex straight-forward way into business when done right and a straight-forward road to bankruptcy when done wrong. Each step of the way--choosing the right target, conducting due diligence, negotiating, documenting and closing a deal, transitioning between owners, and finally implementing your plan for the business—presents opportunities to stumble.
Assuming I successfully manage this one, another series on the buying and selling of companies is in order. Until then, keep “asset purchase” in mind. From a legal perspective, structure is everything when buying a business. As a general rule, buyers should avoid buying the stock of an existing company. Buying a company’s stock puts you in the legal shoes of the past owner and straddles you with every liability and skeleton-in-the-closet since inception. A stock purchase also puts the buyer at a disadvantage in income tax planning.
(You get the joke, right? I’m not pushing KFC, but once I thought of chicken and egg I couldn’t resist.) Buying into one of America’s 1100 plus franchise systems, representing over 850,000 franchised operations, is a popular route into business. Some disparagingly say buying a franchise is buying a job, but as Small Business Trends recently observed: what would be so wrong with buying a job today? Certainly a number of successful companies started by buying a single franchise; growing it from a job to a business of many franchises requires the right mix of passion and diligence.
Would-be entrepreneurs should not allow the relative ease of getting into business by franchise (that’s why they exist) to prevent them from being thoughtful and thorough in the process. The franchise agreement and other agreements with the franchisor need to be carefully discussed with competent advisors. Moreover, buying an existing operation from another franchisee should be handled as the purchase of a business and a franchise.
If a franchise is a serious consideration, there are several good resources available, such as the guide to evaluating franchise opportunities, at business.gov.
The Egg.
Start-ups are the well-spring of American entrepreneurship. Building a business from scratch to significance is the dream of many, the reality of few. The first step, of course, is taking the plunge. The rate of new business formation had been trending up for several years before the recession knocked it down in 2008; I suspect (hope, pray) the rate takes a big jump in 2009 and 2010. The concepts in this series will be useful to those who choose the chicken or the Colonel route into business, but the eggs are in my heart as I write. Survival rates in small business aren’t great. In a normal year, businesses opening their doors outnumber those shuttered or in bankruptcy by only a few percent. While seven of ten new businesses will survive two years (determination/pig-headedness is pretty typical in this crowd), by five years the rate drops to half. Legal problems are typically not the reason new businesses fail. Failure in a start-up usually stems from management, marketing and funding problems, hence my earlier post I Don’t Want Your Money. But attention to the legal issues early on will pay-off in two important ways.
First, if your first or even fifth attempt (I’ve heard of more) at starting a company fails, your attention to legal details helps keep the liabilities of a failing business from becoming your personal liabilities. Second, assuming your business succeeds beautifully, attention to the legal details positions you to avoid issues (the more you succeed, the more you have at risk) and increases your chances of a financially rewarding exit (more on that in the now-promised series on selling a business).
This is the first substantive post of "The Plunge,"and already I’m changing my outline. I’m pushing business plans and budgets into an article about finding the money (capitalizing in legalese), where they probably belonged all along.
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