Guide to Evaluating a Small Business for Sale

Do your homework

In the real estate business, "comps" are recent sales of comparable houses in the same area; they tell you a ballpark figure for the value of a house. When you're evaluating a business, consider both what similar businesses have sold for and the typical "multiple" by which companies like it are evaluated. A multiple means, for instance, "six times cash flow" or "two times revenue."

I recommend: Ask your business broker for comps and multiples. (To find a broker, visit BizBuySell's Broker Pages or BusinessBroker.net.) If you're on your own or want to double-check the broker's numbers, look up the SIC code on the U.S. Department of Labor's SIC search page, or check the NAICS code. Once you know the industry code, search Pratt's Stats database of private company sales for comps and multiples.

Try a different formula for small businesses for sale in emerging industries

For businesses in new industries, evaluate the maturity of the business — does it have a lot of growth potential or has it had unchanging profits for the last several years?

I recommend: For expertise, turn to a business appraiser or CPA. To find one, follow the association links on Valuation Resources.com, or search the directories of the Institute of Business Appraisers or the National Association of Certified Valuation Analysts  or  find business valuation software and services on Business.com.

Turn to an industry-specific business broker

A specialist can tell you the "inside scoop" on industry trends and the dramatic effects they can have on business valuation. They can also tell you how much of a deposit you'll need to come up with; money "down" varies by industry and also by whether a potential owner has industry expertise. Keep in mind, though, that the broker works for the seller.

I recommend: The International Business Brokers Association (IBBA) offers a directory searchable by Zip code. Call the IBBA directly for help finding a specialty broker.  Check Business.com for a listing of brokers of businesses for sale.

Know your demographics, the real estate market and the business climate

If you're buying a business whose customers are mostly local, learn as much as you can about the area's demographics.

I recommend: Check 2004 county business patterns and the U.S. Census Bureau's American Community Survey for trends. Looking for a local economic development agency? Visit the Economic Development Directory for a list of links by state and province. Find vendors of demographic information, including site analysis for businesses for sale, at Business.com.

Interview the sellers

In addition to evaluating the numbers, you should evaluate the company's prospects for growth and any obstacles — including lifestyle issues — you may encounter. To do so, interview the owners extensively. Don't just ask them why they're selling; ask them how many hours they've worked weekly and how many hours a new owner would need to work to be successful. Do they know if any competitors are moving in? What are their ideas about how a new owner could grow the business?

I recommend: Get another evaluation of a small business for sale with a $39 customizable pricing report from BizBuySell.