Small Business Entry
Paths to Full-Time
Entrepreneurship
Chapter 06
McGraw-Hill/Irwin
Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.
Learning Objectives
LO1 Describe five ways that people get into
small business management
LO2 Compare the rewards with the pitfalls of
starting a small business
LO3 Compare the opportunities with the
pitfalls of purchasing an existing business
LO4 Explain four methods for purchasing an
existing business
6-2
Learning Objectives
LO5 Compare the advantages with the
disadvantages of buying a franchise
LO6 Explain the issues of inheriting a familyowned business
LO7 Describe how hired managers become
owners of a small business
6-3
Five Paths to Business Ownership
 You may start a new business
 You may buy an existing business
 You may franchise a business
 You may inherit a business
 You may be hired to be the professional
manager of a small business
6-4
The Five Paths to Business
Ownership
 Franchise
– A legal agreement
that allows a
business to be
operated using the
name and business
procedures of
another firm.
 Start-up
– A new business that
is started from
scratch.
6-5
Survival Rate of
Start-up Businesses
Figure 6.1
6-6
Starting a New Business
Advantages of start-ups
Begin with a clean slate
Use the most up-to-date technologies
Provide new, unique products or
services
Can be kept small deliberately to limit
the magnitude of possible losses
6-7
Starting a New Business
Disadvantages of start-ups
No initial name recognition
Require significant time
Very difficult to finance
Cannot easily gain revolving credit
May not have experienced managers
and workers
6-8
Starting a New Business
 Cash flows
– The actual receipt
and spending of
cash by a business.
 Asset
– Something the
business owns that is
expected to have
economic value in
the future.
 Revolving credit
– A credit agreement
that allows the
borrower to pay all
or part of the
balance at any
time; as the loan
balance is paid off, it
becomes available
to be borrowed
again.
6-9
Top 12 Indicators of
Start-up Success
Exhibit 6.1
6-10
Special Strategies for Starting
from Scratch
Home-based businesses
– Businesses that are operated from the
owner’s home
Partnering
– the process of two or more entities
agreeing to work together for a common
goal
6-11
Special Strategies for Starting
from Scratch
Because of the contributions of the
partner, the founder of the start-up
may either:
 Reduce the amount of personal investment in
time and money required to make the business
succeed
 “Leverage” the contributions of the partner to
provide faster growth and higher returns on the
investment made in the start-up
6-12
Buying an Existing Business
Advantages of purchasing
an existing business
Established customers
Business processes are already in
place
Often requires less cash outlay
6-13
Buying an Existing Business
Disadvantages of purchasing
an existing business
 Finding a successful business for sale that is
appropriate for you
 Existing employees may resist change
 Reputation
 Facilities and equipment may be obsolete
6-14
Finding a Business to Buy
 First problem is finding a business for sale
 Should be in an industry in which you
have experience
 Product or service that has demand and
high margins
 Adequate financing
 Contact business brokers
6-15
Steps to Follow When Acquiring a
Business
1. Conduct extensive interviews with the sellers
of the business.
2. Study the financial reports and other
records of the business.
3. Make a personal examination of the site (or
sites) of the business.
4. Interview customers and suppliers of the
business.
6-16
Steps to Follow When Acquiring a
Business (cont.)
5. Develop a detailed business plan for
the acquisition.
6. Negotiate an appropriate price for
the business, based upon the business
plan projections.
7. Obtain sufficient capital to purchase
and operate the business.
6-17
Question
What is due diligence?
A.An agreement between the buyer and the
seller
B. Process of separating part of an operating
business into a separate entity
C.Process of finding an existing business to
purchase
D.Process of investigating a business to
determine its value
6-18
Due Diligence
 Due diligence
– process of
investigating a
business to
determine its value
 Caveat emptor
– Latin: let the buyer
beware
6-19
Purposes of Due Diligence
1. You are attempting to find any
wrongdoing: (1) fraud,
(2) misrepresentations of the sellers and
(3) missing information
2. You are trying to find any inefficiencies,
unnoticed opportunities, waste, and
mismanagement.
6-20
Determining the Value of the
Business
Discounted cash flows
– Cash flows that have been reduced in
value because they are to be received in
the future
Book value
– The difference between the original
acquisition cost and the amount of
accumulated depreciation.
6-21
Determining the Value of the
Business
 Net realizable value
– The amount for
which an asset will
sell, less the costs of
selling.
 Replacement value
– The cost to acquire
an essentially
identical asset.
6-22
Determining the Value of the
Business
Comparable Sales
Financial Ratios
– Earnings multiple
Industry Heuristics
6-23
Structuring the Deal
4 ways to buy
Buy out seller’s interest
Buy in
Buy key assets
Takeover
6-24
Franchising A Business
Trade name franchising
– agreement that provides to the
franchisee only the rights to use the
franchisor's trade name and/or
trademarks
Product distribution franchising
– agreement that provides specific brand
name products which are resold by the
franchisee in a specific territory
6-25
Franchising A Business
Conversion franchising
– agreement that provides an organization
through which independent businesses
may combine resources
6-26
Franchising A Business
Business format franchising
– agreement that provides a complete
business format, including trade name,
operational procedures, marketing and
products or services to sell
6-27
Question
All of the following are advantages of
franchising, except:
A.Marketing, product placement, advertising,
and
promotion is all controlled for you
B. Often less risky than starting or acquiring a
business
C.Franchisor often sets policies
D.Receive training and management support
6-28
Legal Considerations
If and how you can transfer the
franchise license to someone else
How you may terminate the contract
How the franchisor may terminate the
contract
What disclosures you are required to
make
6-29
Inheriting a Business
Family Businesses Succession
Developing a Formal Management
Structure
Succession Issues for the Founder
Succession Issues for the Successor
Ownership Transfer
6-30
Professional Management
of Small Business
A professional manager of a small
business is one who has the
experience and skills to use a
systematic approach to analyzing and
solving business problems.
6-31