Running a small business: Choosing what best suits you

WADE GLASS and GARETH HOOLE continue our series on how to go about running your own business.


In our last article we discussed how you should decide on whether going into business is what you really want and what you need to do to achieve that goal.

When you have established a clear picture of your requirements you need to consider the type of business into which you will commit your resources.

There are numerous business alternatives but, for simplicity, we have identified three business categories for consideration.

Buy an existing business

Every week, the press and real estate agencies advertise many existing businesses for sale as going concerns.

Typically, they are established enterprises which the owners wish to quit for a variety of reasons.

They usually have an existing productive asset base and this can often include stock in trade as well as existing customers.

Examples are video stores, dairies, petrol stations, clothing retailers, gift shops, nightclubs and taverns, and furniture manufacturers.

The entrepreneur who does not have an invention or unique idea to take to market might find this a sound proposition as there is probably an existing infrastructure to take and mould to their own plans.

If this is for you, your starting point is to contact an established business broker and determine what is available in your area and in your price range.

In the same way that you will need to examine a number of alternatives when buying a home, be prepared to spend a considerable amount of time looking at the different businesses available in your chosen category.

In choosing the type of business, make sure you have the essential skills available to run it effectively and make allowance for any learning curve which faces you.

Be very conservative in your estimations of what it will take to run the business you are considering buying.

For example, an insurance salesman who is contemplating buying a restaurant must take account of the skills required and what it will take to acquire them.

Never underestimate the challenges that adaptation and the learning curve will present.

When you have singled out a business that you feel suits you, the negotiation process begins. At this time it is strongly advised that you consult a professional for advice.

A business broker can facilitate the negotiation process and will prepare the agreement for sale and purchase of the business. Get your accountant or lawyer to review it before committing your signature and always make the agreement conditional upon obtaining the necessary finance and satisfactory due diligence.

Due diligence is the process whereby a suitably qualified professional gives the business the "once-over" very thoroughly to determine that the assertions the vendor has made regarding its positive attributes are true and also to ensure there are no unwanted pitfalls lying ahead.

Matters such as local council requirements, resource consent issues, the district plan, neighbouring land use, availability of a lease and rental obligations must be considered.

Historical and projected profitability need to be evaluated with a critical eye. It is important you gain a thorough understanding of the business you intend to own.

The due diligence process covers both financial and non-financial issues and it is essential for any prospective purchaser to go through the process. It does represent a cost, but it is money well spent. Think of it as insurance against future problems.

Another important consideration is obtaining a robust restraint of trade agreement from the vendor which discourages them from taking their existing customers and setting up a similar business within agreed geographical and time constraints.

One final point to consider; you generally get what you pay for and a bargain which appears to be too good to be true is probably not the windfall you think it is.

Buy a franchise

A franchise is best described as a "kitset" business. You buy from the seller, who is known as the franchisor, the right to create and operate a new outlet for an existing business, usually a recognised name or brand, in a specified geographical location.

You are then known as the franchisee. Examples of franchises are Mr Plumber, Muffin Break, Crew Cut Lawns and McDonald's.

The purchase of a franchise typically involves the payment, up front, of a franchise fee to get you into the business and there is an ongoing royalty paid periodically for the continued use of the name, usually based on turnover.

The franchise agreement will also stipulate a number of obligations which the franchisee must observe.

Franchise agreements come in many variations. The franchise fee may include all the plant and equipment necessary for the operation of the business as well as some initial instruction in running it.

Sometimes it can include access to an existing customer base and marketing assistance and this can be very useful to the entrepreneur who has limited experience.

For example, the would-be restaurant owner who has no prior experience knows that buying into one of the many available franchises will provide the essential basic training.

For more information on franchising in New Zealand, visit the Franchise NZ website.

When buying into a well-known franchise you are provided with a regimented and tested set of systems for operating the business.

For that reason, franchises are not suitable investments for entrepreneurs who have their own unique ideas or who want to operate without the constraints of a franchisor looking over their shoulders.

Another restrictive characteristic of a franchise is that you may operate it only in a designated geographical area and that can inhibit expansion when the business is successful.

Franchising works very well for some people as it gives them access to tried and tested methods, support and reduces the risk of failure.

However, a good franchise will require a substantial capital outlay.

If you are thinking of franchising as an option, a useful research technique is to approach existing franchisees and determine their success levels.

Also, discuss the options with a lawyer or accountant who has specialist franchising expertise.

Due diligence should be carried out but will probably be less extensive and less costly than in the case of an independent business as there will be more detailed information readily available.

Franchise options need to be judged on their individual merits as they will not suit all entrepreneurs.

Independent business start-up

This option suits the entrepreneur who has a unique idea or prefers to do things their way. It is likely to require less capital at the outset than a franchise or purchase of a going concern, but will generally entail a greater level of risk.

The Warehouse is a good example of an entrepreneur who decided to market low-cost goods through distinctive red buildings, in a way that suited Stephen Tindall's vision of how a retail store could be operated.

Initial capital outlay is likely to be lower and it is possible to use lease options and other innovative means of financing the capital equipment.

Because you are not buying an existing infrastructure, this alternative will require a much greater commitment to research, planning and development of a business model. You will need to consider supply sources, routes to market and distribution channels.

The entrepreneur who is intending to start his or her business will need to concentrate even more on the content of our future articles to mitigate the risks of business failure.

In our next article we discuss the alternative legal forms and structure your planned venture can take.

* Wade Glass (assistant manager) and Gareth Hoole (associate director) are chartered accountants in the Corporate Recovery Services unit of Staples Rodway, Auckland. The views expressed are their own and not necessarily those of Staples Rodway.

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