The 5 Major Risks of Buying an Online Business
Do you shop online? According to a 2013 report by Forrester, e-commerce will outpace U.S. brick-and-mortar over the next five years, reaching a total of $370 billion in annual sales by 2017. The robust growth outlook has not gone unnoticed by small business buyers. In growing numbers, aspiring entrepreneurs are targeting online business opportunities in the business-for-sale marketplace, eager to tap into the benefits of a model that features lower overhead costs and greater flexibility for owners.
Based on industry estimates, there are more than 100,000 e-commerce businesses in the U.S. that generate at least $12,000 in annual revenue. When the owners of these businesses angle toward an exit, they follow the same basic process as the sellers of brick-and-mortar companies, i.e. working with a broker, establishing an accurate business valuation, listing the business, etc.
But here's the catch: Buying an online business comes with unique risks.
So, when performing due diligence, it's important to focus on specific dimensions that determine the value, risk and financial forecast for online businesses. According to Bryan O'Neill, co-founder of Centurica, a web asset due diligence and maintenance company, there are five main issues you should investigate before signing on the dotted line.
- Unsustainable Site Traffic. In the online universe, success and site traffic go hand-in-hand. Although online companies advertise through Google Adwords and other mediums, these companies rely heavily on organic search capabilities to achieve sustained site traffic. During due diligence, it's important to evaluate traffic sources for issues that could threaten search rankings and ultimately reduce the number of users who visit the site.
- Technical Trickery. You don't have to be a computer programmer to be a successful online business owner, but online companies do require a certain amount of technical know-how. Unless you are extremely adept at the technical aspects of online assets, you should consider hiring a contractor or online due diligence firm to evaluate the site for black hat SEO tactics, tampered traffic totals, plagiarized site content and other issues.
- High Maintenance Requirements. Online business owners often play a key role in normal site maintenance routines. Talk with the current owner to estimate how much time you will need to devote to site maintenance on a daily, weekly and monthly basis and to determine whether or not you have the technical chops to maintain the site without assistance. If you require additional help, you'll need to include the cost of outsourcing or of hiring an additional team member in your budget forecast.
- Competition with the Seller. The possibility of competing against the seller post-sale is a serious risk for acquirers of online companies. The ease of launching a new online business and the inability to enforce non-compete clauses overseas (where many acquisitions are based) mean that you will need to go the extra mile to research the background of the seller before you commit to a deal.
- Fraudulent Finances. Most online businesses don't audit their financial records. To verify financial disclosures, sellers are often forced to rely on secondary checks using a combination of site metrics and industry benchmarks. If a certain aspect of the site's financial information doesn't fit with the larger story being told by site metrics, it could be a sign that the financial information is flawed or fraudulent.
Once you've cleared these hurdles, you can safely reap the benefits of the online market.