Entrepreneurship and Effective Small Business Management, 11e (Scarborough)
Chapter 7 Buying an Existing Business
1) When buying an existing business, the potential buyer should remember that:
A) it is a long process and the buyer should be patient.
B) existing businesses often do not continue to be successful after a change in ownership.
C) it is often more difficult to find capital for an existing business than it is for a start-up.
D) he/she will likely have to make significant changes in the work force.
Topic: Introduction
AACSB: Analytic Skills
2) One advantage of buying an existing business is:
A) you always get the best location.
B) the opportunity to participate in a national advertising campaign.
C) equipment is installed and production capacity is known.
D) easy implementation of innovations and changes from past policies.
Topic: Advantages of Buying an Existing Business
AACSB: Analytic Skills
3) When it comes to buying an existing business, it is not uncommon to find it:
A) overpriced.
B) difficult to finance.
C) with accounts receivable worth more than face value.
D) bargain priced.
Topic: Advantages of Buying an Existing Business
AACSB: Analytic Skills
4) When buying an existing business, one should remember that:
A) it is generally not important to independently evaluate the inventory.
B) you are always buying goodwill with the tangible assets of the business.
C) it is as easy to make change in an existing business as it is in a start-up.
D) the real reason for selling is seldom stated honestly.
Topic: Disadvantages of Buying an Existing Business
AACSB: Analytic Skills
1
5) The inventory in an existing business:
A) is always current and salable.
B) usually appreciate over time, making the business a bargain.
C) needs to be checked for age and salability.
D) is usually stated honestly and does not need independent auditing.
Topic: Disadvantages of Buying an Existing Business
AACSB: Analytic Skills
6) Accounts receivable in an existing business:
A) are rarely worth their face value.
B) unlike inventory, are often worth their face value.
C) appreciate over time due to interest and penalties.
D) are not a significant consideration when buying an existing business.
Topic: Disadvantages of Buying an Existing Business
AACSB: Analytic Skills
7) The first step an entrepreneur should take when acquiring an existing business is to:
A) explore financing options.
B) prepare a list of potential candidates.
C) analyze his/her skills, abilities, and interests in an honest self-audit.
D) contact existing business owners in the area and ask if their companies are for sale.
Topic: The Search Stage
AACSB: Analytic Skills
8) Once an entrepreneur has evaluated him/herself, the next step in the acquisition process would
be to:
A) explore financing options.
B) prepare a list of potential candidates and investigate them.
C) work on a smooth transition.
D) evaluate the physical condition of the business.
Topic: The Search Stage
AACSB: Analytic Skills
2
9) When conducting a self-evaluation, it is important to consider:
A) what kind of business you want to have and what kind you want to avoid.
B) how much money you have to invest.
C) what kind of people you like to work with.
D) how good are your sales and negotiating skills.
Topic: The Search Stage
AACSB: Analytic Skills
10) The biggest source for the best companies to buy is:
A) business brokers.
B) commercial bankers.
C) trade associations.
D) the hidden market.
Topic: The Search Stage
AACSB: Analytic Skills
11) The process of gathering information about the company, valuing the company, and
performing a detailed review of all records, agreements, and compliance is called:
A) a letter of intent.
B) nondisclosure.
C) valuation.
D) due diligence.
Topic: The Due Diligence Process
AACSB: Analytic Skills
12) When negotiating the deal, the most important thing to remember is:
A) terms are more important than the price paid.
B) to negotiate the lowest possible price.
C) often the difference in available funds can be made up by collecting accounts payable.
D) the owner of the business always asks 14-22% more than he/she is willing to take.
Topic: Negotiating the Deal
AACSB: Analytic Skills
3
13) Perhaps the ideal source of financing the purchase of an existing business is:
A) the seller.
B) the Small Business Administration.
C) a venture banker.
D) your local bank.
Topic: Negotiating the Deal
AACSB: Analytic Skills
14) Which of the following statements concerning the financing of a business purchase is true?
A) Often, the business seller is a poor source of financing.
B) The buyer should be able to make the payments on the loans out of the company’s cash flow.
C) The buyer should begin arranging financing late in the purchasing process, to avoid the
processing expenses if the deal falls through.
D) Traditional lenders tend to be more eager to lend on an existing business than they are with a
start-up.
Topic: Negotiating the Deal
AACSB: Analytic Skills
15) Which of the following is a way to smooth the transition of leadership/management from the
seller of a business to the buyer?
A) Focus on the customer, offer new incentives, improve customer service.
B) Focus on the employees, listen to them, keep them informed.
C) Concentrate on operations, updating equipment and changing processes.
D) Visit your competitors and introduce yourself and get to know them.
Topic: The Transition Stage
AACSB: Analytic Skills
16) Which of the following is not a critical area of business that is investigated during due
diligence?
A) Motivation
B) Employee issues
C) Asset valuation
D) Legal issues
Topic: The Due Diligence Process
AACSB: Analytic Skills
4
17) In evaluating an existing business, entrepreneurs should seek to answer several questions,
including:
A) Can financing be arranged?
B) What business broker should I use?
C) What industries will be “hot” in the future and is this business in one of them?
D) What legal aspects should be considered?
Topic: The Due Diligence Process
AACSB: Analytic Skills
18) The most common reasons owners of small- and medium-sized businesses give for selling
their businesses are:
A) need for money and low return on investment.
B) boredom and burnout.
C) low return on investment and burnout.
D) poor location and low return on investment.
Topic: Motivation of the Seller
AACSB: Analytic Skills
19) When a buyer is reviewing a candidate company’s lease arrangements, location and
appearance, intangible assets, etc., he is answering what basic acquisition question?
A) Is the business financially sound?
B) Why does the owner want to sell?
C) What is the physical condition of the business?
D) What legal aspects should be considered?
Topic: Confirming Valuation
AACSB: Analytic Skills
with customers and suppliers, the business has what is/are called:
A) capital.
B) goodwill.
C) intangible assets.
D) market potential.
Topic: Confirming Valuation
AACSB: Analytic Skills
5
21) ________ is (are) creditors’ claims against an existing business.
A) Assets
B) Liens
C) Equity
D) Accounts receivable
Topic: The Due Diligence Process
AACSB: Analytic Skills
22) ________ clauses require the buyer to pay the full amount of the remaining loan balance or
to finance the balance at prevailing interest rates.
A) Diligence
B) Lien
C) Foreclosure
D) Due-on-sale
Topic: The Due Diligence Process
AACSB: Analytic Skills
23) Normally, when buying a business, the seller:
A) does not sign a restrictive covenant.
B) notifies creditors 10 days prior to the sale of the business.
C) cannot assign his credit arrangements with suppliers to the buyer.
D) has little formal role or obligation in preparing documents and information necessary to the
sale.
Topic: Covenants not to Compete
AACSB: Analytic Skills
24) An agreement between a business seller and the buyer, in which the seller agrees not to open
a competing business within a specific time period and geographic area, is called a:
A) nondisclosure statement.
B) restrictive covenant.
C) bulk transfer.
D) letter of intent.
Topic: Covenants not to Compete
AACSB: Analytic Skills
6
25) To be enforceable, a covenant not to compete must be:
A) for the life of the business.
B) approved by a court of law.
C) for both direct and indirect competitive businesses.
D) reasonable in scope.
Topic: Covenants not to Compete
AACSB: Analytic Skills
26) When the buyer is examining the income statements, tax returns, and balance sheets of the
business, he/she is seeking an answer to the basic question:
A) Is the business financially sound?
B) Why does the owner want to sell?
C) What is the physical condition of the business?
D) What legal aspects should be considered?
Topic: The Due Diligence Process
AACSB: Analytic Skills
27) When seeking to evaluate the financial soundness of the company prior to purchase, the
buyer needs to examine:
A) sales tax records.
B) income tax returns.
C) financial statements.
D) all of the above.
Topic: The Due Diligence Process
AACSB: Analytic Skills
28) It is important to remember when assessing the financial soundness of a company that:
A) if profits are adequate, there will be sufficient funds to pay salaries and fund cash flow.
B) cash flow is the key financial element in determining financial soundness.
C) revenues need to equal to twice the debt load in order for the company to be viable.
D) the buyer is buying the past revenues and profits of the company.
Topic: The Due Diligence Process
AACSB: Analytic Skills
7
29) Which of the following statements about valuing a business is true?
A) The balance sheet technique is the best way to value a business.
B) Business valuation is partly art and partly science.
C) Buyers should rely on established “rules of thumb” to decide what a company is worth.
D) The primary reason buyers purchase existing businesses is to get their current earning
potential.
Topic: Methods for Determining the Value of a Business
AACSB: Analytic Skills
30) The valuation method that is commonly used, but tends to oversimplify the valuation
process, is called:
A) the excess-earnings method.
B) the balance sheet method.
C) the capitalization method.
D) the market approach.
Topic: Methods for Determining the Value of a Business
AACSB: Analytic Skills
31) A valuation method that is more realistic than the balance sheet because it adjusts book value
to reflect actual market value is the:
A) excess-earnings method.
B) market approach.
C) capitalization method.
D) adjusted balance sheet method.
Topic: Methods for Determining the Value of a Business
AACSB: Analytic Skills
32) Which of the following valuation methods does not consider the future income-earning
potential of a business?
A) Balance sheet technique
B) Excess-earnings method
C) Discounted future earnings approach
D) Market approach
Topic: Methods for Determining the Value of a Business
AACSB: Analytic Skills
8
33) The valuation approach that considers the value of goodwill is the:
A) balance sheet technique.
B) excess-earnings method.
C) discounted future earnings approach.
D) market approach.
Topic: Methods for Determining the Value of a Business
AACSB: Analytic Skills
34) When it comes to transferring goodwill in a business valuation, goodwill:
A) is considered an intangible asset and therefore not taxed.
B) can be used as a deduction by the seller.
C) is taxed for the seller as capital gains.
D) cannot be used as a deduction by the buyer because it is a capital asset.
Topic: Methods for Determining the Value of a Business, Earnings Approach
AACSB: Analytic Skills
35) The capitalized earnings approach determines the value of a business by capitalizing its
expected profits using:
A) the rate of return reflecting the risk level.
B) the prime interest rate.
C) the normal rate of return.
D) the prevailing rate of inflation.
Topic: Methods for Determining the Value of a Business, Earnings Approach
AACSB: Analytic Skills
36) The ________ approach to valuing a business assumes that a dollar earned in the future is
worth less than that same dollar is today.
A) balance sheet
B) capitalized earnings
C) excess earnings
D) discounted future earnings
Topic: Methods for Determining the Value of a Business, Earnings Approach
AACSB: Analytic Skills
9
37) Which method of business valuation relies on three forecasts of future earnings—optimistic,
pessimistic, and most likely?
A) Balance sheet technique
B) Excess-earnings method
C) Discounted future earnings
D) Market approach
Topic: Methods for Determining the Value of a Business, Earnings Approach
AACSB: Analytic Skills
38) The ________ approach to valuing a business uses the price-earnings ratios of similar
businesses to establish the value of a company.
A) balance sheet
B) capitalized earnings
C) discounted future earnings
D) market
Topic: Methods for Determining the Value of a Business, Market Approach
AACSB: Analytic Skills
39) A company’s P/E ratio is:
A) the price of one share of its common stock divided by its earnings per share.
B) its profits per share divided by its equity per share.
C) its profits per share divided by its excess cash flow per share.
D) the price of one share of its common stock divided by external capitalization.
Topic: Methods for Determining the Value of a Business, Market Approach
AACSB: Analytic Skills
40) Which of the following is a drawback of the market approach of valuation?
A) It does not consider current earnings.
B) It may under represent earnings.
C) Its reliability depends on the forecasts of future earnings.
D) It over emphasizes the value of goodwill.
Topic: Methods for Determining the Value of a Business, Market Approach
AACSB: Analytic Skills
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