I considered buying a gym about 6 months ago but never went through with it because the owner was asking too much and was unwilling to negotiate. I would suggest that if at all possible you work out a deal where you are buying the business interest alone and not the real estate. Let him maintain ownership of the property. This way he’ll have an interest in the future success of your business and it will sort of be a guarantee he’s selling you a business that’s not headed straight for the shitter. You’ll be his tenant and he’ll want the business to be successful otherwise he loses out on rent money. Also, by not becoming owner of the real estate you give yourself flexibility in the future to relocate the business should you outgrow the current facilities. Furthermore, by purchasing real estate you would be tying up capital in assets that won’t be producing a significant return and it will also increase the initial capital(downpayment) you will have to contribute since the purchase price would be much higher. Try to get the owner to finance some of the purchase. This will be a further guarantee that the business is sound and also reduce the need for bank financing. What are the sellers motivations? Find out as much as you can about why he’s selling. The more you know the more likely you can negotiate a lower price. Ask your family members and friends what they think. They may have insights and concerns that you won’t think of. I’ll reiterate what others have already pointed out, the membership base is extremely important, make sure that it is strong and that it has potential for growth. It’s the recurrent income that keeps things a float. The tanning income and sales of supplements/shirts, etc. is nice, but won’t keep the business going. What kind of return do you want or expect to get by owning and operating this business? Talk to other gym owners and business brokers to find out what the typical returns are for a gym/fitness club. Don’t forget to include a salary for yourself(or for a manager if you intend to hire one) in your valuation analysis. If you aren’t getting the returns you want beyond the salary that a gym manager would normally be paid, the deal doesn’t make sense. Get as much historical financial information as possible, preferably at least 5 years worth, and do your own analysis. Scrutinize the numbers and make sure you understand where they all come from. If you aren’t comfortable or knowledgeable enough to do the analysis yourself recruit the help of someone with some financial savvy. Even if you have to pay an accountant for their time, it’s still worth it since you’ll likely be making a substantial investment. The bottom line is you need conduct your due diligence. If I think of anything else I’ll post it. Good luck!
Roy:
Some really excellent suggestions!
One question: Is there a standard formula for valuing a fitness business? I know there are formulas for other ventures that I have been a part of.
You mentioned that one year of membership fees may be a way to determine the value, or did I read that wrong?
I have been looking at property and the potential to open a separate facility. As you suggested this is a good negotiating ploy. However, it is also a distinct possibility. His location while decent is not the very best.
His membership is at 1,400 members. The area is not that big only 70,000 population. The competition is: YMCA, Curves for women and a very high end hotel facility.
I agree, that to get into this business thinking that I am going to become wealthy from it over night is foolhardy. I truly enjoy training! It’s been a passion of mine all of my life. I would simply like to share what I have learned over the years with others, while perhaps making a living at the same time.
I was fortunate enough to make a decent amount of money in Real Estate and other ventures early on. Therefore, I am not in need of an immediate steady income from this venture.
Thanks for taking the time to write such a lengthy and informative post!
BB:
Thanks for the suggestions. When I first began in business there was no such thing as an LLC. There was only a “C” corp. or an “S” corp. I know practically nothing about an LLC. I have had S corps. for prior business ventures and never had a problem.
I don’t want to take up a lot of your time, as I know you get paid very well for such advice. However, what are the major difference between an LLC and an S corp.? Would I be better off with an LLC with this type of business? If you could just hit the highlights it would be appreciated!
Thanks again for responding!
Heres an FAQ on LLC’s
http://www.irs.gov/businesses/small/article/0,,id=98827,00.html
TopCivilian:
Great ideas!
I am hearing now from two or three people that it might be a good idea to lease the building from the owner. As you astutely pointed out the owner will then have a vested interest in seeing me succeed.
I’m also hearing the importance of the current account base. My only question on that point would be how do I value it? What is it’s inherent worth?
Thanks for your commments.
rainjack:
Thanks for coming through with a great link!
ZEB,
If you take his total membership and add up the total annual revenues, that is the “value” of a company whose “accounts receivable” you are purchasing. But only, as I mentioned, if the total revenues cover the break even costs. So approx $56K per month X 12 months would be $672K. Is he asking that much for it? If you can get it cheaper that would be great. With revenues like that you should be able to cover your nut every month pretty easily. Split the transaction into three separate transactions. One for the property, one for the equipment, and one for the membership. Course, you may just go out and build your own and earn all those customers away from him. With that hanging over his head though you may get his price down really low.
BTW, I like the advice that BB gave you on filing as an LLC. I did it for tax advantage reasons, and also I am not the sole owner. I have five investors who own about 20% of my company altogether, who have a buy-out agreement with when I pay the note off on my current facility. It has worked well for me so far.
I was a sole proprietor for the first 8 years I was in business. I don’t recommend partners unless you absolutely have to have them. I took one briefly about 3 years ago and it didn’t work too well. My investors are the best situation right now because they are just financial and don’t have a word to say about management of the business. They are truly “silent” partners! But I don’t even want them if I can help it.
What is his equipment like? Would you want any of it?
If I could give any one piece of advice to anyone going into this business it would be, DON’T GO IN UNDERCAPITALIZED! I have done this every single time, and it has made my survival a pure miracle to this point. I found out what a truly amazing sales person I am.
Gotta go to bed… Its late!
Roy:
I will be getting all of his financial data by Wednesday and should know a lot more.
I like the idea of making this an “asset” based sale, as you suggested. This protects me from any outstanding liabilities that he may have incurred. Vendor problems, lawsuits etc. It also allows me to negotiate each of the three items separately.
Again, great advice and I am sincerely appreciative!
Hey Zeb!
Sounds like you’ve already gotten some sound advice so let’s see if I can add anything else…
Purchase Price
Here’s a fundamental equation for valuing any business:
Estimated future cash flows discounted back to present = Value
Gym lingo:
Cash flows = membership revenues
This may sound like babble right now but it is a fundamental principle anyone with a finance/accounting background will know.
I am short on time right now so hopefully someone else can chime in to help explain but if not I will check back later to clarify.
Other Considerations when purhcasing:
Assets and liabilities
Assets:
Accounts receivable
Equipment (check depreciation as previously mentioned)
Liabilities:
Outstanding debt (i.e. loans)
These are just a few considerations and by no means a comprehensive list but can affect the overall value of the business.
Company formation
LLC
If you read the FAQ that was linked above you probably learned that with an LLC you can avoid the double taxation associated with an S or C Corporation.
IMO I don’t know why anyone, unless they wanted to go public, would start anything other than an LLC.
Hopefully this has helped more than it has confused you but if not let me know and I can clarify/explain when I have some more time.
One last morsel of advice:
Find good professionals and get it done right.
An accountant/financier can value businesses accurately.
Lawyers can set businesses up properly.
If you shop around you should be able to find both high quality and low prices. (I found a lawyer to set up an LLC and write a membership agreement for $250).
Best of luck!
One other thing (I just can’t stay away).
If you need to be sold on the LLC idea just look around at the number of businesses that are LLCs, it’s huge.
You can find your first example right here 
Biotest Laboratories, LLC
Testosterone, LLC
Testosterone Publishing, LLC
Maybe Timmy P can chime in and let you know why he likes LLCs.
Adios!
Mark
34:
thanks for the advice. If I do the deal I will make sure to have a good accountant and attorney on board!
The LLC corp. is really looking quite attractive, BB has emailed me some great information on them!
If a person buys a one year membership and pays for example, $300.00 up front why should I compensate the owner for that particular contract? The money is gone!
Am I not looking at this appropriately?
ZEB, I would only pay on members who are on monthly contracts. You are looking at that appropriately. Regardless of how many members he has though, you should low ball him every step of the way. He sounds like he wants out. Offer him something that pays off his debt and puts a little money in his pocket and he may not care so much about not making every drop of money he’s asking. Keep in mind that fitness centers are typically considered very high risk investments, and finding buyers is no picnic. Its a buyer’s market when it comes to fitness business sales. Make sure that your purchase pays off debts of the business, rather than you buying it and taking on their debt on top of it all.
Have you started your biz plan yet? If you want to contact me privately to help you with that I don’t mind assisting. There are always things that people leave out on expenses, like legal fees, repairs, ACTUAL advertising expenses, and other unforseen expenses. I’ve written over a dozen of them so far so I have finally (after 11 years of screwing up) started to get a grasp of how to do it properly and realisticly.
On the LLC thing, I can’t give you much info on that other than the fact that my tax attorney HIGHLY advised me to do it. On my last project I wasn’t able to do it alone and I needed outside investors, so I sold 30% of my business to 5 people (6% each). For an LLC you have to have at least two partners. Before they bought in I had to give my wife 1% to be able to maintain LLC status. Otherwise I would have had to be an S or C corp.
ZEB,
You inquired about how to calculate the value of a business, I’m no expert but I do know a little based on my experience working as a corporate finance analyst for an investment bank. I’ll try to point you in the right direction but it’s hard to describe all you need to know in a post. You should also try to get a book about valuing small businesses or consult with a professional. Calculating the value of a business is a very subjective thing and can be more of an art than a science. This is why small business buyers seek the help of brokers/bankers and corporations seek the help of investment banks. These guys know the markets and have experience with real transactions, but that doesn’t mean you can’t try to use some valuation method for the purposes of getting a “ballpark” value. At the very least it can be a gross check that you’re not getting ripped off. There are a number of different ways to determine the value of a business. For the purposes of valuing a gym 2 come to mind that may work.
The first is to place a value on the business based on a multiple of some financial metric, for instance sales, net income, or cash flow. This method works great if you have access to enough information about comparable transactions that happened in the past or if you know what multiple is typically used for that type of business(something a small business broker or small business banker may know). I doubt you’ll have access to information unless you consult with a professional so the next method may work better.
The second method you can use, and I believe other people have eluded to it’s use, is discounted cash flow analysis. If you’re not familiar with this, it simply means to determine the present value of the future free cash flows of the business. This supposedly determines the business’ intrinsic value. To do this you have to do a few things, first you need to forcast the future free cash flows of the business and you need to determine what your required(or generally excepted and used) rate of return is. As you can already see things are becoming subjective. Free cash flow is basically sales income minus cost of goods sold, minus all cash expenses minus capital expenditures. You would not subtract any debt expenses or dividends however as I mentioned before you should account for a reasonable salary for yourself as a manager. You would then assume some growth rate for sales based on demographics and past growth. You would also have to forecast growth in expenses and also forecast future capital expenses. Once you work all this out in a spreadsheet you should have a free cash flow number for each year, going out 5 or 10 years. Determining a rate of return is not easy(again something a professional may be able to help with) and the value you calculate can vary wildly with changes to this number. Just keep in mind investing in a small business is a very risky proposition and the return for owning a small business should be higher than the return for owning stock in a publicly traded corporation due to the additional risk. If I had to guess I’d say the return should be in the 20-30% range. The next step is to determine the present value of these cash flows based on your required rate of return. I would love to explain how to do this but it would just be too difficult in a post and my hands are getting tired. You really should pick up some finance books or some books about buying and valuing small businesses and read up. Keep in mind that I have simplified things greatly in this post, but I hope you get the general idea.
Is the owner leaving it up to you to make an offer or does he have a price in mind?
Another thing you should do is an analysis to see if the debt load you intend on using can be supported by the cash flow of the business. Ofcourse the amount of debt you intend on using is based on the purchase price and the amount you have to put down, but before you make a final offer make sure that you’re not under capitalized. I think someone else may have also mentioned this. Regardless of whether the price is “fair” or “market value” you need to make sure the deal works for you and that your risk is minimized.
One more thing I just thought of. In case you hadn’t planned on doing so, make sure your offer is contigent upon the review and approval of your professional advisors. That way if you have an accountant and/or lawyer look over everything and he finds a problem you won’t be contractually obligated or loose your earnest money deposit.
I’ll keep brainstorming. Good luck and keep us updated
Roy:
I agree, I am going to low ball him at the outset and see how he reacts. As I know he wants out badly. I also want to make sure that his debts are taken care of or he will feel he has to stay. How much above and beyond that will be up for negotiation.
TopCivilian:
You have given me a lot of great information, and you have done it in a manner that even a non-accountant, like myself can understand. I thank you!
Do any of you have any idea how many employees should be on relative to the people training? Is there a ratio, such as one employee for every ten trainees? I just want to make sure that new people get the proper instruction as it is needed. While at the same time keeping my costs at a reasonable level.
Labor is the most variable liability that you have ZEB, so keep that in mind.
I would keep two people at the front desk to answer questions, greet members, handle the juice bar(read below), one to two other people handling sales of new memberships, and any (shun) aerobics classes of course would require a certified teacher, but I would pay them per class on a more freelance basis. A gym really does not require that many people working at once, especially if you are there a majority of the time. I would guesstimate you and approximately 3-4 other people, not including day care and classes. If I could draw a graph you would see that with each marginal increase of labor, you will receive less and less marginal utility or benefit, so also keep that in mind. I do not think the ratio of members to workers is a legal liability issue, but you would have to consult an attorney for a definite answer, as an economics major, I would strongly advise just looking at the marginal benefit you receive from one extra worker and if it is worth the extra $7-8 per hour, go for it, but if they are just sittin around looking pretty at the front desk, toss her or him.
I’m not sure if anybody has mentioned this as of yet, but one thing that I would HIGHLY recommend to rake in some cash with a huge progit margin is a juice bar selling protein shakes of various sorts. My girlfriend works in an “athletic club”, more appropriately a fitness center, but they charge approximately $4.50 a pop for a Labrada lean body shake that probably costs them $1.50 to make.
WguitarG:
Thanks for the employee analysis.
Currently this Gym has no “pro shop” or juice bar. I can see the potential revenue climbing as it is my plan to add one immediately.
Two things…
About employees, start with as few as you need and only add more as absolutely necessary. You may have a gym full of 30 people and only need on person working the floor.
What is the square footage of the gym? How many exercisers can you accomodate in any given time? You may have one checking memberships at the door and one working the floor, but there is no rule that YOU can’t be one of those people. You are the floater doing whatever needs to be done, and more importantly establishing your presence in the facility. Your gym will be an extension of your personality and you being seen working it at every level subconsciously tells all of your members that you care about the gym and them as well. People like having access to the owner.
In my club, I had a small room by the front that wasn’t being put to good use, so I found a smoothie bar franchise that I really liked and I sub-leased it out to them for a percentage of their profits (which I have been eating up my own margins because they are so yummy). The company is called City Blends (www.cityblends.com). I didn’t want to reinvent the wheel or waste valuable time trying to run a smoothie bar when I had management duties. I can make shakes if I have to, but it can be more involved than you like. It is a great value added bonus to members too.