(FORTUNE Small Business) – IT CAN BE CHALLENGING TO SEE PROFIT IN NEIGHBORHOODS like this one. Scruffy-looking men huddle at the bus stop. Plastic bags blow along the sidewalk. The rental houses and small retail buildings need paint. The pedestrians may not look prosperous, but many local businesses in inner-city Richmond are thriving. Until 2006, Edloe's Professional Pharmacy was one of them, producing record profits for Leonard Edloe and his father before him—so much so that Edloe's became, Leonard reckons, one of the largest independent African-American-owned pharmacies in the country. But in the past few years both the neighborhood and the pharmaceutical industry have changed radically, and Edloe is losing money trying to keep up.

A tall, soft-spoken man with a grandfatherly white beard, Edloe decided in third grade that he would take over the pharmacy business that his father had bought in 1945. "When I graduated from Howard in 1970, I had three job offers," he remembers, "one for $30,000, one for $20,000—and I went to work for my daddy for $6,000." His father died in 1972. In 1974, Edloe moved the store into a medical building two blocks away on 25th Street and eventually opened two other stores nearby, although only the original one carries his name.

Edloe needs help in three main areas. Sales from his three locations are a satisfactory $4.5 million a year, he says, "but I need a better mix of revenues." On pharmacy sales, the bulk of his business, Edloe's profit margins have dropped to 6% from 20% because of cuts in Medicare reimbursements, so he needs to diversify his product line. Also, he says, "I need help transitioning from my old clientele to the new crowd moving into the area." And finally, at age 59, Edloe is looking for an exit strategy. "My father came home one day, sat in his chair, and had a heart attack," he says. "I don't want to be like my father, to come home from work one day and die." Edloe wants more free time to teach pharmacy classes at nearby Virginia Commonwealth University and to preach at his Baptist church.

To help Edloe transition gracefully, we brought in three experts: Bryan Simms, 42, a senior vice president at Lehman Brothers in New York City who specializes in succession planning; Brian Hamilton, 44, who runs Sageworks, a financial-analysis firm in Raleigh; and John Talmage, 45, president of Social Compact, a Washington, D.C., nonprofit that performs market analyses for cities looking to revitalize troubled areas.

In the early '70s the neighborhood was still comfortably working-class. Then residents started moving to the suburbs. Property values fell, but that didn't hurt Edloe's Pharmacy, which developed a booming delivery service to reach clients who had moved to more genteel neighborhoods. Now those folks are aging, and Edloe's is surrounded by a new type of consumer. Around these few blocks of 25th Street are the unmistakable signs of encroaching gentrification—new housing construction, trendy boutiques, a coffee shop. Edloe's potential customer is now young, hip, and likely to shop at CVS or Rite Aid.

Then Uncle Sam compounded Edloe's problems. On Jan. 1, 2006, Congress changed how the government reimburses pharmacies for Medicare prescriptions under a law called Medicare Part D. Not only were payment amounts lowered, but payments that pharmacies used to receive within a week now took months. Independent pharmacies in particular struggled with cash-flow problems. Because of those changes, many of them have gone out of business. Industry analysts expect more to follow, especially those highly dependent on Medicare income. With an aging customer base, Edloe estimates that 90% of his prescription revenue comes from Medicare Part D.

JOHN TALMAGE AND HIS RESEARCH associate, Katie Reagan, bustle into the pharmacy early one morning with an air of determined efficiency. Edloe joins them, wearing his white lab coat. Reagan, armed with a laptop full of market research, sets up on a small counter in the backroom. They've spent a few minutes driving around the neighborhood, noting the reconstruction and the lack of usual urban-decay signals such as payday loan shops.

"You're in the middle of a gold mine," Talmage says. "Washington, D.C., will add 100,000 jobs a year for the next 15 years, and a lot of the growth is coming down here." He rattles off demographic data, including that customers in Edloe's immediate market area spend $10 million a year in pharmacies. "We need to position you to gather more market share."

The group walks the floor, where Reagan is wowed by the efficiency of the tiny space. "When I heard you had an 800-square-foot pharmacy, I almost fell over," she says. "Per square foot, you outsell the national average and your local competitors by leaps and bounds."

When Reagan asks, Edloe estimates that his average customer's age is 60. He looks shocked when she tells him the average age in his market is now 25 to 35. "You need to push your demographic down," Talmage says. For example, a remodel would modernize the 1970s décor and improve merchandising. Updating the pharmacy website will reach an increasingly tech-savvy customer base.

Edloe manages inventory by "walking the floor," but Reagan insists that he needs to leverage technology to help him reach his new demographic. "Your point-of-sale software offers free reports that will give you an idea of what is moving," she explains. "Tweak the inventory to emphasize items that younger customers have been requesting."

Customers like the shelves full of African-American figurines, which Edloe says have drawn collectors from Baltimore, D.C., and Raleigh. "This is a niche market," Reagan says. "You need to market this outside your community and on the web, especially at gift-giving times such as Mother's Day, Christmas, and Valentine's Day."

Talmage would like to see more community-based activity—seasonal craft fairs in the office-building lobby, for example, or local-school artwork on the walls, "anything that draws people in."

A FEW DAYS LATER, BRIAN Hamilton drives up from Sage-works in Raleigh. He is dressed casually and carries a stack of papers—all the financials he has analyzed. In the backroom he meets Edloe's wife, Sereta, 47, working at a computer desk in a partitioned-off area. Sereta pays the bills and keeps the books for all three pharmacies. "Medicare Part D has taken a lot of the joy out of this for us," she says.

Hamilton and Leonard pull up chairs and Hamilton fires off a series of probing financial questions. "I'm looking for soft spots," he explains. "For example, do you have discretion as to where you buy aspirin?"

Not really. Leonard explains he's part of a trade association that negotiates prices. How about labor? Maybe he could cut a little, but Leonard is working so hard that he needs all the help he can get. Delivery? "If I do away with that, I lose a lot of my business," he says.

Hamilton nods in agreement, then picks a bigger target: The other two locations are unprofitable. He discovers that neither contributed last year to Leonard's and Sereta's salaries. Some of their cost of goods goes on the main pharmacy's books, which means the two locations are doing even worse than the numbers indicate. "I'm just going to ask, Leonard, is it good to be in those businesses?"

Edloe answers quickly, "Their volume decreases my cost of goods." But, Hamilton argues, customers don't know that all three stores are owned by Edloe. That limits his marketing potential. "If you're going to keep them, is there a problem with branding them all the same?"

"I've thought about it," Edloe says. But he has a weakness for nice cars, and he worries that customers might bridle at his slapping his name all over a neighborhood he cruises through in his Benz.

Hamilton persists. "It's bugging me that the stores are losing money," he says. "Do you give financial statements on the stores to the people who work there?" Edloe doesn't, but he offers to tell the managers that they need to "do better." Hamilton frowns. "Employees never believe the boss, do they?" he argues. "How about, 'Guys, here's the statement, we have to get that number up.' " Edloe looks unsure, and Hamilton moves on.

After a quick look at Sereta's Quick-Books file, Hamilton discovers that although she has detailed financial reports of actual expenses, there is no budget. "You should set up an annual budget in January," he says. "That way when the numbers change, you know why you're not on plan and can catch problems early." Without a budget, he adds, businesses tend to spend more money.

Sereta rolls her eyes. "It sounds good, but the problem is I have a lot of work out front." Then she adds quickly, "That's not an excuse." Hamilton suggests finding a CPA to help set it up. "For not even a 10% increase in your workload, you can get reports that will add a lot of value. You're almost already there," he says to Sereta.

"I just need the time," Sereta sighs.

BRYAN SIMMS OF LEHMAN Brothers arrives one morning from New York City, sporting a shaved head and pin-striped suit. He draws more than a few stares from the old men sitting on a low brick wall at the bus stop. He makes his way to the pharmacy and gets to work.

"You have three options," he explains to Edloe. "You can keep the business, grow it by acquisition, or divest yourself." The hardest part of succession planning, Simms says, is making the decision to sell. Edloe is no exception. "My father worked hard, and he had more obstacles and fewer resources than I did," he says quietly. "Am I taking the easy way out?" At the same time, he admits to being tired: "This is physically and emotionally too much." He is thinking of the past year of slow reimbursement, mounting bank debt, and long hours. "Yesterday I filled 224 prescriptions myself, and I realized how burned out I am."

Simms gently steers him toward a conclusion. "You've done your job, Dr. Edloe, creating significant brand and presence," he says. "It's time. You can honor your father's legacy by maximizing the company's value." Edloe nods thoughtfully and admits that he doesn't want to be doing this in five years.

Yet Edloe is loath to sell his stores to a chain, the obvious buyer. He would like to see them preserved as independent, minority-owned pharmacies. Other African-American pharmacists have expressed interest in buying, but talks have always stalled over price.

That's because there is no clearly established value for the business, Simms explains. Setting a good price requires a professional valuation firm to comb through the company's financial history. Edloe can then respond to interested buyers with a documented value based on comparable businesses. Also, he should start planning for that sale at least a year in advance.

"The further away you can start to plan, the better you can manage tax ramifications and post-sale issues," Simms says. For example, income tax can go as high as 50%, while state and federal capital gains top out at about 25%. "The trick is for the post-sale income to be taxed at the capital gains rate," Simms explains. In other words, taking a lump sum is better than continuing to draw from the company payroll after the sale.

Another issue is share value. Shares held by the entrepreneur can be eligible for IRS discounts if they are given as gifts to family or trusts, Simms says—but only if Edloe transfers the stock before a company value is officially established. Timing, Simms explains, is everything when maximizing the company's value.

Going through the makeover process made Edloe examine his business more carefully. He recently stopped giving prescription discounts to patients accustomed to paying pre-Medicare Part D prices. "I still want to help folks," he says, "but I can't save the world." Now, he says, everything he sells is profitable.

But the best news, for Edloe, is that he is talking price with a potential buyer. A pharmacist who formerly worked for him is interested in finding partners to help her buy the business. Although Edloe won't divulge the number, he says she believes she can raise the money to meet his requested price.

Whatever the outcome, Edloe hopes that the pharmacy he worked so hard to build will live to see another half-century of change in Richmond.

YOUR TURN

HELP FELLOW entrepreneur Leonard Edloe decide whether to revamp or sell his inner-city pharmacy.

COMPANY: Edloe's Pharmacy (edloespharmacy.com)

LOCATION: Richmond

2006 SALES: $4.5 million

BUSINESS: Three small downtown pharmacies

CHALLENGES: Edloe has run his pharmacy successfully for 34 years. Now his client base is dying off, and cuts in Medicare reimbursements have pushed the business into the red.

One consultant suggested redoing the store and adding products that appeal to yuppies. Another suggested that Edloe sell his business.

Please e-mail your thoughts to FSB's Makeover editor at fsb_mail@timeinc.com. We will publish selected responses in print and at fsb.com.

THE EXPERTS

BRIAN HAMILTON runs Sageworks, a software firm in Raleigh. He has developed a program that helps analyze financial data.

(sageworksinc.com)

BRYAN SIMMS is a senior vice president at Lehman Brothers in New York City, specializing in private investment management and succession planning.

(lehman.com)

JOHN TALMAGE is the head of Social Compact, a Washington, D.C., nonprofit that performs inner-city market analyses.

(socialcompact.org)