Submitted by Adam Williams, Esq., Williams & Jorden
News outlets are reporting record sales of small businesses in recent years, citing retiring baby boomers, a tight labor market for new employees, and decreased regulation as factors contributing to the boom.
If you buy or sell a business, it will likely be the largest transaction you will enter into in your entire life. The values typically exceed what you would spend on a house or a car.
Beyond the high dollar amounts, business acquisitions can be incredibly complex once you start to consider the impact it will have on employees, vendors, customers, partners, and other stakeholders.
Below, I will summarize the top three mistakes that occur when buying or selling a business. This is far from an exhaustive list; it’s meant to be more of a warning than a checklist.
1. Not doing your homework.
You order a home inspection done you purchase a home. You test drive a car before you purchase it. What level of effort is required when purchasing a business?
We call this process due diligence. It is an opportunity for a buyer to inspect every aspect of the seller’s business. A buyer will typically request, and inspect the following:
It is important for a buyer to review all of this information so that he can protect himself in the Purchase Agreement. I can also help a seller get maximum value for his business if these documents are all in good order.
2. Assuming that everything will go well
At the end of the day, buying a business is done through a Contract. Bad contracts only assume that things will go well. As a buyer, you want to be protected from a large loss of customers, liabilities the seller may not have disclosed, or things that you could not have discovered in due diligence.
As a seller, you want to make that the buyer won’t hold you responsible for problems that he creates.
No deal gets done without some problems. The parties need to agree on what types of problems they will each be responsible for, and what kinds (or amounts) of problems they are not willing to assume. This is why lawyers spend a lot of time drafting indemnification and escrow provisions, and why other lawyers spend a lot of time arguing poorly drafted provisions in court.
3. Not knowing how deals get done
There are two primary ways that people buy and sell businesses. One way is to buy the stock or the LLC membership interest of the seller. Another way is simply to buy the seller’s assets.
You also need to understand how you will pay for the business. If you’re a cash buyer, you may be more likely to find a willing seller. On the other hand, may want to hold some of the purchase price in escrow for unforeseen issues.
If the seller will be financing the deal, payment terms need to be spelled out explicitly, including the rights and obligations of the buyer and the seller. Will the seller have a secured interest (or lien) on the company or its assets of the buyer stops paying?
If you are going to the bank for financing, the process will take longer than you expect. Banks need to do their due diligence to make sure the deal is a financial fit for them. Banks take on huge risk when they loan money to people, and they need to mitigate as much of that risk as they can. The process may take even longer if the federal government is guaranteeing a portion of that loan through the SBA.
Talk to the experts
The process of buying or selling a business can be quite time-consuming. Buyers and sellers are often anxious to get to the closing table. Accountants, lawyers, and bankers will seem to slow the process down as they do their review.
If you are thinking of buying a business, or want to have an exit plan, talk to someone who has been there before.
*Adam will be presenting our next workshop, Business Buying and Selling: The Why and How, set for Thursday, February 13th. Click below for details and to register.