Why would you want to buy an existing business rather than start your own? For some, an ongoing cash flow is an attractive reason to buy. Another reason is a chance to grow an existing business more quickly.
Many people who buy businesses say that it is easier than a startup, although they may spend months scouting and researching a potential purchase. One thing is clear—researching the industry, the market and ultimately the company is key to future success.
Once you get to the point of seriously considering the purchase of an ongoing business and have signed a letter of intent with the current owner, you need to thoroughly investigate all aspects of the business so there are no surprises once the transaction is complete.
What does “due diligence” actually mean?
Due diligence is the process of investigating a business to make sure that you have up-to-date, accurate and complete information that will later affect your operation of the business. This means verifying the seller’s statements and the business’s documents and records.
What is a letter of intent?
A letter of intent is signed by both the buyer and seller after most of the terms of the purchase are generally agreed upon. It shows that each is serious about completing the transaction and opens the way for the buyer to look more closely at the business records of the seller.
What if I am not familiar with all the regulations or if I do not feel very comfortable with all the bookkeeping and financial statements?
Even if you are on a tight budget, the time to bring in your lawyer and accountant is before you have written a check to the seller.
What should I look for when completing due diligence?
Here are some items you want to be sure to investigate when you are buying a business.
Paperwork: A good part of your due diligence time will be spent reviewing the company’s documents. This includes reviewing all financial records, such as income statements, balance sheets, cash flow statements, payroll, tax audits and a list of all physical assets owned by the company.
Other records, reports and contracts to study would include lease and loan agreements, any lawsuits past or present and insurance policies. Records of dealings with customers can give you valuable information, as will a thorough look at the company’s marketing materials—catalogs, brochures, Web site and sales letters, for example.
Compliance: If you were starting a company from scratch, you would need to research the registrations, licenses and permits required for the business. Ensuring compliance with local and national laws and regulations is just as important if you are buying a business.
Operations: You might want to roll up your sleeves and spend some time on the factory floor if you are considering a manufacturing facility. This is the time to talk with employees to get a better feel for the business.
You can check the company’s facilities with an eye toward safety and efficiency. Look at physical inventory and compare with corporate reports. Some potential buyers have been known to actually work at a company for several weeks before finalizing the deal.
Sales—current and potential: You have most likely studied and researched a potential purchase’s market and industry before you sign a letter of intent. Now that you have the opportunity to dig deeper, you can talk with suppliers and customers. You may be able to get a better sense of the competition.
I am selling my business. What due diligence should I complete?
As the buyer is studying the prospective acquisition, you should be studying the buyer. Of course you want to know if he or she can make the one or more payments called for in the contract. Even if the buyer is paying cash and you are retiring, you have an interest in maintaining a positive reputation for the business within the community.