Considerations for Purchasing a Small Business
Buying a small business is a big step. Unfortunately, many successful entrepreneurs have purchased other businesses only to fail early on. The issue is that buying a business is different from building one on your own. Another issue is business comes with many unknowns, and it’s up to you to do the work and get all of the information you can before making the purchase. Otherwise, you could find yourself tethered to a sinking ship that could also affect your current business assets.
Even if you feel like it’s a relatively small purchase, you can’t take chances. Buying the wrong business could lead to financial disaster, depending on the state of that business. So to make sure you don’t make a mistake, here are the top considerations you need to factor in when thinking of purchasing a small business.
Understand What It Is That You Are Buying
You could be buying shares in the company, or you might be purchasing its assets. These are two distinctly different things. For one, buying shares means the company will continue operation, and you assume debts, lawsuits, and employees.
Purchasing the assets of a business gives you better tax advantages. Your tax will be evaluated when you purchased the business and not when the seller did. To lower your tax burden, you can also devalue the assets you have purchased, such as the equipment and receivables. Buying the assets gives the buyer a cleaner slate than buying shares.
Understand the Seller’s Motive
Someone could be selling their business for any number of reasons, and they are under no obligation to tell you. Instead, you must try to find out why they are selling. For example, are they trying to get out of a sinking ship, or are they just looking to retire and ride off into the sunset? Maybe they are trying to sell so that they can invest in something else.
While these are all common reasons for selling, they do not ring alarm bells on their own. However, you will need to carefully examine the business to ensure that there isn’t an underlying issue that might make the purchase an albatross for you. For example, it’s okay to buy a failing business if you have a plan to build it back up. However, make sure that your plan hasn’t already been attempted by the seller and how they are trying to shed the company.
Get a Sense of the Insurance Implications
No matter what kind of business it is, you will need insurance. However, every business has different exposure to risks and therefore has different insurance needs. Before you buy a business, you need to understand what you will have to invest in insurance and how much risk there is. In some cases, it might be that the insurance needs have changed. If it is located near a body of water that has gotten bigger over time, it might reach the building, for example. Or, the regulatory regime may have evolved, and there are more insurance requirements that you need to consider. You can get a quote for essential liability coverage for whatever kind of business it is to determine your cost and responsibilities.
Get An Independent Valuation
While you never want to assume someone is being dishonest, it’s always best to get an independent evaluation of the business you are looking to buy. They can examine the books and see how viable the business truly is. This is an especially important step if you are not trained as an accountant or financial professional. There are also ways for sellers to claim assets are more valuable than they are, and a valuation will provide accurate numbers based on wear and tear and other factors.
It could be that the business owns the property or leases the land on which it operates. If it’s a lease, you should ensure that you can continue the current lease with the property owner. If not, at least make sure that your monthly rent won’t go up significantly. Sometimes long-term tenants have favorable rates that property owners will not pass on to future tenants.
If the seller owns the property on which the building is located, then you will have to negotiate whether the property is part of the deal. For example, both of you may want to work out an agreement where you purchase the business assets but lease the property. That way, you don’t have the responsibility, and the seller can have some income coming in. You could also work out having first refusal if they eventually sell the property.
Meet the Employees
It’s always a good idea to meet the employees and get to know them a little before purchasing the business. If it seems like they are all going to leave if you buy, then you may not want to go through with it. The key employees are the ones who know the ins and outs of the business, meet with customers, and have a history of what’s been tried in the past. The seller may not want to tell the employees that the company is up for sale since it could cause people to quit all at once. Instead, make an agreement with your seller that you can meet and gauge the interest of all the employees in staying before closing the deal. Having a strong team in place will help you hit the ground running.
Buying a small business can be a great investment in your future and earnings. However, you don’t want to jump in with both feet without understanding everything you are getting yourself into. You must take the time to do all of the work to get the information you need to make an informed decision.
No matter your purpose for buying a business, you won’t meet your goals if you can’t keep it afloat after purchase. Use these tips to make sure that you don’t buy a lemon.
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