What are the Traps to Avoid When Buying or Selling a Business?

Small businesses are exchanging hands at a rapid rate throughout the country. The current economic conditions are favorable for both buying and selling a business.

Whether you are interested in buying or selling a business, preparation is the key to success. Once you decide to sell your business, it is time to begin preparing for due diligence. In fact, most experts recommend that business owners begin the process of preparing to sell a small business well before it is actually ready for sale, so that you can maximize the value and the price you will receive.  You do not want to first be learning about blemishes and problems at the time you are negotiating the sale with the potential buyer.  The buyer will be looking for the problems, and may try to exaggerate their importance, as part of both the due diligence and the price negotiation processes.  

Prospective purchasers will want to review your financial records, such as a current balance sheet, profit and loss statements, tax returns, and accounts payable and receivable. Therefore, it is advisable to solidify your company’s financial health and banking relationship and get all of your corporate paperwork in order. Potential buyers will also want information about key business contracts, employees, and intellectual property, so owners should be sure to protect the confidentiality of key business data via a nondisclosure and non-circumvention agreement. Consider how to incentivize any key employee to remain with the business in the event of a sale; all employees who access confidential information should sign an acknowledgment and confidentiality agreement. You should do what you have been putting off doing: throw out old and un-needed files, clean and paint as you would do if selling your house. Promote the business instead of just relying on repeat customers (it will show that the business can be readily expanded) as evidence justifying the price multiple you are seeking.  And don’t forget to do the personal research on the buyer that the buyer is probably doing about you.

For entrepreneurs who are interested in buying a business, due diligence is also a key part of the process. While buying an existing New Jersey business can be less risky than starting from scratch, this only applies if you do your research. Don’t just look at the present physical plant, employees and ownership; research the history of the business and its ownership, including, of course any past, current or potential litigation.  Look into past problems and future plans for the area the business serves. How long do employees stay with the company, and how difficult is it to find capable, trained replacements. Who are the suppliers, and what is the history regarding rising cost of goods? Most important: find out why the business is for sale. I mean the real reason.  

Most importantly, it is important to know what you will be getting — from the financial condition of the company to the existing employees to the building lease. In many cases, it is advisable to hold back a percentage of the purchase price for a certain amount of time, i.e. six months, to account for any unexpected costs or liabilities. With regard to getting a fair price, it is advisable to retain an experienced advisor, or for larger transactions, an appraiser who can provide a detailed valuation of all of the company’s assets, including inventory, equipment, and intellectual property.  You should be a customer of the business (or have someone you trust act in that capacity), so you can get a feel of how the business you will be taking over treats its customers, or how the business might be improved to enhance its after-purchase value.

The sales of small businesses have grown significantly over the past several years. In 2012, 4,730 businesses were sold; by comparison, 7,222 businesses exchanged hands in 2015. Last year, the restaurant industry saw the most sales, accounting for 22 percent of all transactions.

Prices of other small businesses are also on the rise, according to data gathered by Score.org. In 2012, the median asking price was $187,000 with a sales price of $164,000. Prices have steadily increased, with the average asking price climbing to $225,000 and the average sales price rising to $199,000 in 2015. 

Whether the business being sold is small or large, the same rules apply: if you are the seller, make sure the buyer who is not paying cash properly securitizes any post-closing payments; and, if you are the buyer –caveat emptor.