10 Biggest Mistakes To Avoid When Buying A Business | Business Exchange

Blog

The 10 Biggest Mistakes To Avoid When Buying A Business

April 18, 2016 | 0 Comments

The 10 Biggest Mistakes To Avoid When Buying A Business

 

PDF download

 

1) NOT DOING YOUR DUE DILIGENCE

Probably one of the single most important factors when purchasing a business, I’ll give you an example why – Have you ever purchased a home? Yes. Did you invest all that hard-earned money and not get a home inspection before finalizing the purchase? I think not.

A business purchase may be the largest investment you ever make, reviewing all aspects of the business is a must. It’s unfortunate but all too often people get excited because they believe they’re getting an amazing deal, that they’re going to be rich, whatever the reason may be they go ahead and purchase the business without conducting the correct due diligence. Guess what happens? They take possession and find out very quickly that what they bought is not exactly what they thought it was. Maybe the seller misrepresented the business or the buyer’s expectations were too high, at that point there is little or no recourse unless there was fraudulent misrepresentation.

SOME OF THE FACTORS TO CONSIDER WHEN DOING YOUR DUE DILIGENCE:

  • A thorough review of all the business financials, tax returns, HST returns, invoices, payroll information, all financial statements etc. This should always be done by a charted accountant who has the knowledge and expertise to explain what the numbers mean and what questions to ask.
  • Lease Agreements (if you don’t own the premises). Review these documents carefully and also sit down with the potential landlord and make sure they clarify any issues or questions you may have, your commercial realtor and lawyer should assist you with this process.
  • Review of management and staff. Have you heard of the old saying ”you’re only as strong as your weakest link?” You need to know whether the management and staff you are inheriting are competent people you can work with. This may be done by interviewing the staff, examining employment contracts, or looking at past employment reviews.

 

2) BEING UNDERCAPITALIZED

Under capitalization is a situation in which a business has insufficient funds, or capital, to support its operations. Although under capitalization can affect any business, it is particularly common and problematic for small businesses.

Capitalization of your business does not mean taking cash advances on your credit card or buying lottery tickets.

Although more than 50 percent of small business failures can be attributed to under capitalization, it is important for businesses not only to raise enough money but also to use that money wisely.

During your due diligence period your accountant will be able to give you a better understanding of the current and future potential cash flow of the business. This is important because debt service is an important factor to consider when purchasing a business. It’s imperative that your business be able to sustain the payments required to service the debt. Do not over extend yourself, make sure whatever you borrow has favourable rates and terms and is manageable for the business to repay.

Last, but not least, when doing the forecasts in your business plan, make sure you are conservative, that way you can meet your goals and have a realistic financial view of your business.

 

3) NOT CONSULTING PROFESSIONALS WHEN PURCHASING THE BUSINESS

I always advise clients to deal with a realtor who specializes in commercial real estate not residential. Your realtor needs to have first hand business experience and understands the sale of commercial interests. A commercial realtor can guide you through the process of choosing the correct business, making an offer, doing your due diligence and the execution of the closing of the purchase and sale of your business.

As previously mentioned, I always advise clients to hire a certified accountant as they will provide invaluable insight when evaluating the businesses during your due diligence period. They will give you a snapshot of the financial health of the business and be able to assist you in setting up the best corporate structure to maximize your net profits and minimize your tax implications.

An experienced lawyer can save you thousands of dollars from incorporating a company correctly to closing the deal. He will also dot the I’s and cross the T’s for you. Remember that lawyers specialize in different areas of the law so the one you choose must have experience in navigating the legal issues with purchasing a business.

 

4) NOT HAVING A BUSINESS PLAN

Studies have shown the more thorough the business plan the more likely the success of the business. I like to think of a business plan as the road map for a business. It will help define where your business is heading and assist in making the correct decisions along the way. A lot of people try to forgo a business plan, I have personally found it to be an invaluable tool that helps you for years to come. If you have partners and managers, it helps them fully understand your business goals and will be a prerequisite if you are trying to raise capital for your business. Investors will want to know all about your business and your financial strength. No lending institution will ever lend money to a business without a comprehensive business plan.

A well executed business plan will stop you from making poor or emotional business decisions, it will assist you in being laser focused on your goals.

WHAT YOU SHOULD INCLUDE IN YOUR BUSINESS PLAN :

analysis

 

5) NOT CHOOSING A BUSINESS THAT IS RIGHT FOR YOU

I see this a lot. Clients want to purchase a business because it’s making a lot of money or they believe it to be the next big trend. They may not know the first thing about operating this type of business. This is a recipe for disaster. You have to love and feel passionate about what you do. Trust me when I tell you this. You’ll spend more time at your business than you will at home, so you have to enjoy what you do.

Make sure the business matches your personality and skill set. If you are shy and introverted, you may not want to be in a business that requires selling all day. There are all types of businesses in the market place. Take your time, do your research and see what’s the right fit for you. On occasion, the seller will allow a potential buyer to observe the business operations for a short period of time to get a better understanding of the business. This is invaluable if you don’t have a lot of experience with the business you are interested in purchasing.

 

6) NOT UNDERSTANDING THE BUSINESS AND IT’S COMPETITION

Buying a business isn’t all about how much money it makes; you have to know all about the business including its major competitors and how the business fits into the market segment.

Get to know the industry that the business is in; ask specialists and industry experts their opinions on the business’s strengths and weaknesses. You can learn a lot by talking with their suppliers, if that is possible. Review of the industry as a whole. Find out exactly where the potential business fits in the sector. Is it a market leader? Is it well regarded with a strong reputation? Is it losing market share? These are all important questions your commercial realtor and lawyer can help answer.

Make sure you are intimately familiar with the business before you make a purchase.

 

7) NOT KNOWING WHEN TO BUY A FRANCHISE OR NON-FRANCHISED BUSINESS

A lot of people don’t put a lot of thought into this. The difference between a franchise and non-franchise business is considerable. I wouldn’t recommend buying a franchised business if you have a lot of experience in the industry in which the business operates. Franchised businesses are often best for individuals who have little to no experience.

FRANCHISED BUSINESS:

PROSthumbs-up-green

  • Support and training
  • Brand recognition
  • Local or national advertising
  • Large buying power
  • Brand invests in product development

 

thumbs-down-redCONS

  • You pay a % of your sales to Royalty and Ad funds
  • Restrictive operating practices
  • Restrictive selling of the business

 

NON-FRANCHISED BUSINESS:

thumbs-up-greenPROS

  • Owner can make all decisions
  • Latitude with regards to expansion and new products
  • No restrictions when selling the business
  • Larger % of sales is kept

 

thumbs-down-redCONS

  • No support and training
  • No buying power
  • Possible limited brand recognition
  • Product development

 

8) NOT HAVING AN EXIT STRATEGY

This may seem a little odd to have on a list of “Biggest Mistakes to Avoid when Buying a Business” but at some point, you are going to want to sell your business and it pays to be one step ahead.

Thinking ahead allows you to plan for things like “who will be the Director of the Company?” or “how can I mitigate the tax on the sale of my business”.

Trained professionals can assist with answers to all your questions and structuring the business for the correct and most profitable exit strategy.

 

9) BUYING BASED ON BUDGET ALONE

The saying ‘You get what you pay for’ is a universal truth when buying a business and buying based on price alone is a mistake. You may have a fixed budget when purchasing a business but there are many ways you can adjust your budget to maximize your investment. VTB’s (vendor take backs), business operating lines of credit, extended loan payment terms are all ways you can open up your options. Make sure when purchasing a business you consider all factors, yes price is important but it should never be your only factor.

 

10) MAKING DRASTIC CHANGES IN THE FIRST THREE MONTHS

Years ago I worked for a very successful hospitality consulting firm, the principal of the company became somewhat of a mentor to me. One piece of advice he gave that I have never forgotten was when walking into a new business, listen and observe for the first three months and don’t make any major business decisions.

People inherently believe they can make the business better than the previous owner. Don’t make rash decisions. Take your time and get to know the ins and outs of the business. Then and only then can you make a calculated business decision.

Stepping in as a new owner takes time and if you rush in with lots of changes, you may make the mistake of not knowing enough about the business to make the improvements it actually needs.

 

Download FREE the Guide on The 10 Biggest Mistakes To Avoid When Buying A Business:

 

PDF download

 

ABOUT THE AUTHOR

 

John D. Ward

Commercial Realtor
Selling Toronto Business

 

You May Also Be Interested in Our Entrepreneur’s Toolbox:

Entrepreneurs Toolbox - Starting a business

Categories: Buy a Business, Buyers Guides, Start a Business,

Leave a Reply

Your email address will not be published. Required fields are marked *

Business Buyers Guides
CATEGORIES
popular Posts