Five Things to Be Aware of When Buying a Business
Buying a business is not a simple process. It takes time, research and effort to settle on a specific business, in a specific industry, that you think will be a good return on your investment.
Once you’ve found that business, you have see whether it’s something you can afford. Then, you need to complete due diligence to make sure everything the owner claims about the business checks out.
Finally, you have to negotiate on a sales price and terms before the purchase of the business can be complete.
As you venture through the steps in this process, there are many things you should pay attention to. Many of these things will jump off the page. This includes the company’s debt, income, profit, assets, number of employees and projections.
There are a lot of other things that won’t be as obvious, but could play a huge role in the future of the business once you purchase it. These items should not be overlooked, as doing so could result in disastrous outcomes.
Here are the top 5 things to be aware of when buying a business.
1. Buy the Business’ Assets
When you are buying a business, you want to purchase the assets and not just the business itself. This may sound a little confusing, but it’s extremely important.
During the sales process, you want to make sure you’re not just buying stock in the company, but rather are purchasing what the company owns. You should create a new business entity beforehand so that when you purchase the assets, they will be the property of your new entity, and not still property of the seller’s entity.
The first reason for this is that you’ll assume a better “tax basis.” In this situation, you’ll be able to claim the assets based on the price you paid for them, rather than the price the seller paid for them whenever they made the purchase however long ago.
Second, this will allow you to avoid being sued by anyone who the seller owes money to. If the seller is in the middle of a lawsuit, you won’t assume the liability.
2. Get a Tax Clearance Letter
If you don’t protect yourself, you could be liable for taxes that the seller owes or is behind on. Many states have the authority to go after you if the seller owes any back taxes. This could include business taxes, sales taxes, use taxes or payroll taxes.
So, how can you prevent this from happening? Through due diligence and getting a clearance letter.
In the negotiation process, you should check with the state taxing authorities to check whether all taxes are up to date. You should also check with the seller’s payroll company — if they use one — to ensure payroll taxes are up to date.
Finally, you can demand the seller provide you with a clearance letter that states they are up to date on all taxes. Then, if the state tries to come after you for back taxes the seller owes, you’ll be protected.
3. Iron Out Accounts Receivable
At the time of sale, it is very likely that the seller has outstanding invoices that haven’t yet been paid. These invoices will be considered assets for the seller.
As part of the sales process, you should iron out how these invoices will be treated. The two most common ways to handle this are to either buy the outstanding invoices outright or give the seller a percentage of the invoices you are able to collect.
In both cases, you need to assume that you won’t be able to collect on all of the outstanding invoices. As such, you shouldn’t value them at the complete outstanding value.
If you are buying the outstanding invoices, then, you should factor this in by purchasing them at a discount. Maybe you’ll pay the seller 70% of the value of the outstanding invoices, for instance. This gives the seller value for the invoices they generated while removing the work associated with collecting on the invoices.
You could also pay the seller a similar percentage of the invoices you are able to collect on at the time of collection. This would help you with cashflow, since you won’t have to pony up the cost of the invoice until you actually collect on it.
In both cases, this gives you control of the customer. If you don’t take this control, then the seller will still have the right to contact the customer to collect on the outstanding invoice — and treat them however they want in the process. This is not a good idea.
4. Assume Leases, If You Can
Another thing to investigate is whether you can assume the seller’s leases — and what it will cost you to do so.
Some landlords, for example, will require new owners to go through a vetting process if they want to assume a prior business owner’s building lease. This means you may have to pass financial muster according to the landlord’s standards.
In addition, the building lease may have language that allows the landlord to change the terms of the lease upon a business sale, including increasing rent to current market rate.
Equipment leases could work in a similar fashion. That’s why it’s very important to investigate all of these potential roadblocks when you purchase a business.
5. Get an Indemnity Clause
Even when you do a great job in due diligence, there are things that may fall through the cracks. These things that you miss during investigation could cost you a pretty penny in the future.
This is why it’s so important to have an indemnity clause from the seller. Such clauses will state that the seller will defend any lawsuits and pay any fees or judgments involving potential suits that may arise in the future concerning things they did. This will release you from potential legal liability for situations that happened before you assumed control of the business.
Indemnity clauses are rather commonplace in business sale contracts. Be prepared also that if you are asking for one from the seller, the seller may ask for one from you. This would remove liability from them for any suit that may arise for situations that occurred after the time of your purchase.
Our best advice? Don’t waste another day and talk to a Sunbelt South Florida broker today!
Sunbelt Business Brokers of West Palm Beach provides dedicated business brokerage services for all of your selling needs. Whether you are an established business owner nearing retirement and looking to sell, or an ambitious entrepreneur seeking your next investment opportunity, there is no reason to look beyond Sunbelt Business Brokers. Visit us at 800 Village Square Crossing
Suite 216 Palm Beach Gardens, FL 33410 or contact us at (561) 832-9222.