So, you’re buying a business? Congratulations! That’s a huge undertaking that will give you an incredible amount of excitement. By this point, I have to presume you’ve already figured out what you want to be doing and you’ve picked out a company you’re going to buy. If not, this article about acquisitions will still help, but just won’t be as immediately concerning.
Let’s talk about some things you want to look for in business acquisitions. These are the red flags you should look out for in order to ensure you’re getting a good investment. As every purchase is different, we can only cover a broad generalization of the things you should address.
Type of Acquisitions
First and foremost, you should know the difference between a company purchase and an asset purchase. If you don’t, we have a great article on this topic. Very shortly stated, a company purchase is a sale of the equity of the company, keeping the company intact. An asset purchase is purchasing all of the assets of a company by a new company. There are many reasons why you would want to choose one over the other discussed in our previous article.
Taxes, Taxes, Taxes
In both a company purchase and asset purchase acquisitions, you have to watch out for taxes. Be sure to get your seller to provide a certificate of good standing from the state department of revenue. Certain taxes run with the inventory and some run with the employees themselves. Additionally, the state and federal departments of revenue can place liens on assets of the company before and after they are transferred.
For these reasons, be sure to get that certificate of good standing and the past years’ tax records. You could be on the hook for millions in back taxes if you don’t.
If the company requires employees, it also requires very detailed employment records. You’re going to want to see interview details, performance reviews, employment contracts, an employee handbook, and all records of discipline, payroll, documented filing requirements (I-9, W-4, etc.), disability information, benefit information, and documented shifts, hours, and requested time off. The Department of Labor requires you to keep all these things from the first minute of the first day you run the company. Failure to do so can cost you huge amounts in fines.
Employees don’t care who owns the company so much as they care that they continue to get paid, keep their benefits, and get treated as well or better than they were before.
You’ll receive one inventory list at the beginning of this process, but you’re also going to need one at the end of it to ensure that you’re still getting what you bargained for. Your agreement should state that if the inventory has dropped, the purchase price will drop as well, and vice versa. You also want to make sure the inventory is in good condition and is organized for your smooth transition.
Potential lawsuits are a big item, especially if you’re buying the business through a company purchase arrangement. If there are outstanding or potential lawsuits, you can easily create a pool of money that your purchase price goes towards that the seller will receive if the lawsuits end up resolving for less.
You can also require the seller indemnify you for any lawsuits that result from actions or inaction that occurred prior to the closing of the sale of the business. The second strategy is a must for any buyer, but the first is only common when the sale price is very large or there is a high risk that the seller will not actually indemnify the buyer down the road.
Outstanding Coupons, Deals, Gift Cards
Strangely, these things come up a lot in acquisitions we’ve handled. Let’s say you buy a business for $100,000, and your profit margin is 25%. If there are thousands of half off coupons floating around, the value of this company is significantly less than you thought it was. In an asset purchase, you actually do not need to honor these coupons because they’re not with you; however, it ends up being bad for your public image when you’re forced to reject these coupons.
Additionally, they don’t always show up as such, but gift cards are a liability the company will need to fulfill in the future. These should lower the purchase price in a company purchase, and lead to an indemnification provision in an asset purchase or company purchase agreement.
Be Wary of Rushed Closing
I know you’re excited to get going running your new business, but a rushed closing hurts you more than it benefits you. A rushed closing won’t allow for you to discover all of the things necessary to look for in order to protect yourself. The certificate of good standing takes a couple of months itself, so be sure to request that immediately. Acquisitions are huge undertakings and should be treated as such.
Other Owners or Potential Owners
If there were, are, or might be other owners, you need to know every detail about their standings. You could face a position where you buy a company but end up not actually owning all of the company you just purchased because there was another owner who was wrongfully kicked out of the company. This is an area where you may need to pry to find out if there are any potential owners. Questions like “is there anyone who helped you set up this company?” or “did anyone give you money to get you started?” are great questions to ask.
If there were any previous owners, you should get the signed agreements where they relinquished their ownership. If there are no signed agreements, demand that the seller obtain these, even if the seller claims there’s no problem or they cannot approach the previous owners. This is not an area you should be lax about.
There are many other things you’ll likely see when purchasing a business. If something gives you pause, take your time to ensure that you are comfortable with the situation. If you’re not comfortable, you’re not required to make the purchase. Even if you’ve put money down, walking away is a lot safer than taking on a business that is rife with liabilities you knew nothing about.
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Disclaimer: The Information found in our blog is for educational purposes only, and is not meant as legal advice. If you need legal advice, please contact an attorney. Nothing in this blog is intended to create an attorney-client relationship.
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