How to Avoid Pitfalls When Buying Or Selling A Business

By Kate Mesic

ThinkstockPhotos-465516011Buying or selling a business will likely be one of the defining moments of your life.

Whether you are preparing to invest your life’s savings into your dream or cashing out after a lifetime of working on your business, you want to move on confidently–knowing that you made the right decision and struck the best deal.

Approaching the sale as truly a business transaction and doing your due diligence is essential to minimizing your chances of ending up in a lawsuit later. This transaction should not be adversarial, rather both sides need to understand their commitments and responsibilities.

Here are three important phases in the transaction and factors for buyers and sellers to consider in each.

1) Structuring the deal

Buying or selling a business is inherently risky but you can protect your interests if you structure the transaction appropriately. Mitigate risk by limiting your liability and exposure in these key areas.

  • Form of transfer. Liability level, and consequently risk level, will vary based on whether you are buying the entire company or just assets. Buyers typically prefer to buy just the assets and to fold them into their own company so that they are not liable for any missteps that the seller may have made, like pending litigation or outstanding tax liens. Buying the whole company could be beneficial though if it would be difficult to run it without intangibles that might otherwise not be included in an asset sale, like the ability to continue to contract with a specific vendor or client. On the other hand sellers want to transfer stock to their corporation or membership interest of the LLC, not just the assets.
  • Noncompete agreements. Sellers commonly commit to not competing with their former business but such non-compete agreements must be limited in scope and duration. Florida law deems restrictions of three years or less to be reasonable. Florida Statute 542.335.
  • Financial terms. Seller-financing could be a mistake if the business does not perform as expected. This is particularly likely if the business depended largely on the efforts of the previous owner. As a seller, you cannot afford to be the bank because if the business does fail then you will likely have little recourse against the buyer, whose personal net worth probably eroded along with the value of the business.
  • Employees. You may not be able to force employees to stay when you buy a business but you can offer them employment ahead of time. They can be valuable assets to transfer.

2) Doing your due diligence

Due diligence protects the buyer and the seller. Factors like shoddy recordkeeping could affect business value, and therefore the purchase price. Both parties should be able to justify the transaction’s price and terms based on reliable records and information. Agree to a certain period of time to allow for due diligence, like 30 or 60 days then investigate the following areas.

  • Compliance. All business filings should be up to date, including licenses, certifications and reports to regulators.
  • Accounting records. Bookkeeping should be clear and consistent so that both the buyer and seller can assess the value of the business, as well as any assets and liabilities that may be subject to negotiation. A buyer should be allowed to have an accountant to review the books if desired. Failing to review the books or to do so properly is the biggest mistake that buyers make.
  • Operations. The buyer should visit the business and talk with employees. This would provide affirmation of their potential to grow the business or give them reason to pull out if they spot previously unidentified problems, like needed repairs or improvements.
  • Liens. You don’t want to step into a business that owes hundreds of thousands of dollars to the Internal Revenue Service. Or, some assets may be subject to lien under financing agreements made by the seller. Confirm that the business is free of liens or that you can work within those that may exist. If you’re selling the business, ensure that you disclose any liens in accordance with the transaction’s provisions to avoid litigation later.
  • Contracts. If you are buying an automobile repair shop, for example, do not assume that all of the equipment is owned by the seller and included in the transaction. You may in fact find that some equipment is leased and that you might have to sign a new contract and assume the payment when you buy the business. Confirm that you will have the materials, equipment and assets you will need to run the business.

3) Closing the deal

Agree to terms for terminating the deal before you get to the closing table. You can include terms like 30 days to waive during due diligence and stipulate the conditions under which the transaction could be resumed (i.e. allowing the seller time to find another potential buyer but providing the first potential buyer right of refusal). Set a deadline and requirements for closing the deal as well.

  • Indemnification. Assign responsibilities for remuneration for environmental remediation or any similarly lengthy and potentially expensive process.
  • Jurisdiction. Agree to an appropriate jurisdiction for any litigation that may arise.
  • Documentation. Specify documents that will be transferred, like a bill of sale or property deed.
  • Third-party approvals. Attain authorizations from any other parties involved, like a lender or government agency.
  • Sign-offs. Confirm in writing that no documents or issues remain.
  • Payment. Pay the purchase price as well as any other agreed upon fees and expenses, typically by wire transfer.

While daunting, buying or selling a business can be rewarding for both parties. You can avoid pitfalls along the way by involving attorneys, bankers, certified public accountants and other professionals who can help you through the transaction. Then it will be up to you to bring your lifelong dream to fruition.

Kate Mesic headshot by Agnes Lopez(1)By Kate Mesic

Kate L. Mesic is the President of Mesiclaw, specializing in commercial collections and criminal defense.

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