Due diligence. It’s the point in the business buying process where you start to really dig into the details (think contracts, inventory lists and the like). It’s a critically important step because it’s the step where you find out what you’re really buying. You should understand going in that you might come across some things that are less than ideal because all businesses are messy and complex. Absolutely every business has some sort of skeletons in the closet that will need to be addressed. Here are some common examples:

Long-Term Contracts

This could be anything from supplier contracts, employee contracts, your commercial lease and the like. You’ll inherit some of these contracts as-is and others (like your lease) will likely require some kind of renegotiation. Long-term contracts can be a problem if the owner before you chose (for example) a supplier whose products are inferior and/or more expensive than what you would have chosen but now you’re stuck. Although the supplier example here might not be ideal, the products are working as the business is able to remain operational – so you might just have to wait out the contract or find a way to buy yourself out. As far as your commercial lease is concerned, while you will need to renegotiate, you aren’t going to get a better deal than the owner before you. In many cases the rent will increase with a new tenant.  

Old Equipment

Once you really get into inspecting the equipment, vehicles, furnishings, etc. that you’ll be inheriting as the new owner of a business you might discover that these physical aspects are older and either need maintenance, repair or replacement. An important thing to remember is that most equipment doesn’t need to be brand new or pretty to do what it needs to do. It just needs to work. With that in mind you will probably be able to negotiate what you’re paying if the equipment you need is in such bad shape you’ll immediately have to replace it. 

Inflated Or Misrepresented Numbers

A cursory look at a single page P&L statement isn’t going to tell you much about how the business is actually doing. Neither will a simple chat with the seller. Once you really get into the numbers you might be disappointed that profits, margins and the like aren’t as good as you thought they were or were led to believe. The good news here is if the business isn’t making as much as the seller said it was you have a fairly strong argument for renegotiation to a lower price. 

The message here isn’t to immediately run away when you find problems during due diligence. Instead, look at the issues more closely to see if they are big enough issues to warrant action such as a renegotiation of your deal. 

Are you looking at businesses and want to know more about how to handle problems during due diligence? Do you have an experience to share where a business you were considering had much bigger problems than you were led to believe? Please feel free to leave any questions or comments, we would be happy to help.

Michael Monnot

941.518.7138
Mike@InfinityBusinessBrokers.com

If you are looking at buying a business, then the due diligence step will be in your future. This part of the business transaction process occurs when the seller accepts your initial purchase offer. Due diligence is important because it gives you a chance to peek behind the scenes, scour the books and dig up any skeletons lurking in your future business before you sign on the dotted line.

Wait, skeletons? What should I do if I find potential problems during due diligence?

First of all realize that it isn’t “if” you are going to find skeletons, it’s “when”. Small businesses are complicated, complicated things – and most have some kind of issue that you as a buyer will find less than ideal. Perhaps the largest customer contract is expiring shortly after you take over as owner. Perhaps the business has unpaid taxes. Perhaps the numbers initially provided by the seller don’t really add up. It really could be anything.

Once you come to grips with the fact that you are likely to uncover something potentially ugly – don’t freak out when it happens.

Think of it this way – if essentially all small businesses have issues, and these businesses with issues are still running and are appealing enough for you to have made an offer – then perhaps the issue that you’ve found can be dealt with without completely killing the deal.

Issues that can affect your bottom line as the new owner can mean a renegotiation of price and a price reduction to accommodate what you’ve found. Issues with things like unpaid taxes can mean adding provisions to the purchase contract. The point is not everything you find should send you screaming into the night. Concessions and negotiation may be able to solve the issues you find.

What if what I find is really, really bad?

Unfortunately, some skeletons are definite deal killers. You don’t want to take over a sinking ship, so if what you find is irreparable – you should absolutely walk away. The message here is just don’t jump the gun.

If you find something that makes you uncomfortable, ask your broker how bad it really is. A good broker has seen it all and will be able to tell you if a potential issue is negotiable or a deal killer. If it’s negotiable, take a deep breath and head back to the table with the seller to see what you can work out.

Do you have more questions about what can be done when skeletons come to light during due diligence? Would you like to know how to decide if an issue is a deal killer? Ask us! Leave any questions or comments and we would be happy to help.

Michael Monnot

941.518.7138
Mike@InfinityBusinessBrokers.com