Are you considering purchasing an existing business instead of starting from scratch?
That is indeed a wise choice! While 90% of startups fail, buying a business that’s already up and running gives you a better chance at success. You are skipping the messy startup phase and jumping straight into a business that has survived initial hurdles.
However, not every business is worth buying, even if it appears they are thriving.
Businesses may have problems you don’t see right away. This guide will highlight the red flags when buying a business.
Why is the Owner Selling?
Think about this. Who would sell a business that’s doing well?
Most sellers will give you general reasons like they’re retiring, moving to a different state, or desire to pursue new opportunities. While these explanations can be genuine, sometimes, those stories mask bigger issues, such as shrinking industries or declining profits.
So, how do you protect yourself? Ask questions. Talk to employees, customers, and, if possible suppliers.
Research the company’s history. If the seller seems reluctant or pushes you to sign papers, you know what to do.
Financial Records That Don’t Add Up
You can’t make a smart call without solid numbers.
If the financials look sloppy or don’t add up, you may be walking into trouble. Messy financial records are common in small businesses however, it’s not an excuse. Especially when selling a business.
If you find a business for sale, it could be a retail store for sale, a bakery for sale, or any other business, take a closer look at the balance sheet. If you see a mismatch in profits and expenses, it is a red flag. Better get a CPA to go over the numbers.
If the seller can’t provide accurate, transparent records, it’s probably best to walk away.
Tax and Legal Troubles
Nobody wants to inherit legal or tax issues. Always check if the business has tax problems. When businesses are in trouble, they often delay paying these to keep cash flowing.
Ask for tax filings and legal paperwork. If you’re unsure about what to look for, consider bringing in an expert to avoid unexpected fines or lawsuits.
Inventory and Equipment Issues
If the deal includes inventory or equipment, inspect everything carefully. Is the inventory outdated? Are the machines falling apart? These factors can significantly impact the business’s value.
Look at how quickly the inventory moves and whether it’s in good condition. Also, compare what’s physically there to what’s on the books.
Over-Reliance on a Few Customers
Some businesses get most of their revenue from a few customers, which raises concerns about their long-term viability. If one or two big customers leave the business could collapse.
Check for a strong base of repeat customers. If there aren’t many, it might indicate issues with the product or service. Request data on customer retention to see if the business has a loyal following or is simply surviving on one-off sales.
Employee Turnover and Operations
High employee turnover is another red flag. It often points to poor management, difficult working conditions, or unsatisfied staff. Compare the turnover rate to the industry average. If it’s significantly higher, dig deeper.
Also, assess the company’s daily operations. Are things running smoothly? Are the processes efficient? If the business lacks efficiency, be prepared to invest time and money into fixing these issues.
Market Trends and the Bigger Picture
Even if the business is performing well now, consider the future. Is the industry growing, or is it in decline? Are new competitors entering the market? These are the questions you should ask.
For example, If you’re checking out a car wash, look at the traffic patterns and seasonal demand, but if you’re eyeing a wholesale business, focus on industry trends.
Wrapping it up
Whether it is your first business purchase or your tenth, take the process seriously, every single time. A single mistake could wipe out your profits and savings.
Take your time, ask the right questions, and don’t hesitate to bring in experts when necessary to avoid future headaches.
