6 Mistakes to Avoid When Buying a Business - NEO Business Advisors

While buying a small business can come with immense potential benefits, there are also inherent risks. Even so, the potential risks should not dissuade you from moving forward with your plans. Arming yourself with the right knowledge and adopting the correct approach can go a long way toward mitigating these risks and placing you on the path to success. 

Over my years of experience as a business broker, I’ve identified several critical mistakes to avoid when buying a business.

What Are the Advantages of Buying a Business?

As someone who wants to buy a business, you should know exactly what you stand to gain from the acquisition. Looking for these advantages will help you discern if a business is worth purchasing.

  • Talent Pool – Hiring and training employees is time-consuming and challenging. Having already gone through this process, an established business comes with a team of qualified and proven workers that you can draw from in the future.
  • Resources – Along with talent comes existing infrastructure and company connections. From supply chains to client data, you’re buying into the company’s entire organization, which likely took years to establish.
  • Scaling Up – Business acquisitions in the same or related industries can increase economies of scale. You can expand upon your existing operations with access to new production facilities, additional capital, and broader business connections.
  • Diversifying Your Portfolio – By acquiring a company that caters to a different consumer base, you hedge against the risk of market failures that may affect one or another of your businesses.

What Are the Risks of Buying an Existing Business?

Perhaps the greatest risk of buying an existing business is a matter of improperly vetting the business in advance of the purchase.

While much of the company’s information may be public or is available through financial statements and other records, things like its inner structure and corporate culture are not typically as accessible. Understanding a company’s inner workings, from employee and supplier relationships to current and past operations, requires you to scratch beneath the surface.

Failure to do this decreases the new business owner’s chance of success in operating the business.

What Are the Biggest Mistakes Business Buyers make?  

It’s easy to get lost in the excitement of buying a business. However, your excitement can blind you to possible red flags. Avoiding these common mistakes will put you in a favorable position when it comes time to buy a business.

1. Overpaying for or Overleveraging Debt to Buy a Business

Overpaying or overleveraging debt opens up the risk of incurring too much debt to finance the purchase. A first-time buyer may become emotionally invested in the acquisition and agree to pay more than they’re comfortable with or more than it’s worth.

Try conducting a recast and business valuation to get a realistic estimate of its true economic value. This involves going through and looking at the business’s financial statements and understanding the actual cash flow it will generate as well as its debt position.

2. Improperly Vetting Brand Reputation

Keep in mind that it’s easier to see the positive value of a company than it is to discover some of the negative associations that come with an established brand.

A business can have a great product or service and a solid reputation with its customer base but may have a bad reputation with suppliers. Maybe they don’t pay in a timely manner. Maybe there’s high turnover, low pay, and not great benefits for their employees.

To better grasp a company’s brand reputation, look at its reports with the Better Business Bureau and check employee reviews on sites like Glassdoor. Try speaking directly with employees, former suppliers, and the seller.

3. Making Changes Too Quickly After Closing

Many buyers think immediate changes will result in increased revenue. However, sudden changes can disrupt the transition process and cause uncertainty. To this end, one of my current clients has a philosophy for acquisitions that has served him well: “Keep the same people doing the same things for the same customers.”

Although switching suppliers may save money, it can also negatively impact product quality. Learn why and how the business is doing what it’s doing now. The best way to determine a company’s intangible assets is simply by observing.

While you may be able to improve the efficiency of the business in the future, first take the time to learn from the present and past performance of the business. Gather as much information as you can from the business broker and seller about the company’s current operations.

4. Improperly Vetting Management Team and Employees

Always evaluate the management team and employee base. Consider each employee’s role, tenure with the company, industry experience, age, and relationship to the seller. This is critical to properly evaluate who’s likely to stay on with the business post-closing.

An owner that tries to sell you on a key employee may not tell you that the employee is considering retirement. The sale may also be the triggering event that causes that individual to retire. To fully grasp where the company’s labor force stands, you’ll need to conduct interviews with higher management and key employees.

Review the employee roster, looking at start dates, hire dates, and the date of an employee’s last raise. Check their promotions over time and see if their pay reflects the market rate. Find out as much as you can about where the seller sees their employees in the future.

5. Not Thoroughly Understanding Customer Relationships

When you buy a business, you’re buying cash flow, and that cash flow is tied to customers and customer relationships. It’s important to understand the seller’s history and relationships with each of those customers.

How long has each customer done business with the company? How were they first acquired? How has the sales volume with that customer grown or declined? If your top three customers are in one industry, this reflects an industry concentration.

Question why the top customers are all in one industry. Do the customers know each other? Do they have a personal relationship with the seller? If so, you may face the risk of losing those customers during the sale.

6. Not Considering the Challenges of Integration

Any time you have two companies whose business operations are merging, changes are likely to occur. These can include changes to company culture, payroll services, health benefits, and the roles and responsibilities of employees. Understanding employee expectations will help you mitigate the risks that come with change.

Try to gather as much information as possible from the seller about what’s important to the existing staff. To avoid scaring employees off, you’ll want to seamlessly integrate and combine some of the past services with new changes.

Purchase a Business With Confidence

Doing your due diligence can mitigate the risks associated with buying a business. However, you can only uncover so much on your own.

One of the best ways to learn more about the process is by partnering with a professional business broker. Brokers are familiar with the due diligence process and the challenges and risks associated with the industries you’re buying into.

NEO Business Advisors

At NEO Business Advisors, we have our pulse on the market. Our experienced business brokers have a vast network of seasoned accountants, attorneys, and lenders that can assist clients throughout the business sale or acquisition process. Contact us today so we can put our expertise to work for you.