Buying A Business: Beware Of These Common Mistakes

Reprinted with permission of
Khabar Magazine

Buying a business. It's every family's dream. Whether it's your first or your tenth business, no two business transactions are exactly like and no business comes with guarantees. After all, owning a business is always a risk, but there are certain steps that every buyer can take before signing those large checks and promissory notes.

Use those Corporations and Limited Liability Companies (LLC): Even a first-time buyer knows that a corporation or LLC should be used to buy and own the business. A common mistake, however, is not doing all business in the name of the company. All leases, employment agreements, loans, and other contracts for the business must be signed in the name of the company for the company to serve its purpose. One of my clients signed the lease agreement in his own name before the business closing. Now, even though the business has been sold, the landlord refuses to change that lease, and he is still liable for the rent!

Signing personally subjects your personal assets to the risks of the business. More importantly, it may give parties a basis for arguing that your business and personal assets have been co-mingled and so the company should be ignored altogether. Your cars, stock account and bank funds could then be made available to pay the debts of the business.

Know your Business or It's not just the money, stupid! Every few days, a client will walk into my office with a handful of financials and tax returns for a business that they are interested in buying. They will know a great deal of information about how the business makes money, but not much else. Simple but important questions may not have been asked. Take the time to find out all the information available on the business. The information below is just as, and sometimes more, important than sales:

  • Is there a franchise agreement in place and how easy is it to transfer the franchise? How much is the transfer fee and who will pay for it?
  • Has the business been paying its bills, or, are there unhappy suppliers and vendors who will need to be contacted and paid off before the closing?
  • Is there a lease that will need to be assigned? Is the landlord willing to assign or is he looking for a new lease agreement?
  • How many customers does the business have and are they happy with the business? (After one business closing that I handled, a customer who made up 75% of the revenues left because he had become unhappy with the prior owner's service.)
The answers to some of these questions may change a buyer's mind as quickly as low sales. Ask a lot of questions and ask them early in the discussion. Also, do not forget the landlord. Most landlords these days use the sale of a business as an opportunity to raise the rent and change the lease terms.

Search county, state, and federal records. Every business large or small has information about it available in government files and records. Most of these records have been established specifically to give notice to the public or potential buyers. Use those records early and often. Most buyers will be sure to search land records when buying land but not when buying business assets. Even the most honest seller can be mistaken about their records, or have forgotten about an old loan which was never canceled. At a minimum, federal and state tax, UCC lien and judgment searches are absolutely necessary. These searches can be done for you by a lawyer or a search service.

Trust your partners.....but sign that agreement! If you have gone through the trouble of setting up a corporation or limited liability company to buy a business, take one more step and enter into an agreement with your business partners. The agreements should cover those situations that no one wants to think about early in the business but that can save a lot of sleepless nights later on, such as:

  • What if one partner wants to get out?
  • What happens when one of the partners dies, is disabled or bankrupt?
  • What if one partner is stealing from the business?
  • What if the partners cannot agree on how to run the business?
A shareholder's agreement or an operating agreement can settle those issues up front and before a crisis occurs. Remember, no one expects to have problems with a partner. One group of experienced business people I know, had to spend $100,000 and many months to remove a partner who had been managing the business, but not following the wishes of the rest of the partners.

Finally, read the "legalese". So many business people I meet think that agreements are "just a bunch of boiler plate." Unfortunately, boiler-plate or not, if you have not read and understood the agreement before signing, you will have to live with its terms. Some common provisions that can create a lot of problems if not properly drafted are: "indemnification" provisions, "default" provisions, "representations and warranties", "rights of setoff", "rights of refusal", and the ever-popular "waiver of notice". Generally, sellers are not interested in being responsible for anything once the business is sold, it is up to the buyer to negotiate the seller remaining liable for old bills, claims, and other obligations of the business. One of my clients has spent a considerable amount of time fighting the telephone company, not about the prior owner's telephone bill, but its yellow pages listing!

Some business buying tips for your consideration:

  • Talk to customers, suppliers, employees...anyone who can give you more information about the business;
  • Talk to other franchisees in the area, if buying a franchise;
  • Buying the assets of a business is safer but buying stock may be easier. Stock sales involve a lot less paperwork;
  • Review the equipment list and make sure you know what is owned, what is leased and what belongs to some other party;
  • Get copies of all documents from the seller up front;
  • Use accountants, attorneys and other professionals to review financial statements and documents, as needed.
Buying a business can provide financial freedom and security for you and your family, but only if you take the time and the steps to do it right.

Sonjui L. Kumar is an attorney with an office at 1584 Roswell Road, Marietta, Georgia. (770) 565-6922.