Mergers and acquisition activity has been frequent in Cleveland and Northeast Ohio despite the curveballs the pandemic has thrown at many businesses. Most Ohio business owners and entrepreneurs know there are many moving parts to buying or merging a business. But it is easy to underestimate how complex and challenging the process of buying a business can be.
Mistakes to Avoid When Buying A Business
When buying a business, you must take the proper legal steps from the very start. The business law experts from Manning & Clair have helped numerous clients navigate buying or merging businesses, and they stand ready to help you. A misstep can sink the deal and cost you precious time, human capital and money. Learn what mistakes to avoid when buying a business.
Don’t Underestimate the Time Needed
Finding a company for sale in Cleveland or Northeast Ohio can take 12 to 24 months. Statistics show that before signing the final papers, you will have investigated dozens of opportunities, done preliminary due diligence on several of them and even signed a letter of intent. Finding a company is an emotional rollercoaster and many potential entrepreneurs quit the search because of the following:
- They did not ask the fundamental personal questions:
- Do I really want to do this?
- Does my partner support me?
- Do I want to take the financial risk?
- They did not devote sufficient time to the search as they were still focused on their previous or current job.
- They never clearly specified what type of business they were interested in and did not end up on the radar of brokers.
Potential entrepreneurs wanting to buy a company often become impatient. Avoid becoming biased and neglecting warning signs when evaluating a business for sale. It’s better to have no deal than a bad deal.
Understand the Motivation of the Seller
Business owners have strong emotional attachments to the companies they have built and will be concerned about the future of a company under new ownership. When first meeting sellers, show respect for their achievements. Listen more than you talk to understand their motivation to sell. Learn about the fundamentals of the business, know the concerns of the seller, and identify your blind spots.
Also, be humble! Do not be arrogant and tell the owner what you would change and what you think you can do better. The owner knows the business better than you do. Always ask yourself “why does the seller want to sell?”
Recognize the Business’ Profit Engine
It’s not always easy to understand why a business generates a (hopefully) healthy profit margin. The seller and the broker will try to make the business look amazing, and frequently the owner will have done earnings management to make the business look attractive. Always question why profit margins might be higher than the industry average or why they have recently increased.
Go deep into the financials to understand what happened. Make sure to also grasp the broader industry picture and how it relates to the financials of the business. Conduct a proper financial and commercial due diligence to:
- Understand cash flow characteristics to discover anomalies.
- Discover if the business has a competitive advantage (identify unique assets, capabilities, etc.).
- Draft your “first 100-days implementation plan”
In some cases, the success of the business has been built on the personal network and reputation of the original owner and is the only reason the business has been alive.
Don’t Overestimate the Value of the Business
Valuation is not a science; it is an art. It’s one thing to run the financial models behind valuation; it’s another thing to apply common sense and to know what parameters to plug in. Always be conservative when forecasting future cash. When running your financial models, always focus on the bottom-line free cash flow. Many entrepreneurs and investors underestimate future capital expenses including investments, machinery and equipment, maintenance and working capital needs.
When conducting the valuation of the business, don’t forget to include your own (market-based) salary and other business expenses such as the salary of other people you might need to hire to replace or complement the management. It’s better to pay too much for a good business than to pay too little for a bad business.
Contact Manning & Clair Before Buying a Business
Manning & Clair Attorneys at Law have extensive experience in guiding aspiring Cleveland-area entrepreneurs on the proper way to buy a business. We can provide the support and professional guidance to make the process as cost-efficient as possible. Contact us to start a business on the right legal footing! And for more free legal advice, check out Manning & Clair’s podcasts about starting a business.
