blocks showing risk and return to indicate the risks and other considerations in business a business

Key Considerations and Pitfalls to Avoid in Buying a Business

If you're looking to expand your business or are just starting, buying a pre-existing, well-established business can serve as an effective stepping stone towards fulfilling your corporate goals.

Purchasing an existing business instead of starting a new one certainly has its benefits. For example, it can save you the effort of hiring new employees and securing a new facility and equipment. However, you'll still need to take certain things into account, which we'll cover in detail soon.

Buying a business isn't a straightforward process. It all boils down to signing a set of documents and paying the seller, but there is also a highly demanding preparation period that must be attended to before you seal the deal!

When purchasing a business, you must do all that you can to identify both its strengths and challenges. Do your due diligence! Research the market well, look into the history of fantastic brands, find out if they have any legal issues floating around them or any other possible detriments in regards to the product they sell/serve.

This article will carefully analyze key considerations and potential pitfalls to take into account before you invest in an existing business.

Key Considerations When Buying a Business

Below is a list of essential questions to consider before taking over an existing business:

1. How Much is the Business Truly Worth?

Diving headfirst into the retail market for existing businesses will expose you to a range of fancy price tags, that's for sure. But is every price tag justified, and should you be paying the quoted price to acquire a new business just because its current owner demands it?

Asking yourself these questions before you sign the transfer papers will help ensure you're making the right decision when finalizing the sale price for the business you'll be purchasing.

Indulging in due diligence can help you determine the business' true worth. With the help of some in-depth research about the company, its financial records, and overall history, you can come up with a list of supporting points that will either justify the company's current selling price or give you a good reason to ask the seller to lower their price point.

So, for example, if the business has a healthy record of making continuous sales, its high market value may be justified, and you shouldn't hesitate to pay up. However, if, after looking into the business' sales records, you find that sales have been rapidly declining in recent months (or years), you can hold a meeting to discuss a lower selling price with the business' current owner.

Although sales records are generally considered the most reliable source of information regarding a company's standing, it doesn't hurt to look into its other facets, too.

You should carefully analyze the company's relationship with its customers, its current staffing and their collective expertise, and other essential elements like brand loyalty and trade monopoly (which we'll discuss in detail below).

Carefully analyzing all of these – especially with the help of a professional business lawyer – can help you determine whether or not the business is really worth the amount it's currently priced at.

2. What Are the Company's Operating Costs and Profitability?

Although evaluating a business's profitability can give you a pretty good idea of how much it should cost, there are other factors that should affect your buying decision. For example, an established restaurant chain may not be doing all that well financially, but if it has several venues spread out over a few different cities, that may still be worth the asking price.

But how can you tell?

One of the best ways to evaluate whether or not a business is truly worth its current selling price is by looking into its operating costs and profitability – and we do mean: thorough research here. There are so many factors involved with this, like the business' location, the amount of rent it pays for its office space, and employee salaries. There are countless items to take into consideration here – but if you're clever and thorough enough, you can get a pretty good idea about what it costs to operate the business.

After establishing the operating costs, you can compare them with the company's earnings to see whether or not they're worth it – that is, if the business is making money after all of its running costs have been deducted.

3. How Strong is the Producer-Consumer Relationship?

Let's talk about brand loyalty and goodwill. Buying a brand with poor brand loyalty or goodwill means you're likely buying into a company that doesn't value its clients and provides either low-quality products, poor customer service, or ineffective sales strategies. In turn, these may have ultimately resulted in a compromised producer-consumer relationship.

A business that doesn't value its customers is not a business you'd like to invest in.

On the other hand, if the business evidently has a strong relationship with its customers, investing in it is an excellent idea because you will not need to spend extra time earning back the trust of your potential client base. As a result, sales will likely remain steady, even after you take over.

Be sure to consider everything about the business's product or service that customers value, and make sure the same high standards remain even after you take over. Conducting extensive market research will help you understand these "standards" better, and having a qualified professional, like a business lawyer, can help you ensure your company's official rules and regulations keep employees on track, too.

4. What is the Company Culture Like?

A company's working culture is determined by the brand's goals, towards which it works, and values, which its employees are expected to embody in the pursuit of said goals. Carefully analyzing its culture before buying a business can help you understand whether it is worth investing in.

Look for things like leadership style, worker efficiency, and team values. For example, do most, if not all, employees have a commendable productivity rate, or are they prone to slacking off due to mismanagement or poor leadership skills? If the latter is the case, you should consider whether or not you're keen on investing extra time and effort into reinventing the company's culture. Suppose it seems like too much work to you, and you'd rather buy a business that has a highly productive work culture. In that case, it's best to start looking into alternative companies for sale.

Remember, you don't need to settle for the first company that crosses your path. Instead, allow yourself time to sieve through a series of businesses until you find one that matches your requirements and expectations.

5. Does the Company Have an Effective Business Strategy?

Just because the business is currently doing well doesn't mean you should just invest your money into it. You must find out whether or not its current strategy works for its overall mission, which means sifting through all of its official documentation.

Specifically, you need to understand how the company plans to grow in the future and what its target industry is.

6. What Strategic Partnerships Does the Business Have?

Strategic business partnerships can make or break a company. This is why it's important to closely evaluate the type of ties your potential business venture has with other companies, suppliers, and distributors – both in its immediate industry and beyond.

7. Does the Business Have Strong Competition?

Conducting a thorough market search before buying a business can help you understand that company's stance when weighed against rival brands. Very few companies have managed to create a strict monopoly for their product or service within a distinct market, so don't be surprised if you find a long list of competitors for the business you're interested in buying.

The important part is looking into these competitors and then seeing how the business you're interested in buying measures up against them. Does the business rank lower than its competitors in consumer preference, or is it among the top options for potential customers?

Knowing this will help you decide whether or not to buy this business. If it isn't a top option amongst its target client base, there is a slim chance you will be able to fix this once you take over, even if you try reinventing the brand's image – which, in itself, is a trying task in itself and not always worth the effort.

8. What is the Reputation of the Business?

Last but not least, it can't hurt to look into what people are saying about your prospective business on online forums and social media, like Facebook and Twitter. You can even conduct a quick Google search for reviews of the company's products or services if you'd like.

If you've managed to come up with a whole variety of reviews and testimonials from customers who have used this business' products and services before, and they seem positive in general, then that's another tick in the right box.

Pitfalls to Avoid When Buying a Business

Pitfalls refer to dangers and trials you wouldn't expect but will end up facing, generally due to lack of preparation on your part.

Below is a list of pitfalls commonly experienced by people when buying a business, along with ways on how to avoid them:

1. Not Accounting for Potential Hidden Costs

Failing to account for potential hidden costs before you seal the deal can result in you spending significantly more on maintaining the business you initially planned. Hidden costs may, for example, be generated by leases (pertaining to essential equipment) that are dangerously close to expiring.

Selling a business can help the selling party generate a significant profit, but selling after leases have expired can reduce their profit margin, which is why many companies tend to be sold off right before their lease documents expire.

The only way to avoid such hidden costs is by conducting efficient due diligence, preferably with the assistance of a professional business lawyer who is equipped to carefully analyze important company documents, including papers for equipment and facility leases.

Some may argue that hiring a business lawyer can add to the cost of buying a business, which is true. Still, the amount charged by lawyers is significantly lesser than what these nasty hidden costs can add up to, which is why it is better to pay for a lawyer who can help you avoid these costs instead.

As a rule of thumb, you should never conduct large-scale corporate dealings without an expert of the law by your side. We'll discuss more points as to why you should always have a business.

2. Not Conducting Due Diligence

Selling a business requires extensive planning and foresight on your part, as well as meticulous research about the target company.

When conducting due diligence, make sure to review all documents pertaining to the financial health of the target company, including accounts, legal records, business licenses, and tax filings.

Don't close the deal until you are satisfied with what you have uncovered about the target company. A thorough due diligence process will help you avoid becoming a victim of fraud and other scams targeting unsuspecting buyers.

3. Failing to Understand Employee Termination Rights

Buying a business undeniably includes a transfer of ownership but does not necessarily give you the legal right to fire and hire new employees as you deem fit, at least not for a certain timespan and under certain conditions.

Of course, the exact nature of this rule depends upon more tedious legalities, including shareholder rights, for example. Often, decoding legal rulings about employee rights can prove an extremely tedious task, which is why you'll need a professional business lawyer to assist you throughout the procedure.

An expert who's well-versed with Canadian business law can help you understand when and under what conditions you can remove and hire new employees without violating their legal rights. In the case that you do illegally remove an employee for work after taking over a business, you're setting yourself up to possibly be sued by them, which can have devastating consequences for you as an individual, as well as your company and its shareholders.

To avoid this, hire a business lawyer to assist you in your employee dealings.

4.Investing in an Unfamiliar Business Industry

Expanding into a new industry or business niche isn't impossible but can still prove challenging if you've never indulged in that industry before. For example, if you're well-versed in handling a shipping business, you are likely to have trouble leading a second corporation that deals in providing cybersecurity to clients; the two industries, or niches, are poles apart.

So, before buying a business, ask yourself if you genuinely know enough about that specific business and industry. If the answer is "no," you may want to look into alternative industries that you are familiar with. However, if you're adamant about expanding into a new industry, you should equip yourself with a business lawyer to help you safely navigate through unchartered territory.

Different industries are subject to unique laws and regulations that are relevant to their business niche. Hence, the legalities you're currently familiar with may not apply to the business you're buying, given that it is part of a different industry.

Furthermore, a business pertaining to a new or different industry may not fit well with any other businesses you own. Buying a business that provides products or services similar to the ones you currently deal in can make it easier to harmonize both businesses, including the possible integration of old staff with new, streamlining of product delivery for both businesses to the market, and being able to employ similar sales and marketing techniques for either company.

In addition to the points mentioned above, it is also important to consider whether or not you are genuinely interested in that new business niche. If you're only expanding for the sake of profit and not because you're experienced, skilled, or interested in that industry, it can result in you failing to lead your newly purchased business towards success. To reduce the chance of such failure from occurring, try investing in a business that you're honestly interested in and can see yourself successfully navigating, even through trying times.

5.Focusing on the Wrong Aspects of Buying & Selling Businesses

Due to its complex nature, buying a business can be challenging. However, there are still certain aspects of these transactions that you can control within your power, such as focusing on the right metrics when assessing a business for purchase.

For instance, an owner may focus so much on sales figures that they neglect to consider other useful figures regarding their target business's revenue, which may prove more important after taking over ownership or operations of said business. Likewise, many owners tend to prioritize supposed "absolute price" without taking into account whether or not this price is fair market value for the business being sold. Focusing on the wrong metrics can have long-term adverse effects on your ability to lead that company or business, so it's best to consult the guidance of legal experts when assessing a business for purchase.

6.Giving Yourself Too Little Time to Find The Right Business

Some people are so eager to buy their own business that they give themselves too little time to find one

When buying a business, give yourself enough time to assess all possible options available on the market. This includes allowing ample time for making hidden costs apparent and verifying information regarding the target business's financial status. You should also properly research the industry as well as your target company so you know what you're getting into.

7.Taking on Too Much Debt

It goes without saying that you need money to buy a business. As such, you may need to borrow at least some of the purchase costs. Be careful that you do not take on too much debt. If you take on debt that you cannot afford or that puts you in a difficult financial situation, then this too can negatively impact your ability to lead the newly purchased company towards success.

8.Failing to Seek Professional Guidance

Lastly, don't let your enthusiasm towards buying your very own business overshadow the need for you to seek professional help in all aspects that involve legal and financial matters. Seek guidance from qualified professionals when it comes to carrying out due diligence on a target business and its owner(s) before you sign any transaction documents. Likewise, seek guidance from certified professionals when assessing how much debt you can afford and in what form.

Summary and Final Thoughts

Buying an existing business is a good deal of work but can give you a significant headstart in the field. Still, you'll need to be mindful of certain things and understand that, even though the business is fully set up, a transfer of ownership entails its own duties, and you may need to cut out time to ensure your newly acquired business runs smoothly.

The best way to guarantee this is by hiring a professional business lawyer to handle the tedious legal side of things, including the process of drafting formal documents, reviewing leases, and filing necessary papers on time. Furthermore, they can help ensure a smooth transfer of ownership and ensure that you dodge pitfalls like hidden costs and being sued by existing employees.

All in all, taking account of the key considerations and potential pitfalls noted above can help you make beneficial business decisions, as well as avoid getting tangled within a legal spiderweb. Be sure to have a lawyer by your side through it all, too, to ensure you don't face any serious, costly problems throughout the purchasing process.