5 Essential Tips Before Buying a Business
5 things to do before buying a business from a legal perspective
Are you planning on buying a business, but are a little hesitant because you do not know exactly what you should be looking for? If this is your position, then reading this article should help when purchasing a business. While there are many aspects to consider when buying a business,
Here are five main points from a legal perspective that will reduce the chances of being defrauded of your hard earned investment:
1. Non-Disclosures
If a buyer is looking to purchase a business he will often want to know everything about the business. This can be a problem for the seller because freely giving away information never sounds like a good idea. The way around this predicament is for the buying party to agree not to publicly disclose information about the business obtained from the seller.
Therefore, agreeing to what is known as a non-disclosure agreement accomplishes two goals:
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- It affords the buying party access to sensitive information
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- It provides the selling party the reassurance that the information will not find its way into the public sphere and, of course, to its competitors.
2. Read Existing Contracts
A business can have contracts with suppliers, buyers, and for production equipment. The contents of the contracts can have just as much of an impact on the future profit or loss of the business as the businesss core business.
One of the key things to look for is binding terms on the business (e.g., such as a particular fixed price on the purchase of goods and services) and if it is possible to renegotiate and “opt-out” of these terms.
If the vendors are unwavering regarding the terms currently in place, it pose an onerous situation for a buyer if such terms are no longer favorable or will soon be unfavorable.
3. Inquire About Business’s Legal Status
A business’ legal status is also important. If a company is organized as a corporation, it has different liability and tax implications on its owner(s) than if the company is a partnership. It is important to ask how the business is structured to determine whether this structure is required as it is currently organized and/or if it is more optimal to convert the form of organization to the betterment of the buyer’s situation.
4. Protect Yourself
After taking the precaution of inspecting all the aforementioned documents it is possible to miss something. To make sure a surprise does not negatively affect the buyer, there are a few things a buyer can do to protect him or herself.
The buyer can request that the seller give his personal guarantee that all the information given is complete and accurate. In addition, the buyer can withhold some of the purchase price for a certain period of time. By doing so, the buyer can ensure that if a non-mentioned debt or legal obligation is discovered the amount can be deducted from the purchase price as opposed to filing suit or other collection remedies.
5. Stock Purchase or Asset Purchase?
Both purchase types have tax implications, but often overlooked are the legal ramifications of choosing either a stock or asset purchase. With a stock purchase of company, the entire business is included in the sale including any liabilities linked to the business. Of course, the process is much simpler reduces the amount of review necessary to carry out the transaction.
An asset purchase, however, is much like purchasing a car from another business. The transfer of ownership only includes the assets listed in the Asset Purchase Agreement. The election to use an Asset Purchase Agreement may be the preferred option considering some businesses may have either significant debts and/or liabilities the buyer does not wish to assume as would be the case under a traditional stock purchase agreement.
Of course with an asset purchase agreement, it is also imperative to determine what involvement the seller will have in the industry following the consummation of an asset purchase agreement presuming the buyer plans to use the newly purchased assets in the seller’s industry.
Will the seller still be an active participant? If so, will it be limited by scope or geographical location?
Because of the additional diligence necessary, an asset purchase agreement must be carefully prepared to avoid certain assets being left off (or included), liability being included with the asset purchase, and seller(s) being restricted (if applicable).
The Keys
Buying a business can be an exciting time. It could mean the opportunity for expansion and the ability to service clients in new and different ways. However, with such an investment comes the responsibility to ensure the transaction does not backfire. Therefore, make sure all the necessary due diligence is performed and, of course, have your team of advisors (i.e. accountant, attorney, banker, etc.) ready to assist you throughout the process.
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