Ten Things to Think About Before Buying a Business

28 May, 2012 | Peter Smith

Buying a business is a big decision that will have a significant impact on your personal and financial life for years to come.  There are complexities to understand when buying even the smallest business.  To ensure that you get both value for money, and protect yourself from hidden problems, you should consider the following items before signing any contract.

1. Employ a good lawyer and accountant

A skilled commercial lawyer and experienced accountant can help you understand what you are really buying.  They will know the questions to ask, the places to look, and how to analyse and explain that information so that you have all the facts to make an informed decision before purchasing a business.  They can also assist with the purchase negotiations.

2. Due diligence

A business may at first sight appear to be a great investment, but how can you be sure?  Before signing an agreement we strongly recommend you complete an initial due diligence inquiry. Due diligence is a thorough investigation and analysis of the business.  You should seek to obtain information such as the business’ client base and competitors, financial statements (which your accountant should look over), existing contracts, new laws which may affect the running of the business, etc. This information may give you a better understanding of the value of the business and the vendor’s reasons for selling.

3. Business structure

There is more than one way to operate a business (for example, as a partnership or a limited liability company).  Each business structure has different legal and tax implications.  It is important that you have a business structure which suits your circumstances, getting the best for you financially and providing you with the protection you need against creditors and liability claims.  The current structure of the business may not be the best for you.

4. Shareholder agreements

If you are thinking about buying a business with your spouse/partner, friend, neighbour, etc, you should consider having agreements in place which define each person’s role and responsibilities in the business, and their entitlements.  These sorts of agreements prevent arguments in the future (which could save you a lot of time and money) and provide a stable basis for a strong working relationship.

5. Working capital

You will need to think about how you are going to fund the business.  You may need money not only for the initial purchase, but also to cover running costs for the first few months.    Your accountant will be able to look over your financial accounts and give you an indication of how much you can offer the vendor for the business, how much lending you will need from a bank, and the working capital you will need.

6. Loan Documents

If you require a loan to finance your purchase, your lawyer will need to explain all of the loan documents to you and ensure that you understand when repayments are to be made, when interest rates are payable, what property is secured, and the consequences on default.  Some loan structures may require you to provide a personal guarantee and secure the loan with a mortgage over your family home.  Your lawyer will be able to explain the implications of this guarantee and when it could come into play.

7. Local Authority and Government licences

You will need to think about whether the business you are buying requires a licence to operate it.  In particular you will need to consider whether there have been any recent changes to local Council or Government regulations which could affect the business.  Your lawyer will be able to advise you of this, and help you apply for any licences needed, such as food or liquor licences.

8. Inspect plant equipment

How do you know what equipment will be included in the sale?  How will you know that the plant equipment is in good and working order?  Before you sign an agreement, you should ask your lawyer to draft a clause specifying which equipment you wish to purchase with the business and enabling you to complete an inspection of the business’ equipment before you hand over any money to the vendor.

9. Stocktake

You should consult your lawyer before signing an agreement to purchase a business to ensure that sufficient provision is made for you to complete a stock take of the business’ stock and write down any obsolete or damaged stock.

10. Warranties and restraints of trade

The last thing you would want when you purchase a business is for the vendor to open up a similar line of business right next door, and for all of their clients to follow them.  It is important to see your lawyer before signing an agreement to ensure sufficient provision is in place to prevent this from happening and that any other undertakings by the vendor are properly drafted.

For further advice on purchasing a business, contact the head of Smith and Partner’s commercial law team, Peter Smith by phone on 09 837 6882 or email peter.smith@smithpartners.co.nz