I met with a couple who we will call the Smith's this week who had a bought out their business partner in their business back in 2003. The business was very small and the only asset was about $10,000 in cash or so they thought. The company had a few customers but was still a part-time venture for the owners. After paying $80,000 to buyout their business partner the Smith's quickly learned the business partner had lied about the cash in the bank so the Smith's paid $80,000 for a business that had very few customers and now they had no cash to kick start the business. The end result the Smith's had to file both business and personal bankruptcy. This completely wrecked their financial future as they still are having to live in a rent house as they can't get a loan to buy a house of their own.
If you are thinking about buying a business be sure to do your due allegiance before you plunk down your money to buy a business. Don't feel uncomfortable asking some tough questions of the seller and requesting to see documentation of what you are buying.
At the very least you should do the following;
- Review the balance sheet and verify that the assets on the balance sheet actually exist.
- Look over several years worth of income statements and balance sheets.
- Look for trends in the numbers.
- Get a customer list and research their best customers to be sure they are financially stable.
- Calculate the A/R turnover
- Be sure there is not one customer making up most of the sales because if that customer goes somewhere else then you are going to be in a world of hurt.
- If you are not able to get financial statements audited by a Certified Public Accountant then I would recommend you have the sellers request copies of their actual tax returns they filed with the IRS. This may be the most important thing of all to do.
If you decide you want to buy the business then you will need to negotiate the sales price and the asset allocation. The asset allocation you will make has a big impact on the amount of tax you pay once you start operating the business.
Buying a business is a big commitment and can change your life for better or worse. If you are not experience in this process it is best to seek qualified help. I am certain if the Smith's would have retained a CPA to guide them through the process and point out trouble signs this would not have happened.