Purchasing a business is a big step, whether to kickstart your entrepreneurial career or add to an established portfolio of companies. You need to ensure any business you buy gives value for the money spent acquiring it.
Choosing the wrong business could lead to failure, lost money, and a significant backward step.
Fortunately, due diligence will enable you to determine if a company is the right fit for you before you commit. We list eleven essential checks to make as part of your decision process.
Get an independent valuation
Before purchasing a business, the first thing to do is get an independent third party to conduct a valuation. Although the seller will have already had the company valued before placing it for sale, yours will verify that the selling price is accurate or at least value a model that you are comfortable with for valuing the company.
If the selling price is too high, you need to negotiate with the seller to avoid paying more than it’s worth. If it’s too low, it’s worth asking why to ensure there aren’t any underlying issues causing the owner to pursue a quick exit.
Check your affordability
Once you have validated the company’s price, it is crucial to understand how you will finance this. You will have a figure in mind for the acquisition, so firstly make sure that it still fits. If not, you need to determine how you will fund the additional cost and if it’s still worthwhile.
Part of this will also include considering your external options to raise finance. Common examples of acquisition finance include:
- Invoice discounting
- Asset finance
- Commercial mortgages
- Unsecured loans
- Equity investment
Identify how much you will raise from each source to find the right option. This will also factor into your ability to cover the costs associated with your chosen company.
Understand the market
When considering an acquisition target, it’s integral to understand its customer base. It will enable you to determine how to operate in that market and the possibilities.
If it’s an area you are comfortable with, you will stand a better chance of generating results. You will already understand standard operational processes, products and services. You will also identify opportunities to take the company to the next level.
Contemplating the market will enable you to understand the available demand. If a market has steady demand or is growing, it’s a good sign of potential to scale and long-term value for the business.
Uncover any liabilities
All companies have liabilities that come with them, unless you are just purchasing the assets of the business. Examples of liabilities include loan repayments, money owed to HMRC and other creditors, supplier contracts or employment responsibilities (including salaries and pension plans).
You know what you’re getting into by pinpointing these liabilities before you buy. At this point, you will decide whether you’re willing to take them on or if there are any deal-breakers. In some cases, you might be able to negotiate with the seller to lower the purchase price or remove some of the liabilities before you buy.
Identify legal issues
Alongside outstanding liabilities, there may be unresolved legal issues associated with the company that you need to be aware of. Examples include HR cases, customer complaints or any other disputes the company may be embroiled in.
If there are legal issues, they will become your responsibility once you buy the company. You need to determine whether you are happy to take these on or whether it’s worth negotiating with the seller to come to an arrangement you are comfortable with.
Review their reputation
If you purchase an established company, they will have built a reputation.
If their reputation is positive, it gives you a great starting point to take over and grow the company further.
If it’s negative, you will need to work on improving it, which is an opportunity. Depending on how bad things are, you might need to consider re-branding, which will take time and money.
In these circumstances, you need to contemplate whether the damage is fixable.
Know the competition
A common challenge for any business is being overshadowed by competitors. They reduce your sales, impact your market position and reduce your potential growth.
Before buying a company, review its competition to size up the challenge. If there are high-performing competitors and the company is already behind, you need to consider what you can do to catch up (if anything).
A competitor sometimes dominates the market, if this is the case, the business may have a limited lifespan unless you are able to disrupt them somehow.
Ask what’s included
If you are buying a company, you need to know what you’re getting for your money and if it offers enough value.
Determine what is included in the sale. There are different types of sale, including:
- Asset sale (where the buyer gains the customers, equipment, fixtures, premises, leaseholds, stock, etc.)
- Share sale (where the buyer obtains the legal entity of the company, including accompanied by all assets and liabilities)
You also need to consider precisely what is included, such as the value of cash, existing debts, director loan accounts, etc.
There are also non-tangible inclusions to account for, such as:
- Staff (especially if they are skilled or trained)
- Customers, including high-value contracts
- Reputation and brand awareness
- Intellectual property or innovative ideas
- Efficient processes already in place
Understanding everything included will showcase whether it is a good fit for your goals and worth the price agreed.
Determine growth potential
When purchasing a business, undoubtedly one of your goals will be to take it to new levels. You must consider the company’s growth potential to determine if you will achieve your objectives.
Common signs of growth potential include:
- There’s a steady demand for the business’s products and services
- There has already been some growth
- There are untapped markets the company could venture into
- No significant competitors are dominating the market
- There is the capacity for innovative products/services/processes to disrupt the market
If you see any of these indicators in the company, it may be a viable growth opportunity that allows you to progress toward your entrepreneurial goals.
Ask what work is needed
Once you have determined what is included, you must focus on what is missing. With your growth ambitions in mind, think about the work required to achieve your ultimate vision.
At this point in your due diligence, you will have a better understanding of the weaknesses and strengths of the company, as well as its current position in the market.
Common additions or changes a business might need include equipment and other assets, staff, training, products and services or process adjustments. You might even need to add new functions to the company or update them, such as marketing, customer service, sales, etc.
These changes will carry a cost you will need to account for. If there is substantial work, it could require a sizeable investment to get it into the shape you want. You need to ask whether the cost is worth the reward or if you could find a company more suitable. Again, it could be possible to negotiate with the seller.
Check your skills match
Once you have determined the state of the company you intend to buy, it is time to self-reflect. You need to decide if you have the skills to lead the business to success.
Good owners must have some general skills, including leadership, motivation, communication, forward-thinking, decision-making and agility. It also helps to have strong business acumen, ideally with expertise in the industry or an understanding of how the market works.
Reviewing your skills and how they align with the target company will determine whether you are fit to lead and generate the desired results.
In summary
Buying a business is no small decision. Once you have acquired it, you will invest a significant portion of your time and effort. You must ensure you are investing in the right venture with the potential to succeed and generate profit.
Conducting appropriate checks on any company you’re interested in will enable you to size up its value and eligibility with your goals. You will then better grasp whether it is worth pursuing further.
Once you find the ideal business, you need to raise finance to cover it.
Fortunately, Pegasus has access to a range of funding solutions across the whole market. We will help you find the ideal route to cover the sale and any further support you need before and after the purchase is complete.