How to avoid buying a leaky business

on 25 June 2018 / by Tom Beswick

Due diligence. DD. You've probably seen those words somewhere on an accountants' website. DD is to buying a business what inspecting the roof and moisture testing is for buying a home. You don’t want just anyone doing it – if you’re putting your capital into a business you want to get it right from the start.

These days most of us are smart enough to stay away from leaky homes. If there’s risk it’s a leaker we’ll pay an expert to test it. Makes sense. I know I wouldn’t want to buy something if it’s only adding to my risk levels and will potentially cost me untold thousands in the future. I’d spend what is required to be certain I’m buying an asset, not a liability. And yet, some people buy businesses without doing as much due diligence on it as they possibly can. At least if I buy a dud house I might be able to cut my losses and on-sell it (with full disclosure of course). It’s unlikely to ever be worth zero. Unfortunately, that’s not true of businesses.

DD involves answering questions like: what is hidden in those adjusted numbers their accountant has given you? Are they even up to date? Does the business need a lot of work to get performing again? Have key staff left or is the owner selling because the prospects are no longer bright? Is a competitor making real inroads? Is the owner just retiring or has the business hit the wall? Is there even a business to buy once the owner goes?

And that's just understanding the business’ status quo. That doesn’t start to answer questions like how you plan to run it, what will you do better, how you plan to pay for it or whether the upside potential to you is worth the risk. Many people hold onto businesses too long before they sell. You don’t want to pay them out only to buy into a down swing.

Many businesses are expensive in Tauranga now as it’s such a popular place to be. A lot of people are prepared to effectively ‘buy’ a job. However make sure you know you’re doing that before you do it. Asking the right questions at the right time is important.

Now don’t let me put you off buying a business. Putting your own sweat equity to work in your own business is a great way to get ahead. For most of us it’s the best decision you can possibly make – just please, go in eyes open and understand the risks.

If you're thinking about buying a business it’s never too early to talk to a specialist who understands the risks and opportunities. A little time taken now might be just the ticket to help you pick that winner – or at least avoid the leaker.