November 2010 Archives

November 12, 2010

The Necessity of Due Diligence When Buying a Business - Part Two

Continued from Due Diligence When Purchasing a Business - Part One.

It's also important to be certain about the extent of the company's additional obligations.  Is there a lease?  What is the rent?  Are there common area maintenance expenses?  What is the term of the lease and are there options to renew?  Must the landlord consent to an assignment?  Be sure to review all existing leases including any addendums and amendments.  Confirm with the landlord that the rent is up to date.  Equipment leases should get the same scrutiny.  Ask the seller whether there are pending or threatened lawsuits or governmental proceedings against the company.  You'll want the seller to retain such liabilities where possible.  A business attorney can assist with negotiations and ensure that the purchase agreement reflects the seller's retention of liabilities.  

469994_antique_store.jpgAn important operational component of any business is the existing staff.  Talk to key personnel such as officers, managers and supervisors to get a sense of their commitment and to get a feel for the employees' level of productivity.  Is there a risk of mass exodus with the departure of the current ownership?  Do the employees seem content in their positions?  Or does there appear to be a widespread discontent with working conditions and pay?  If there is an employee manual, review it carefully.  Does the company appear to follow its own policies?  Does it comply with Federal and State employment laws?  

If purchasing the business entity as opposed to the business' assets (see Considerations When Purchasing a San Diego Business, Part One), be sure to review the company's books in detail including articles, bylaws, resolutions, minutes, and/or operating agreements.  Confirm that the books are up to date, that the business is in good standing with the State, and that the seller has the actual authority to sell.  Whether or not you are purchasing the business entity or the business assets, ensure that all licensing is current and that business taxes are up to date.  

Before closing any deal, ask the seller to personally guarantee that all of the information provided is complete and accurate.  Your San Diego Business Attorney should insist on a "Representations and Warranties" clause to accomplish this goal.  Once all the information is in, compare what you have learned about the particular business with the industry overall.  What is its market share?  Can it remain profitable under the current conditions?  
A "due diligent" investigation ensures that the buyer has the clearest possible estimation of the company's worth.  It may seem a bit daunting but it is a worthwhile investment. See Purchasing an Existing Business Offers Benefits Often Overlooked.
November 8, 2010

Due Diligence When Purchasing a Business - Part One

The process of investigating a business for sale is commonly referred to as "due diligence".  In layman's terms, "due diligence" is essentially the exercise of common sense, and it is the difference between the beginning of a successful venture and a complete disaster.  Proper due diligence requires a thorough evaluation of the company's business, its history and its finances, and it is best conducted with the assistance of a team of professionals including a lender (or lenders), an appraiser, an accountant (preferably a CPA) and a lawyer.  

81261_modecore.jpg"Due diligence" starts with an understanding of the industry.  It's important to learn as much as possible about the industry's fundamentals including operations, manufacturing processes, suppliers, current and historical markets, customer preferences, local and national competitors, marketing methods and anything else relevant to the industry.  Wise purchasers look for businesses where they have an aligned interest or expertise.  Once you have a clear picture of the industry you can better evaluate the specifics of the prospective purchase.  

The next step is to examine the business for sale, starting with its financials.  This is best done with the assistance of an accountant.  The review should include an in depth analysis of the company's records including but not limited to its current balance sheets, profit and loss statements, financial audits, accounts payable and receivable, debts (secured and unsecured) and information pertaining to any liens on debt, and the company's tax returns for the past five years.  Check, or have your attorney check, with the County Recorder's office for undisclosed liens and UCC-1 filings (filings made by creditors with loans secured by the company's assets).  Ask the following important questions:  What does the revenue stream look like?  How has it changed over time?  How about expenses?   

In addition, inspect the company's physical assets including equipment and inventory.  If uncertain about the condition of equipment, consider inspection by an expert.  For instance, it's probably a good idea to have a certified mechanic inspect a fleet of delivery trucks.  Ensure that the inventory is in good shape, current and marketable.  Include an inspection of the office furniture, equipment and supplies.  It's best to know in advance if you are investing in obsolete printers, copiers, software or other leading technology.  Moreover, you can tell a lot about a company based on the condition of its office or offices.  Consider the companies intangible assets including copyrights, patents, trademarks and trade secrets.  Talk with the company's customers, vendors, suppliers and even its competitors about its reputation, and contact the Better Business Bureau and other industry associations.  Finally, conduct an internet search for reviews.  Sites like offer insight into the business' goodwill in the community.  

Continued in The Necessity of Due Diligence When Buying a Business - Part Two.
November 2, 2010

Why Oral Partnerships Are a Bad Idea

In this writer's experience, the most common cause of business failure is the lack of a written agreement between partners. No one ever enters into business with a friend or trusted associate thinking that the deal will collapse around them. Yet, business relationships routinely run into difficulties, and without a written contract defining the contours of the relationship, the difficulties are often destructive. Even minor disputes result in financial ruin for unwary partners who had vastly different expectations regarding the minutia of the business relationship. Moreover, partners expose themselves to substantial liability for the debts incurred by their partners on behalf of the partnership and for the conduct of their partners.

807851_friends_in_business.jpgPartnerships are complex and demand serious commitment much like any business relationship, whether a corporation, limited liability company or other formal business entity. Along with the financial resources necessary to start up the partnership, partners invest their time and energy. In most cases, they make a personal and emotional commitment to the venture hoping for significant financial reward. This personal investment makes it all the more difficult to deal with the inevitable conflicts. The key to success is planning and this starts with a well drafted partnership agreement.

People often start out in business together with nothing more than a hand shake, but they rarely anticipate the number and variety of decisions they will have to make moving forward. It is common for young partners to exhibit flexibility in the beginning but as businesses grow or struggle, the decisions become more complex and more important and partner flexibility starts to wane. If the partners cannot agree on key decisions, the partnership falls apart. See "Ending Bad Partnerships". Without a well drafted written agreement, the partners have no mechanism for operational continuity or for winding up the company's affairs. Will one partner be bought out? If so, for how much? How should the business be valued? If both partners wish to continue, who will retain the company's assets, including the company's name, website, location and customer lists? If both partners have personally guaranteed a lease, how will the exiting partner be relieved of his obligations? What other continuing debt obligations will the exiting partner retain? If the partners decide to dissolve the partnership, how will the company's debt be paid? How will the remaining assets be divided? Who will be responsible for winding up the company's affairs? What if one partner abandons a failing business entirely and disappears? What recourse does the remaining partner have to recover losses? A well drafted partnership agreement will set forth mechanisms to deal with such contingencies.

Continue reading "Why Oral Partnerships Are a Bad Idea" »