Buying an Existing Business

10 Red Flags that Should Make You Potentially Pull Out of the Deal

You don’t necessarily have to create an LLC or other such type of business to be an entrepreneur. Although starting your own business may be the traditional way to pursue your entrepreneurial goals, it’s by no means the only potential option.

You could decide to purchase an existing business, instead. If you find a business that aligns with your goals and expertise, purchasing it outright instead of starting your own could save you a lot of time and money.

That said, it’s important to be confident you’re making the right decision when buying a business. This requires understanding what types of red flags could indicate a business is not worth purchasing. Common examples include the following:

Red Flag 1: Incomplete or Unorganized Financial Records

You need to thoroughly understand a business’s estimated value before deciding to purchase it. If a business’s financial records are not complete or are not properly organized, determining its value could prove unreasonably difficult. 

It’s also important to avoid making these types of financial mistakes yourself when buying a business. For example, if you purchase a small business, it might not currently have a bookkeeping department, as the owners might have handled bookkeeping on their own.

Attempting to take over bookkeeping duties after acquiring a business may prove challenging. Thus, you might wish to prepare by researching bookkeeping services whose help you can enlist once you take over the business yourself.

Red Flag 2: Overreliance on a Few Customers

Running a successful company is, in some ways, like successfully investing in assets: the more you diversify, the more you guard against risk.

Purchasing a business that only has a few strong customers could be a risky proposition. If even one of a business’s top customers decides to no longer work with said business, the company could fail.

You also have to consider what factors might account for the relationship a business has with its existing customers. Perhaps those customers enjoy working with the current owners. If you were to purchase the business, they might decide they no longer have a good reason to maintain the relationship.

Red Flag 3: High Employee Turnover

Don’t underestimate the potential cost of employee turnover. According to conservative estimates, replacing a single employee may cost as much as twice the annual salary of said employee.

High employee turnover has many potential causes. While you might assume you have the means to address those causes and boost employee engagement, it’s important to consider how expensive turnover might be if you don’t succeed.

Red Flag 4: Legal or Regulatory Issues

Depending on how you choose to acquire a business, you may end up acquiring any debts, legal issues, or other such liabilities associated with said business when you purchase it. 

This is more likely to occur if you choose to buy a business via a stock purchase. If you opt for an asset purchase instead, you can technically decide which assets to buy and which not to. This flexibility may also allow you to avoid taking on a business’ liabilities.

However, you do have to consider why these types of issues arose in the first place. If a business is in any form of legal jeopardy when you buy it, there’s reason to believe it may continue to face similar issues in the future once you have control over it.

Red Flag 5: Inconsistent Business Revenue

A stable business is (often, but not always!) a successful one. Even if a business appears to go through periods during which it is financially thriving, if its revenue is inconsistent, it may not be a sound investment.

Red Flag 6: Seller’s Urgency to Sell

You may be eager to buy a business as soon as possible if you’re an ambitious individual. Thus, it might seem tremendously convenient to find a business owner who is just as eager to sell their business. 

Proceed with caution if you find yourself in this scenario. If a business owner wishes to complete a sale relatively quickly, it’s possible they’re not divulging information that might indicate a business isn’t worth what you’re paying for it.

Red Flag 7: Unverifiable Information Provided by the Seller

Conducting thorough research is absolutely critical when buying a business. This involves verifying any information the seller provides you with.

Don’t just take a business seller’s word for it if they provide information you can’t verify. For example, a current business owner might make impressive claims about the business’s revenue or overall performance. You shouldn’t accept these claims as true if there is no objective data to verify them.

Red Flag 8: Negative Industry Trends

Even an otherwise strong business may face challenges due to industry trends. Don’t let an overabundance of confidence lead you to believe you can weather the storm more successfully than the current owner if general industry trouble is outside of your control.

Red Flag 9: Poor Online Reviews or Reputation

When you purchase a business, your goal may be to improve upon it. However, even if you’re technically able to do so, you might nevertheless struggle to attract new customers if the business already has a negative online reputation. Attempting to counter this reputation will likely be an uphill battle.

Red Flag 10: Unclear Business Model or Strategy

You need to have a sense of how a business stands to succeed in its given industry or niche when taking it over. If you have any questions about a business model or strategy that no one seems able to provide answers to, it may be best not to take an unreasonable risk.

Business Red Flags: The Importance of Being Cautious

Don’t assume the purpose of this guide is to discourage you from buying a business. Rather, its purpose is to help you make a wise choice when purchasing an existing company.

If you do find a business you wish to purchase, be sure to enlist the help of legal counsel and other such experts. Their assistance can help you navigate what may otherwise be a complex process with ease.