Buying a Business: A Step-by-step Guide + Checklist

Kison Patel is the Founder and CEO of DealRoom, a Chicago-based diligence management software that uses Agile principles to innovate and modernize the finance industry. As a former M&A advisor with over a decade of experience, Kison developed DealRoom after seeing first hand a number of deep-seated, industry-wide structural issues and inefficiencies.

The mass retirement of the Baby Boomer generation over the next decade is set to see the bequeathing or sale of an estimated 2.3 million businesses in the United States.

There will literally never be a better opportunity to acquire a business for individuals or firms looking to take over the reigns at an established company.

We, at DealRoom, help dozens of companies organize due diligence process and in this article, we provide potential acquirers with a comprehensive business purchase checklist.

Buying a business checklist

1. Make an honest assessment of your capabilities to acquire
2. Search for businesses that fit your criteria
3. Develop an investment thesis/Business Plan
4. Conduct due diligence on attractive targets
5. Negotiating and making an offer

1. Make an honest assessment of your capabilities to acquire

The idea of taking over a company is an alluring one for individuals and companies alike.

It’s also enticing to believe that you’ve got the skills to take the company to the next level.

But you’ve got to make an honest assessment here.

• Does your experience show any evidence of running a company of a similar size?
• Have you successfully managed relationships with employees, suppliers, and customers?
• Are you aware of the risks inherent in acquiring companies?

There are just some of the questions that potential acquirers should be asking themselves, before even considering continuing the process.

2. Search for businesses that fit your criteria

There are already tens of thousands of businesses for sale across the US, some being sold by brokers, some by the owners themselves.

However, even with thousands of small and big businesses available for purchase, it can be easy to make the wrong decision.

Do not buy a company just because it appears to be the best of those available. This is how value destroying acquisitions begin.

Instead, wait for the right company to appear, one that fits most, if not all, of your criteria.

3. Develop an investment thesis/Business Plan

Having confirmed your capability to take over a business and identified a suitable target, the next step is to write an investment thesis or business plan.

This is essentially where you justify the decision to acquire a company, enabling investors to see the rationale. The stronger the investment thesis, in theory the easier it should be to access funds to acquire the business.

The investment thesis could include issues such as:

• Profile a successful business with recurring revenues and even a competitive advantage in its locality.
• Outline the 3-year strategy for the business, which could include some operational and/or balance sheet changes.
• Show how the funds used to make the acquisition will be paid down (i.e. create a debt schedule).
• Show the market and industry outlook, using conservative figures that support the overall investment thesis.

Some acquirers like to write 40-page long essays on why the acquisition makes sense.

A good rule of thumb, however, is that if the reader isn’t convinced by the executive summary on the first page, the chances are they’re not going to be convinced by the time they reach the 40th page.

4. Conduct due diligence on attractive targets (buying a company due diligence checklist)

When dealing with business brokers, you’ll quickly find that if there’s a defining characteristic of a business broker, it is the propensity to oversell.

Almost without exception, whether the target company be a small gas station or a large manufacturing plant, the business broker will suggest that you would be insane to miss the opportunity that’s being presented to you.

This is where due diligence, rather than broker feedback, comes into its own.

So, what to request when buying a business? And what to look at when buying a small or large business?

There are multiple steps here wether you are buying an existing or a new-build business, all of which are important if the transaction is to work for you.

These have been broken into their functional departments below. Your due diligence checklist for buying a business will include:

Finance

Documents to obtain:

1. Audited financial statements for at least three years.
2. Tax returns for at least three years.
3. A credit report of the company and its owner(s).
4. A schedule of inventory, accounts receivable and accounts payable. (learn Tips for Optimizing Accounts Payable)
5. Notes on any extraordinary accounting issues over the past five years.
6. A copy of the company’s internal control procedures.
7. A copy of the company’s capital budget.
8. A debt schedule for the company.
9. Written statement from owners attesting that financial statements are up-to-date and free from any material omissions.

Capital Assets

Information to obtain:

• Schedule of all long-term assets owned or leased by business (machinery, real estate, etc.).
• Copies of real estate deeds, orders, zoning, etc.
• A lease schedule (including the contracts for leased equipment or machinery).
• A schedule of all sales and purchases of equipment and machinery over the past three years.
• Length and estimated usage (if applicable) of current machinery stock.

Human Resources

Information to obtain:

• Information on all employees, their positions, salaries and benefits.
• Summary of retirement plans, health and welfare benefits, stock options, and stock purchase plans.
• Details of company employee turnover.
• Details of the company’s hiring process.
• Resumes of senior management.
• Any contracts between the company and its employees, including previous and ongoing consulting contracts.
• A copy of the company’s personnel handbook, along with all of the company’s prevailing HR policies.
• Details of any previous or outstanding legal issues with current or previous employees in the last three years.
• Details of workers’ compensation claim history and unemployment insurance claims history.

Tax

Information to obtain:

• All income tax returns (federal, state, etc.) for the past three years.
• Sales tax returns for the past three years.
• Tax settlements or outstanding tax investigations.
• Details of outstanding tax liabilities and tax liens.
• Employment and excise tax filings.

Legal

Information to obtain:

• Copies of agreements or instruments that place restrictions or encumbrances on assets.
• Contracts that restrict the target's right to conduct its business.
• Contracts with obligations such as covenants and indemnification.
• Summary of the target's compliance program and copies of all policies, procedures and other related documentation.
• Confirm that the firm is not restricted from doing business under OFAC regulations or similar.
• Confirm whether the target has any direct or indirect presence and/or other engagements.
• Summary of regulations applicable and/or its business, and anticipated changes
• Copies of any letters with any regulatory agencies or authorities.
• List of states and countries in which the target has operations.
• Good-standing certificates or qualification to do business from state of incorporation and states where qualified.

Compliance

Information to obtain:

• How effective are the company’s in-house compliance standards?
• What records are kept?
• How transparent is the company about compliance?
• How much does it spend on compliance every year?
• Are employees given compliance related training?
• Are there areas of overlap between your compliance standards and those of the target company?
• What needs to improve in the target company’s compliance standards?
• How much would an improvement in compliance cost your company and how would this affect the deal structure?
• Are there any ongoing government investigations and what do they concern?
• Were there investigations in the past, and if so, how were they resolved?
• How often does the government check compliance at the target company?

To utilize the complete checklist for buying a small, medium or large business click on the link below:

5. Negotiating and making an offer

Having conducted a thorough due diligence process, you’ll have a much better handle on whether the target company is an attractive proposition for you as an individual, or for your company, to acquire.

Use the knowledge gleaned during the process to make an informed decision on the company’s valuation.

Business brokers and investment bankers often cite a multiple of EBITDA, enabling you to gain a quick overview of the company’s valuation. This is not set in stone, however.

Before entering negotiations, it’s important to ensure that you’ve got access to the funding that underpins your offer.

An attempt to negotiate when you or your company haven’t even got the cash to make an acquisition happen will justifiably be seen as bad faith.

It will also likely sour future relations with the company, the broker or investment banker, and possibly even other players in the industry.

Also remember that the funds provided are a limit, not a target. Just because you’ve received $5 million for an acquisition, it doesn’t mean you have to spend it all.

Read also
How to Draft and Negotiate a Business Acquisition Letter of Intent

Conclusion

With so many small and medium-sized enterprises coming on the market over the next ten years, it makes sense to think about whether buying a company can make sense for you or your business.

Minimizing risk and acquiring the relevant funds for the takeover begins with making the process as structured as possible.

Use the acquisition checklist that we’ve created above to inform your process, and maximize your chances of making a value-generating business purchase.