Buying an existing business can be an attractive proposition, but it comes with its own risks. To enjoy the benefits of an established name and customer base while avoiding hidden pitfalls, it is important to perform due diligence. Here are the top eight types of information and documents to review before committing to a purchase:
1. Organization: Before buying any business, it is essential to understand how it is structured and to be sure that it complies with federal and state rules. As part of your due diligence, be sure to review all corporate documents such as articles of incorporation, bylaws, minute books and organization charts. You should also be aware of any other names used by the company and make sure that all required filings are in order. If the business is unable to provide documents relating to this information, or its records are not in good order, you should consider that a red flag.
2. Financials: When you buy a business, you want to be sure that it is actually doing as well as you think it is. A surface appearance of prosperity can be deceptive; review the records that will tell you the truth. Ask for audited financial statements going a few years back, communications with auditors, credit reports, financial analyst reports and the company’s budget. Review schedules of debts, liabilities, inventory and accounts receivable.
3. Assets: Detailed information about company assets will help you assess financial health as well as potential for liability. Assets can include land, inventory, equipment and bank accounts. Ask for a detailed description of each asset, as well as its location and any documents related to the transaction involved in acquiring it. You should also review copies of related U.C.C. filings, mortgages, leases, zoning variances, permits and deeds.
4. Intellectual Property: Intellectual property can come in many forms. As a prospective purchaser, you should be aware of all areas where you may need to protect the company’s rights in the future. Review the company’s work for hire agreements; ideally, they should be drafted so as to leave no room for future claims by the worker who produced the intellectual property. Also review schedules of copyrights, trademarks, existing and pending patents. For any trade secrets, familiarize yourself with the company’s procedure for safeguarding them. Do not neglect to make a comprehensive inquiry into any previous or current intellectual property claims that involve the company.
5. Employees: Information about employees is crucial to understanding your potential obligations if you end up purchasing the business. Review lists of employees, including their positions, salaries and longevity. Company policy addressing hiring, promotion, compensation and benefits is also essential to review. In addition to giving you information about the company’s structure, this will also inform you of potential legal issues that may arise for you to deal with as the new business owner.
6. Tax Records: When buying a company, you definitely want to avoid inheriting tax issues and liabilities. Look through all tax returns going back several years, including state, federal and local tax. If the company does business internationally, be sure to check for foreign tax liabilities and documents. Check for tax audits and investigations, and carefully review all relevant documents.
7. Contracts: Review all types of contracts entered into by the company. Typically, a business may have contracts with banks, distributors, employees, other corporations, contractors and shareholders. Your due diligence should include bank agreements, loans, collateral pledges, warranties, installment sales, distribution contracts, stock purchases, mergers, acquisitions or noncompetition agreements.
8. Insurance: As a prospective buyer, you need to know whether the company’s risks are appropriately covered by insurance. Some kinds of insurance may also be required by law, making it imperative for you to know whether the company is in compliance.
This checklist contains some of the most important areas for due diligence when purchasing a business, but it is by no means exhaustive. Reviewing all information relevant to the company’s financial and operational health, as well as legal compliance, will help you determine whether this purchase would a good investment.
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The content on our website is only meant to provide general information and is not legal advice. We make our best efforts to make sure the information is accurate, but we cannot guarantee it. Do not rely on the content as legal advice. For assistance with legal problems or for a legal inquiry please contact you attorney.
