Seven key risks of selling your business to an unknown buyer đâ ď¸
As a small business owner nearing retirement, selling your business can be one of the most important decisions youâll make. It represents years of hard work, dedication, and often, a big part of your identity. Ensuring the sale goes smoothly will help you retire comfortably while leaving behind a lasting legacy. But selling your business to a stranger comes with several risks that you should be aware of before making any decisions.
This article will explore seven potential risks of selling your business to an unknown buyer, and offer an example case of a Bakery Sale Gone Wrong.
1. Misrepresentation or Fraud
When selling to a stranger, you may not fully know their intentions or financial situation. Thereâs a risk that the buyer could misrepresent themselves, their ability to pay, or their plans for the business. For example, they might promise to maintain the business but could close it or dismantle it after the purchase, affecting employees, customers, and the reputation youâve built.
2. Non-Payment or Delayed Payment
If the buyer plans to finance the purchase or pay in installments, there is a risk that they may default on payments after the sale is completed. This could leave you in a difficult financial situation, especially if part of your retirement plan relies on receiving that money.
3. Loss of Business Reputation
Selling to someone who does not share your values or commitment to the business could lead to poor management or unethical practices. This could damage the reputation of the business youâve spent years building, which could also affect your personal legacy.
4. Legal Disputes
Selling to a stranger increases the chances of legal issues arising after the sale. For example, disputes may occur over contract terms, warranties, or undisclosed business issues. Without a clear and airtight agreement, you could be held liable for problems that arise after the sale.
5. Employee and Customer Impact
If the new owner decides to make significant changes, such as downsizing, changing operations, or shifting the focus of the business, it could lead to employee layoffs or dissatisfaction. Long-term customers could also leave if theyâre unhappy with the new direction of the business.
6. Due Diligence Issues
Buyers who are strangers might not conduct thorough due diligence or might try to rush the process, which could result in misunderstandings or problems down the line. If the buyer does not fully understand the business or the industry, they may not be able to run it successfully, leading to the businessâs decline.
7. Confidential Information
During the negotiation process, you will likely need to share confidential information about your business. There is a risk that the buyer could misuse this information, especially if the deal falls through, or they could use your business knowledge to compete against you.
How to Mitigate These Risks
Vet the Buyer Carefully: Do your due diligence on the buyer’s background, finances, and intentions. This includes checking references, financial statements, and their track record with other businesses.
- Get Legal and Financial Help: Hire a lawyer and an accountant to help draft the sales contract, ensure legal protections, and structure the sale in a way that reduces your risk.
- Use Escrow Accounts: Consider using an escrow account for the buyerâs payments to ensure that funds are available and released only when certain conditions are met.
- Protect Your Confidential Information: Make sure the buyer signs a non-disclosure agreement (NDA) to protect your businessâs sensitive information during the negotiation process.
Selling to a stranger can be rewarding, but it’s essential to take the necessary steps to protect yourself and your business during the process.
Below is an example of a small business sale gone wrong that highlights the risks and potential consequences of selling a business to the wrong buyer.
Case Example: Bakery Sale Gone Wrong
Background
A small, family-owned bakery had been operating for over 25 years in a local community. The owner, who was in her mid-60s and looking to retire, decided to sell the bakery to a buyer who was new to the area. The buyer seemed enthusiastic, had some experience in the food industry, and promised to continue running the bakery with the same dedication to quality and community service.
The Sale
The owner and the buyer agreed on the sale price, and the deal was structured as an installment sale, meaning the buyer would pay a portion upfront and the remaining amount in monthly payments over the next three years. A basic contract was signed, but the owner decided not to involve a lawyer to save on costs, trusting that the buyer would honor the agreement.
What Went Wrong
- Lack of Due Diligence: The seller did not thoroughly vet the buyerâs financial background or request a detailed business plan. It turned out the buyer had overstated his financial capabilities and had a history of financial problems, including several failed ventures.
- Non-Payment: A few months into the installment plan, the buyer started missing payments. He claimed that business was slower than expected and that he needed more time to catch up. The seller, now fully retired and relying on the income from the sale, began to face financial strain as the payments became irregular.
- Poor Management: The new owner made significant changes to the bakeryâs operations, cutting costs by using cheaper ingredients and reducing staff. This led to a decline in the quality of the products and poor customer service. Long-time customers started leaving, and the business’s reputation quickly deteriorated.
- Legal Disputes: With the business struggling, the buyer eventually stopped making payments altogether. The seller tried to reclaim the business, but because the contract was not airtight and no legal provisions had been made for a default, it became a lengthy and expensive legal battle. The seller had to spend significant time and money in court to try to get the bakery back or recover the unpaid balance.
- Loss of Reputation: By the time the legal dispute was resolved, the bakeryâs reputation had been so damaged that it was no longer the community staple it once was. Even though the seller eventually regained ownership, she found it nearly impossible to revive the business to its former success. She ultimately had to sell the bakery at a significantly reduced price to a different buyer, losing a large portion of the value she had built over the years.
Lessons Learned
- Proper Vetting is Essential: The seller should have conducted a thorough background check on the buyer, including their financial stability and business experience.
- Legal Protections: Hiring a lawyer to draft a solid contract with clear terms, including what would happen in the event of non-payment, could have prevented much of the legal trouble.
- Protect Your Legacy: By not monitoring the buyerâs management of the bakery, the seller allowed the business to deteriorate. Keeping an eye on the business during a transition period might have helped maintain its reputation.
- Installment Sales Come with Risks: While installment sales can be beneficial, they also come with the risk that the buyer may default. Ensuring that safeguards are in place, such as collateral or personal guarantees, can help mitigate this risk.
This case shows how selling a small business can quickly go wrong without the proper precautions, leading to financial losses, legal battles, and the potential destruction of a lifetime of work.
Seek expert advice when selling your business
When selling a small business to an unknown buyer, itâs crucial to seek advice from a range of experts to ensure the process is smooth, legal, and financially sound. Here are the key experts a business owner should consult:
- Business Broker: A business broker can help evaluate the business, market it to qualified buyers, and handle negotiations. They act as intermediaries to ensure the right buyer is selected.
- Business or Transactional Lawyer: A lawyer will ensure all legal aspects of the sale are properly handled, draft contracts, and protect you from legal risks such as fraud or disputes post-sale.
- Certified Public Accountant (CPA): A CPA will assist with tax planning and structuring the sale to maximize tax benefits. Theyâll also ensure the business’s financials are accurate and attractive to buyers.
- Financial Advisor: A financial advisor can help plan how the proceeds from the sale will be used in retirement, ensuring that your financial future is secure.
- Valuation Expert: A valuation expert can provide an independent assessment of the businessâs worth to ensure youâre getting a fair price.
These experts can provide a well-rounded approach to protecting your interests throughout the sale process.
While you’re hear, read our article Strategies to consider when selling your business before retirement.
