Protect Yourself When Selling Your Small Business
The economy is thriving. You may have a successful business and the time may be right to sell. When a business does not succeed after it is sold, the buyer will often attempt to blame the prior owner for the business’s failure rather than looking in the mirror. Here are a few of the more important things to keep in mind when selling your business.
Disclose Everything.
When selling a business, the seller must disclose all material facts actually known to the seller. In other words, the seller must disclose everything a buyer would want to know about the business and do so in writing to the extent possible. A seller should always make the financial statements of the business available to the buyer, but the seller’s disclosure should not end there. Most sellers know important information that may not be readily ascertained by the financial statements or other due diligence performed by the buyer. It is critical that a seller disclose such information. When deciding whether to disclose information to a prospective purchaser, a seller should always err on the side of disclosure. As a seller, if you disclose everything, your chances of being sued by the buyer down the road will be dramatically reduced.
Be Careful When Recasting Your Net Profit.
If you use a business broker to sell your business, the business broker will likely want to restate the profit shown on your financial statements as “cash flow” or “real operating profit.” The goal of adjusting the profit of the business is to demonstrate the true cash flow of the business (i.e., what dollars actually flow into the business owner’s pocket). For example, some or all of the salaries paid to the owner and other benefits received by the owner may be reflected in the “cash flow” number, even though such figures do not appear in the net profit of the business. Some business brokers are much more aggressive in how they advise sellers to recast their profits.
Problems can occur when prospective purchasers take modified financial statements at face value without examining what the actual financial statements show or considering whether they want to work as hard as the prior owner of the business. In order to avoid issues with purchasers that do not conduct proper due diligence, a seller should make all of the financial information of the company available to the purchaser. The purchase agreement should state that the purchaser: (1) has had an opportunity to review all of the company’s financial information, (2) has received all of the information requested from the seller, and (3) is responsible for knowing everything that a full and complete investigation would have revealed.
Do Not Rely on a Business Broker to Protect Your Interests.
It would seem that as a seller, your interests and the interests of the business broker are aligned in that you both want to sell the business for as much money as possible. While this may be true to a point, when it comes to drafting agreements, the business broker’s focus is on protecting himself. Therefore, the broker’s forms will often protect the broker from future liability, but leave the seller and the buyer exposed. This is short-sighted by the business broker because the broker is often named as a party when an aggrieved buyer files suit regardless of the existence of language in the purchase agreement releasing the broker from liability. It is very important for the seller of a business to protect himself from a buyer’s future lawsuit rather than relying on the broker to do so. A business broker, much like a realtor, gets paid when a transaction closes regardless of whether the seller and buyer have been well served.
Sale to Employees
Selling your business to a long-time employee is often a good plan because the employee knows the business and knows the hard work required to keep the business successful. You will be doing yourself and your purchasing employee a disservice if you do not seek proper professional advice regarding the legal issues and tax and accounting implications that arise as a result of the sale of your business.
Conclusion
When selling your business it is in everyone’s best interest to make sure the buyer knows everything there is to know about the business. Full disclosure assists the buyer not only in the purchase decision but the operation of the business as well, and if the business fails, the buyer will only have himself to blame. It is important for you to hire a professional that is looking out for your best interests as the seller of the business. An investment in an attorney prior to selling your business can save thousands of dollars in future litigation costs.
Disclaimer: The foregoing discussion is not intended to constitute legal advice but is provided solely for informational purposes. You should consult with a competent attorney regarding any of the issues discussed herein.
©2018 Gregory M. O’Boyle. Greg O’Boyle is a Colorado Springs attorney who practices primarily in the area of commercial litigation. Greg is a partner at Alpern Myers Stuart LLC. He can be contacted at grego@coloradolawyers.net, or an appointment can be made by calling his assistant, Adrienne, at 719-226-7745.
