7 Mistakes Buyers Often Make when Evaluating a Small Business

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Evaluating a small business also requires thorough analysis and an objective approach. Avoid common mistakes and consider the following tips. This will help you make better decisions and minimize your risk when you want to invest in or acquire a company.

Neglecting Due Diligence

  • Mistake: A common mistake is to neglect or shorten due diligence. This means that you do not invest enough time and resources to thoroughly examine the company.
  • Why it’s a mistake: Without thorough due diligence, you run the risk of overlooking important information, such as faulty accounting, debts, legal problems, or unexpected obligations. This can lead to significant financial losses.

Overvaluing the Customer Base

  • Mistake: Another mistake is overvaluing a company’s customer base. Buyers often tend to be too optimistic and assume that customer loyalty will remain after the change of ownership.
  • Why it’s a mistake: Customer loyalty can change dramatically after a change of ownership, and it’s important to make realistic assumptions. A rough estimate from practice shows that in many cases about 10-20% of customers can be lost in a change of ownership, but this can vary greatly. With poor communication or service deterioration, it can also be significantly more.

Failure to Consider the Company’s Financial Health

  • Mistake: Many entrepreneurs focus exclusively on sales and profit without examining the company’s financial health in detail.
  • Why it’s a mistake: The company may have high debts, uncontrolled expenses, or poor cash flow management practices. These factors can have a significant impact on long-term profitability.

Ignoring the Competitive Situation

  • Mistake: Neglecting competitive analysis.
  • Why it’s a mistake: Especially if the business model is easy to copy, new competitors can take over market share at any time. How easy is it to drive the company out of the market? Would it be able to react with new or improved products and could it withstand a price war for some time?

Neglecting Employees and Management

  • Mistake: Buyers often focus too much on the physical assets and forget to evaluate the company’s executives and employees.
  • Why it’s a mistake: Leadership and staff play a crucial role in a company’s success. Poor management or dissatisfied employees can impair a company’s potential.

Overlooking Legal Pitfalls

  • Mistake: The review of a company’s legal aspects, including contracts, patents, licenses, and lawsuits, is often neglected.
  • Why it’s a mistake: Unnoticed legal issues can lead to costly legal disputes and financial losses. It is important to carefully review all legal aspects.

Making Emotional Decisions

  • Mistake: A common mistake is to make emotional decisions when evaluating a company, especially if the buyer has a personal connection to the company.
  • Why it’s a mistake: Emotional decisions can lead to excessive bids or unreasonable optimism. It is important to remain objective and act based on facts and figures.