Why Do These Mistakes Keep Happening?
Buying an active business is usually exciting: the buyer wants to enter the market quickly and often trusts the seller's figures and explanations. But as explained on the page on buying and taking over a business, thorough legal and financial due diligence before signing any final contract is essential. The list below covers seven common mistakes that can turn an investment into a headache.
Seven Common Mistakes
- Not carrying out full legal and financial due diligence: trusting the financial statements provided by the seller without an independent review is the most common and most costly mistake.
- Ignoring debts and labor claims: failing to check the status of employment contracts, outstanding employee claims, or ongoing legal disputes can leave the buyer facing unforeseen obligations.
- Not verifying the validity of the operating license (Licencia de Actividad): some businesses operate under a temporary or expired license; continuing to operate without a valid license can force the business to shut down after purchase.
- Not checking the terms of the lease transfer: if the business premises are rented, failing to carefully review the lease clauses can create unexpected obstacles or costs when transferring it.
- Choosing an unsuitable type of contract: choosing between a share deal and an asset deal without specialist advice can unintentionally make the buyer liable for the company's past debts.
- Not formally notifying government offices: forgetting to notify the tax authority and social security of the change of ownership can create tax and insurance problems for the new owner.
- An independent valuation of the business is skipped: accepting the seller's asking price without an independent financial valuation increases the risk of paying more than the business's real worth.
Under Spanish labor law, in many cases the buyer is required to keep existing employment contracts, even if unaware of certain prior obligations of the former employer. This is one of the main reasons careful review before purchase matters so much.
How to Prevent These Mistakes
The best way to prevent them is to hand due diligence to an independent legal and financial team before making any commitment. It is also advisable to review the difference between a share deal and an asset deal, the status of the lease contract, and the history of labor claims, independently of the seller's statements.
Rushing to close a deal, even for an apparently attractive opportunity, usually leads to overlooking one or more of the items above. Thorough due diligence usually takes a few weeks, and this investment of time prevents much greater costs in the long run.
Frequently Asked Questions
Which of these mistakes is the most costly?
Skipping a full due diligence review is usually the most costly mistake, since it can keep other problems hidden until after the contract is signed.
Does professional due diligence carry a large extra cost?
The cost of professional due diligence is usually a small fraction of the total transaction value, and compared with the risk of hidden debts, it is a far cheaper investment.
If I discover a hidden debt after buying, what options do I have?
Depending on the type of contract and the warranty clauses set out in the purchase agreement, it may be possible to claim compensation from the seller; drafting these clauses carefully before signing matters greatly.