Major red flags to look for during your first acquisition 🚩

The #1 thing I’ve noticed that trips up most business buyers is: not doing enough research on their deals.

Why?

Well, frankly... because doing due diligence on deal after deal is exhausting.

And even if you’re doing everything else right, it’s easy to get carried away by the rush of emotions when you’re closing your first acquisition.

But that’s all the more reason why you should triple-check every possible red flag that pops up, so they don’t catch you by surprise after the dust settles.

Here are the top 6 red flags I’ve run into during my own research (so you don’t have to learn them the hard way):

1. Revenue is inconsistent

Revenue should have been growing consistently over the last 3 years.

This is especially important if you’re borrowing money to buy the business — we’re not gambling here!

Trying to plan for the future with shaky revenue projections is a recipe for disaster.

2. The business is under 5 years old

The average failure rate of startups within 5 years is over 90%.

But businesses that have been around 5 years or more have a 90% chance of continued success.

So, aim for 5 years or older.

3. The industry has an unusually high failure rate

Notable picks include:

• Retail

• Restaurants

• Construction

• E-commerce

Unless you have an extremely compelling reason... avoid these at all costs!

4. The owner works 9-to-5 hours

This probably means the owner is keeping the business afloat. And if they stop working, the whole thing will fall apart.

This is called “keyman risk.”

If you do end up buying this business without finding someone else to do those tasks, you’ll be buying yourself a job. Beware!

5. Asking price is over 4x cash flow

Generally, small businesses sell between 2X and 4X cash flow.

Anything above 4X means the owner might be overvaluing their business, or wasting your time on purpose with an outlandish price.

6. Financials are missing

There might be a good reason for this, like if the owner has been doing work off the books.

But you do need to get the numbers from the owner at some point.

Without it, it’ll be much harder to get an SBA loan.

What do I do if one of these red flags pops up?

Personally, it doesn’t necessarily mean I’ll back out of a deal. But I will proceed with more caution.

Knowing these red flags is just one tool in your toolbox, so you can make an educated decision about whether the deal is still worth it to you.

And speaking of educated decisions...

If you’re considering buying a small business, and would like me to send you deals that match your goals and budget: fill out this form.

Or, if you’re selling your small business and would like me to match you with buyers: tell me more here.

More to come next week!

— Ben Kelly