Why Businesses Fail After Acquisition
If you want to find statistics about how many small businesses fail in their first five years, you don’t have to look very far.
According to the U.S. bureau of labor statistics, about 20% of businesses don’t survive their first year. That goes up to 50% by the fifth year. While one might think most of them fail because they run out of money (about 1 in 4), a survey from Fortune magazine suggests that roughly the same percentage of businesses fail because the wrong people are running them.
If you want to know how many profitable businesses fail after they’re sold, you’ll have a much tougher time finding that out. There may be some truth to the widespread belief that buying a business is easier than starting one from scratch—but that doesn’t mean it’s easy. In fact, this misplaced confidence can be the death knell for many newly acquired small businesses.
The Harvard Business Review estimates that between 70%-90% of mergers and acquisitions at larger and medium sized businesses fail—a stunning figure.
While the reasons for failure vary, according to Roger Martin, the author of the HBR article, there is one overarching explanation that does apply across the board, including to small businesses: the acquiring side is more focused on what they’re going to get out of the acquisition than what they have to put into it.
This attitude—“how do I maximize my position, my payday”—means buyers are less likely to do their due diligence during the buying process, less likely to learn from the business’ previous owners, less likely to set realistic expectations, and less likely to understand the how and why the business succeeded before it changed hands.
According to Nunzio Presta, the CEO of BuyAndSellABusiness.com, if a small business fails after a sale, it’s usually for one (or more) of the following reasons.
1. The business is dependent on the (former) owner
Some small businesses are structured in such a way that they revolve around one person, and those skills/responsibilities can’t easily be taught or transferred to someone who isn’t as intimately familiar with the business.
2. The new owner didn’t uncover the skeletons in the closet
And they failed to sign an indemnity clause in their contract that would have kept the former business owner on the hook for problems that come to light after the deal has been closed.
3. The new owner fell for the numbers
When businesses go up for sale, the selling party has an incentive to make the cash flow look as strong as possible. But even the smoothest transitions involve some disruption, which means new owners frequently run into cash flow issues in the early days.
4. The new owner failed to do their due diligence
This includes audited financial statements. These are a must in every transaction.
5. The new owner led with their heart
When buyers make a quick or an emotionally motivated purchase, they usually fail to conduct a proper analysis of the business’ long-term prospects (considering social, economic and technology trends) and whether they are the right person to steer it there. Sober second thought is critical.
6. The new owner thought it would be easy
It’s not as if they’re starting their own business, after all. I mean look, it’s already successful!
7. The new owner didn’t have the skillset required
This can range from the obvious—trying to run a kitchen without being, or retaining, a talented chef, for example—to the less obvious. Soft skills such as management training are often just as important.
Remember, if you are interested in receiving the latest business news, insights and opportunities from Buy and Sell a Business, you can subscribe to our newsletter here or join our text messaging list here. Also, if you are not a Buy and Sell a Business user yet, what are you waiting for? Click here!
Opinions expressed here by Contributors are their own.
BuyAndSellABusiness.com is also running a buyer’s workshop for those looking to purchase any small business—franchise or otherwise. It’s just 30 minutes long and completely free. You can register at our website.
Also, we launched a private Slack community designed to help people connect, share insight and ask questions about buying, selling and growing businesses or franchises. Apply to join here.