In Day 5 of the “10 Days to Buying Your First Business” series, Carl Allen emphasizes the importance of signing a nondisclosure agreement (NDA) when engaging with a potential seller. The NDA ensures that sensitive information such as customer lists, employee details, and financial data is not disclosed to competitors. While Carl mentions that an NDA is difficult to enforce legally, it is crucial for maintaining trust and rapport with the seller throughout the acquisition process.

Once the NDA is signed, the buyer gains access to vital financial documents needed to assess the business. Carl highlights the key requirements, including three years of profit and loss statements (P&L), balance sheets, and, if possible, tax returns. These documents help gauge the company’s revenue trends, expenses, overhead, and profitability. Additionally, buyers should avoid manually generated or Excel-based financials, insisting on records produced from reputable accounting software like QuickBooks, Sage, or Xero.

Carl also stresses the importance of obtaining balance sheets from the last three years to understand the business’s assets, liabilities, and working capital needs. He explains that working capital is the financial fuel of a business, akin to gas in a car, necessary for daily operations. Seasonal businesses may have fluctuating working capital needs, which can be identified through these documents, further aiding the vetting process.

In addition to the essential financials, Carl suggests acquiring a list of shareholders, their agreements, and an asset list, especially if the deal involves leveraging business assets for financing. While monthly P&L and balance sheets are more relevant during due diligence, having them early can help track seasonality and other trends within the business over the years.

In conclusion, Carl reiterates the importance of working with accurate, internally generated financial data and maintaining a strong relationship with the seller. Day 6 will delve further into the valuation process, including understanding add-backs, which are essential for assessing the true financial health of a business.

Full Transcript:

What are the key information requirements that you are going to need? So the first thing that you’re gonna need is you’re gonna need a p and l, often called an income statement. So that will tell you how profitable the business is, what the revenue was, what the costs and expenses are, the overhead, and how much profit or cash flow is the business generating on an annual basis.

Hey, guys. Carl Allen. Welcome to day five of ten days to buying your first business. So yesterday, in day four, we were talking about seller meetings. We were talking about it being really important to build rapport. We were talking about the five killer questions that you need to ask to kind of start to preliminary vet the business you’re looking to buy. And then we also wrapped up by talking about the procedure of signing an NDA, a nondisclosure agreement.

And then once you sign that NDA, it’s gonna give you access to certain financial and other data regarding the business to allow you to complete that vetting value structure and then make an offer on that business, which is what we’re gonna be doing, day six and seven. So what is an NDA? So an NDA stands for a nondisclosure agreement.

Basically, I’m not a lawyer even though I’ve read million pages of law. It’s not really worth the paper that it’s written on. It’s effectively a document that prevents you as somebody potentially looking to buy the business from disclosing any of the information that you’re getting into the public domain. So it’s to stop you getting the customer list.

It’s to stop you getting the employee information. It’s to stop you getting financial data and then sharing that with competitors in the marketplace. Very, very complicated and expensive to prove in a court of law. But as noble capitalists, as good buyers, we sign those documents, and it gives seller peace of mind.

And it’s all, again, part of the deal psychology. It’s all part of the the seller psychology and the rapport and the relationship that you’re building with that business owners looking to sell you the business. So we sign an NDA. Typically, it’s a one or two page document.

If you’re inside any of my programs, you have access to copies of those documents. And then once you’ve signed that, the seller is gonna give you financial information. Now if it’s a broker deal, you’ve probably got that information anyway before you’ve even met the seller. You’ll have got the financial data, and then you can probably use the seller meeting to talk to the seller about some of the financial trends that are going on inside of the business.

Now what are the key information requirements that you are going to need? So the first thing that you’re gonna need is you’re gonna need a p and l, often called an income statement. So that will tell you how profitable the business is, what the revenue was, what the costs and expenses are, the overhead, and how much profit or cash flow is the business generating on an annual basis, and you need that information for the last three years. Now what I also ask for so these are accounts which are produced either by the external accountant or the CPA the business uses, All these could be internally generated accounts from a QuickBooks or a Sage if you’re in the UK or a Xero, which is an online accounting platform that now a lot of people are using.

So you definitely want that. What you don’t want are financial statements that are either created by hand or they’re created like an Excel spreadsheet. You want the information in an accounting platform, so then you know it’s got a lot more chance of being true and accurate. So you want three years of the profit and loss.

What you also might want to get at this stage as well if they’re available is the tax returns.

Now we’ll get into this tomorrow when we talk about valuation.

Sometimes the tax return numbers are different than the accounts, so we need to go through, like, a recasting process. So we’ll get that tomorrow. Because as you can imagine, if you’ve ever owned a business, let’s just say to be very efficient when it comes to taxation, potentially, there are things we put through our business as expenses.

They’re not kind of really expenses, and those need to get added back. Again, we’ll talk about that tomorrow in valuation and structure. So if you get the tax returns, you can see the difference between the two, and then those tend to be what we call add backs, and we’ll get into that tomorrow as well. So that’s the income statement.

The other thing that we need is we need balance sheets. So we need balance sheets for the last three years as well. What balance sheets give us are two things. Number one, it tells us what assets and liabilities are inside of the business and potentially as part of the deal structure.

You got it. We’re talking about that tomorrow. We might be looking to inherit some of those liabilities, some of those debts, a bit like a sub two property deal so that we can lower the closing payment and lower the valuation. And what we also will find from a balance sheet is how much working capital the business needs to trade.

So think of working capital in a business about fueling a car. If you rock up to a Ferrari dealership and buy a brand new Ferrari and it’s the most amazing car you’ve ever seen, but there’s no fuel in the tank, then when you start the car, it’s not gonna move. Businesses are the same. The fuel in a business is called working capital.

So it’s cash, it’s accounts receivables, could be inventory, less payables, taxes due, bank loans, all those different things. So we wanna understand how much capital the business actually needs to be able to trade at the levels that we’re seeing in the p and l. So we definitely want the balance sheets for last three years. And what you also want with a balance sheet is you want a balance sheet that’s current.

And what I mean by that is it’s a balance sheet that’s been produced within the last forty five days. So why is that really important? Well, because sometimes there’s a delay between the end of a financial year. So let’s say we’re in twenty twenty three now, and you’re looking at a business, you might have not got the twenty twenty two all accounts yet.

You might all be looking at twenty twenty one. So if you’ve got a balance sheet from twenty twenty one, which is, like, eighteen months ago, you can’t really understand financially what’s going on in the business. So virtually every business that’s worth buying will have internal accounting software. You go in, and you can literally I could log in to the accounting platforms of any of my twenty seven businesses right now, and I could print you out a balance sheet as of today.

Right? Not yesterday, not last week, today. Balance sheets are calculated in real time. I could print a balance sheet off one of my businesses now, and then in thirty minutes, it’ll be different because a customer might have paid me or I might have sent out another invoice, or some inventory might have come in to one of my businesses.

So balance sheet is kind of a snapshot in time, and it changes. But you want a balance sheet that’s within the last kind of forty five days so you can see now what are the working capital requirements of the business because some businesses are seasonal. Right? So if you have a landscaping business, in Canada, then in the winter months, there’s you’re not gonna be doing any landscaping.

So the working capital requirements in that business is gonna be really low. Whereas if you’re in the height of the summer when everyone’s doing that work, then definitely the working capital requirements are gonna be high. So you can understand the seasonality of a business as well by looking at the balance sheet. So those are the absolute kind of minimums that you need.

So you can’t do anything in terms of making an offer on a business unless you’ve got that information. We need three years because we can look at the trends. If the revenues are going up, we wanna understand why. If the revenues are going down, we also wanna understand why we might even decide that we don’t wanna buy the business if it’s, if it’s really, really struggling.

So we need three years to look at the trends in the business. Now there are some things as well that are kinda nice to have. Have. If you don’t get these until due diligence stage, which we’ll get into, I think, on day eight, it doesn’t matter.

But it’d be good to see a list of the shareholders so we know who the shareholders are and who owns what percentage of the business. That would be really, really good. Get a copy of a shareholder agreement or the operating agreement as well. That would be really, really good.

If you’re doing an LBO, if you’re gonna be borrowing money against any assets in the business, we also want to see an asset list. So So if you’re looking at an engineering company and it’s got trucks and machines and all this kind of cool stuff, you wanna get a kind of list of that so that will show you how it’s been depreciated, and depreciation, as you know, piles into all of these different numbers as well.

What also could we see? So another great thing to look at would be monthly p and l’s and balance sheets.

So, again, going back to that seasonality, if you’ve got a business, you have an ice cream company, it’s gonna be doing really, really well in the summertime, probably not as well in the wintertime, so you can see how the sales kinda ramp up and ramp down. And if you get the monthlies over a three year period, you could track year on year how the performance of the business has gone. That is more kinda due diligence type stuff.

But if you can get it as part of the, of the initial deal vetting, you know, all well and good. So we’re gonna be diving into all of these different types of financial documents and records, tomorrow on valuation and structure.

So hope you enjoyed this video. So just to recap, sign an NDA. It’s a good way of building rapport, protects the seller from you disclosing any of the information into public market, which you’re a noble capitalist. You’re not gonna do, but it makes the seller feel better.

And then that’s the list of information that you need to get from the seller. And remember, really important, the financials that you get have to be internally generated numbers from an accounting platform. They give you an Excel spreadsheet or they give you a hand journal. You know, don’t take any notes of that.

You want them coming out of an accounting platform because they’re gonna be a lot more true and accurate. So I hope you found that useful. I will see you tomorrow on the next day. Until then, bye for now.

Hey, guys. I’m Carl Allen. I’m the founder of DealMaker World Society. I’ve done tens of billions of dollars of deals over the last thirty plus years.

If you’re new to my channel, definitely hit like and subscribe so that you can get all of my amazing DealMaker maker content in real time. You’re not gonna miss any of the outstanding information that I’m gonna share with you. And if there’s a question that you’ve got, if there’s something that you want to know the answer for and you want me to speak to it, definitely hit me up in the comment section, and I will record those videos for you. And I will get them on this channel as soon as possible.

So love having you part of this YouTube community, and I can’t wait to serve you. Until then, bye bye for now.