Common mistakes and red flags when buying a business or running a search
The most common mistakes are paying for earnings you have not verified, underestimating owner dependence and customer concentration, over-leveraging, hiding financing limits from sellers, and skipping a lawyer or accountant; the main red flag is numbers that do not reconcile to tax returns and bank records.
Key takeaways
- The top reasons signed LOIs fail in IESE's data are adverse diligence findings (59 percent) and valuation disagreements (41 percent).
- Most red flags show up in the financials, the customer list or the seller's behavior under questions.
- This guide mixes verified data and rules (cited) with practitioner judgment (labeled as judgment). The judgment is not a statistic.
- Almost every mistake below has a cheap fix if you catch it before the LOI and an expensive one after closing.
How to use this guide
Read it three times: before you start sourcing, before you sign an LOI, and before you close. Each time, tick the items that apply. The verified facts come from the SBA's SOP 50 10 8.1 and from the IESE 2026 study. The rest is judgment drawn from how deals work. Where I am giving judgment rather than data, I say so.
Mistakes in the search
| Mistake | Why it hurts | Fix |
|---|---|---|
| Vague criteria | Every listing looks interesting and you cannot say no quickly | Write a one-page screen before you source (see the timeline guide) |
| Too few conversations | IESE found searchers who closed averaged 4.6 signed LOIs; those who did not close averaged 8.2. Volume and learning speed both matter | Set weekly outreach and call targets and track conversion |
| Waiting for the perfect deal | IESE: 29 percent of searchers who ended without a deal signed their first LOI after 12 months or never | Set a date for a first LOI and review criteria if you miss it |
| Hiding financing limits | A lender's rules decide what you can offer, and surprises damage trust | Learn the SOP rules before you make offers |
| Ignoring investors between updates | Silence turns minor problems into lost support (31 percent of failed LOIs in IESE's data cited lack of investor support) | Send updates on a fixed schedule |
| Only chasing listed deals | Competition on listed deals is high | Add direct outreach and referral channels |
Mistakes in valuation and structure
- Accepting add-backs without documents. Judgment: every add-back is the seller's claim until you see support.
- Paying a multiple that assumes the best year continues. Judgment: price on three-year trends.
- Comparing SDE and EBITDA multiples. Verified logic: they measure different things.
- Stacking debt so one bad year breaks the loan. The SOP requires 1.25 DSCR on historical results for initial acquisitions; test your own stress case beyond that.
- Offering an earn-out with an SBA loan. The SOP prohibits seller earn-outs on change-of-ownership loans.
- Keeping the seller as an employee in an SBA Initial Acquisition. The SOP does not allow it; consulting up to 24 months in total is permitted.
- Counting a paying seller note as equity. Only a note on full standby for the life of the loan counts, and only up to half the required injection.
- Assuming a green card holder can be an owner or guarantor on an SBA loan. SOP 50 10 8.1 limits owners and guarantors to U.S. citizens and U.S. nationals living in the U.S.
- Ignoring the valuation. The SOP says the valuation must support the price regardless of structure, and any excess must be covered by equity.
Mistakes in diligence and legal
- Relying on the broker for legal or tax advice. Judgment: a broker is paid at closing and is not your adviser.
- Skipping the cash proof. The SOP requires one in a QoE for larger initial acquisitions; do the equivalent on smaller deals.
- Not talking to customers or key employees. Judgment: the most important facts are often in their heads.
- Leaving working capital undefined, then fighting about it at closing.
- Failing to check consents for leases, licenses and key contracts.
- Accepting weak indemnity: no escrow, no offset, short survival period.
- Closing without the transition and non-compete agreements signed.
Mistakes after closing
- Changing too much too soon, before you understand why things work.
- Not building weekly cash visibility until a problem appears.
- Paying distributions or note payments that a loan covenant or standby agreement does not allow.
- Letting the seller drift away before knowledge is transferred.
- Going quiet with investors and lenders when results are mixed.
Red flags in the financials
- Tax returns that show materially lower income than the seller's statements.
- Large cash revenue that is not deposited, or deposits that do not match reported revenue.
- Add-backs that make up most of the earnings.
- Revenue or margin spikes in the last year only.
- Changes in accounting methods, or only cash-basis books with no balance sheet.
- Owner loans, related-party rent or family payroll that are not documented.
- Receivables growing faster than sales, or inventory that does not match the count.
Red flags in the business
- One customer or one employee the business cannot lose.
- An owner who does the selling, estimating or key technical work and has no successor.
- A lease that expires soon or cannot be assigned.
- Regulatory, licensing or environmental problems the seller dismisses.
- Staff who do not know about the sale and are likely to leave when told.
- A product or service in decline, with no plan.
Red flags in the process
- A seller who refuses to share tax returns or bank statements until the price is fixed.
- Pressure to sign quickly or skip diligence.
- Numbers that change between meetings.
- A seller who wants to keep working in the business in a way an SBA lender would not allow, when you rely on SBA financing.
- A broker who cannot answer basic questions about the business.
- A seller who threatens to sell to another buyer immediately, repeatedly, without a competing offer.
Pre-signing checklist
Use before you sign the LOI and again before you sign the purchase agreement.
PRE-SIGNING CHECKLIST Numbers [ ] Revenue reconciles to bank deposits (12 months, 2 years) [ ] Tax returns, financial statements and IRS transcripts agree [ ] Every add-back has a document [ ] Price tested against a conservative case: DSCR at least 1.25 on historical results, and a 20 percent earnings decline survived or addressed Business [ ] Top customer share within my limit [ ] I have spoken to top customers and key employees [ ] Owner-only tasks listed and a transition plan written [ ] Lease and key contracts assignable or consents obtained Financing and structure [ ] Lender confirmed which SOP version and overlays apply [ ] Equity: at least 10 percent of total project costs, with sources documented [ ] Seller note: on full standby if counted as equity; at most half of required equity from limited sources [ ] No seller earn-out; seller not an employee or officer (consulting only, up to 24 months) [ ] Valuation supports price, or the gap is covered by equity [ ] All owners and guarantors are U.S. citizens or U.S. nationals living in the U.S. Legal [ ] Lawyer and accountant engaged and reviewed the structure [ ] Working capital definition and peg written down [ ] Indemnity, escrow and offset agreed [ ] Non-compete and transition agreements drafted People [ ] Investors and lender informed of the key findings [ ] I have a Day 1 plan for employees and customers
Frequently asked questions
Earnings that cannot be reconciled to tax returns and bank records, a seller who will not give documents, a structure that fails a bad-year test, or terms your lender cannot approve. Each is a reason to renegotiate or walk.
In IESE's 2026 data on international searchers, adverse discoveries in diligence (59 percent) and disagreements on valuation (41 percent) led the list, followed by seller retraction (32 percent) and lack of investor support (31 percent). Reasons can overlap.
Not necessarily. It becomes a structuring issue when you use SBA financing: in an Initial Acquisition the seller cannot be an officer, director, stockholder or employee. Consulting up to 24 months is permitted.
Sources
Last reviewed . General information, not legal, tax or financial advice.
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- Evaluating a business: SDE vs EBITDA, add-backs, quality of earnings, concentration and owner dependence
- SBA 7(a) loans for buying a business: eligibility, equity injection, DSCR and the rules in SOP 50 10 8.1
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