Red Flags When Buying a Business

The information memorandum looked polished. The numbers seemed reasonable. The broker was confident.

None of that guarantees the business matches what the seller is presenting.

Most buyers only buy a business once or twice in their lives. Sellers and their advisors do this more often. That information gap is where sellers hide problems, and where even experienced buyers make mistakes.

This article covers the warning signs that should slow you down, prompt more questions, or make you reconsider. For the full process, read our guide on how to buy a business in Australia. When you’re ready to dig in properly, start with a thorough due diligence process.

The biggest red flags often hide in plain sight. Sellers often bury some problem in old financials. Some are in what the seller doesn’t say. Knowing what to look for is the difference between a good acquisition and an expensive lesson.

Financial Red Flags

Buyers usually find most problems in the financials, which is why an independent accountant earns their fee. We designed our financial due diligence services for buyers who need an independent review.

Revenue concentration

If one or two clients represent 30% or more of the business’s income, the business isn’t as valuable as the EBITDA suggests. That revenue could walk out the door with the previous owner — or simply decide not to renew.

Ask: what percentage of revenue comes from the top five clients? How long have those relationships been in place? Are the clients locked into contracts? Do they trust the business itself, or just the owner selling it?

Declining trends

In practice, year-on-year figures matter more than any single year’s result. A business reporting strong EBITDA this year on the back of two declining years is a different risk profile to one with consistent growth.

Look at three years, not one. If the trend is down, stop and understand why before you make an offer. Sometimes there’s a good reason. Often there isn’t.

Owner salary well below market rate

A business that pays its owner $60,000 a year to do a job worth $150,000 is inflating its apparent profitability by $90,000. If EBITDA is $300,000 but $90,000 of that is an owner undercharging themselves, the real normalised earnings are only $210,000.

This is the normalisation issue that catches buyers most often. The business valuation must be based on normalised earnings not what’s on the face of the P&L.

Inconsistencies between accounts and tax returns

The revenue in the financial statements should match the figures lodged with the ATO. Significant discrepancies in either direction warrant an explanation. More importantly, if the numbers don’t reconcile and you can’t get a clear answer, that’s a problem.

GST or superannuation arrears

Hidden ATO liabilities are a serious red flag. In a share sale, you inherit these directly. Even in an asset sale, they signal that the business has been under financial stress, or that the current owner has been managing cash flow at the expense of compliance obligations. Our business tax planning work always includes checking the business’s ATO position.

Aged receivables

A large debtors balance looks good on the balance sheet. An aged debtors ledger that shows most of it is 90+ days old tells a different story. Old debt usually stays unpaid. Don’t pay for receivables the business will never collect.

Operational Red Flags

Key person risk — the owner is the business

If clients only stay because they like dealing with the current owner personally, then you’re not buying a business. You’re buying the owner’s job. The clients may not transfer. The revenue may not survive.

Ask yourself honestly: if the owner left on day one, how much revenue would leave with them? If the answer is “most of it”, then you’re not buying a standalone business. You’re buying a transition arrangement.

No documented processes

A business that relies entirely on the owner’s knowledge is much harder to run and scale than one with documented systems. As a result, key person risk increases significantly.

This doesn’t mean every SME needs an ISO-certified manual. But if you ask how things are done and the answer is consistently ‘the owner handles that’, probe further.

Staff instability

High turnover, restless key employees, or a team that’s clearly loyal to the seller and uncertain about the transition are all operational risks. Talk to staff if you’re able to. Watch for signs that key people are planning to leave once the deal is done.

Rushed or restricted access

A seller who is unusually eager to close quickly, sets a tight due diligence deadline, or restricts access to certain records without clear justification is displaying a pattern of behaviour worth taking seriously. Legitimate sellers have nothing to hide and no reason to rush.

Legal and Structural Red Flags

Contracts that aren’t transferable

The structure of the sale — asset sale vs share sale — determines how contracts transfer. But even in a share sale, some contracts have change-of-control clauses that allow the other party to exit on a change of ownership. Check every major contract before settlement.

Personal guarantees and related-party liabilities

Liabilities tied to the current owner personally — or transactions between the business and related parties — need to be identified and understood. Will those arrangements continue post-settlement? Are there personal guarantees over leases or finance that need to be unwound? Asset protection planning starts with knowing what you’re inheriting.

Undisclosed disputes or litigation

Outstanding or threatened legal claims may not appear in the financials at all — especially if they haven’t crystallised into formal proceedings. Ask the question directly and get it warranted in the sale contract.

Licences tied to the current owner

Some industries require licences or registrations that are held personally — trade licences, financial services authorisations, healthcare registrations. If the business can’t operate without a licence that doesn’t transfer, that’s a fundamental problem that needs to be resolved before you commit.

Seller Behaviour Red Flags

Sometimes the most useful signals aren’t in the documents — they’re in how the seller behaves.

• Reluctance to provide records promptly, or at all
• Explanations that change, or don’t hold up when you ask follow-up questions
• Pressure to move quickly and sign before due diligence is complete
• Hostility to normal due diligence requests
• Vague or evasive answers about why they’re selling

The reason a business is being sold matters. Retirement and health are legitimate. ‘Moving on to new projects’ can mean anything. A business that’s been quietly on the market for a year without a buyer may be priced wrong — or there may be a reason buyers have walked away.

Sellers who’ve received CGT selling a business advice will often have a clear picture of their tax position. Those who haven’t may have unrealistic expectations about the net proceeds — which can create tension in negotiations.

What to Do When You Spot a Red Flag

Not every red flag means the deal is dead. Some issues are explainable. Some can be mitigated through price adjustment, warranties, or specific contract protections.

The important thing is to identify them clearly, understand what they mean for the risk and value of the business, and make sure the price reflects the reality — not the IM.

An independent accountant reviewing the financials isn’t optional. It’s the mechanism that turns suspicion into certainty. If a flag turns into a problem, you want to know before settlement — not after.

Common Questions

Are red flags always deal-breakers?

No. Revenue concentration, for example, is common in SMEs. The question is whether the risk is priced correctly and whether there’s a realistic plan to reduce it post-acquisition. A red flag prompts more questions — it doesn’t automatically end the conversation.

What’s the most common issue you find in financial due diligence?

Owner salary below market rate and aged debtors are the two issues we see most consistently. Both affect the normalised earnings figure, which is what drives the valuation. Both need to be adjusted before the purchase price is agreed.

How do I know if I’m paying too much?

Get an independent valuation. The asking price is what the seller wants. The value is what the business is actually worth to you, under your ownership, based on normalised earnings. Those two numbers are often different. See our Buying a Business page for how we approach this, or download the free Due Diligence Checklist (free PDF) to start working through it systematically.

Not sure what you’re looking at?

Book a discovery call. Tell us what you’re considering and where you’re at in the process. We’ll tell you what we’d focus on, what questions we’d be asking, and how we can help.