Hidden Problems Sellers Don't Disclose

"The seller said everything was great. Six months after closing, I discovered problems that cut the business value in half."

Sound familiar? It happens to buyers every day. Not because they didn't do due diligence, but because they didn't know what to look for—or where to look.

Here are the 7 most common hidden problems and exactly how to uncover them BEFORE you close.

## Problem #1: Declining Revenue Being Masked

**How Sellers Hide It:**
- Show you annual numbers instead of monthly trends
- Cherry-pick recent "good months"
- Combine multiple years to hide recent declines
- Claim seasonality explains everything

**Real Example:** A buyer looked at 3 years of revenue: $800k, $850k, $820k. Looked stable. Monthly breakdown revealed: revenue was $90k/month 2 years ago, now down to $55k/month. The business was dying.

**How to Find It:**

1. **Demand monthly P&L detail for 3 years**
```
Don't accept:
- Annual summaries
- "Adjusted" figures
- Quarterly reports

Insist on:
- Month-by-month detail
- Same format all 3 years
- Support from bank statements
```

2. **Create a trend chart**
- Plot monthly revenue
- Add 3-month moving average
- Look for patterns

3. **Compare to bank deposits**
- Month by month
- Do deposits match reported revenue?
- What about cash sales?

4. **Ask about recent months**
- How is THIS year tracking?
- Why are you selling if business is growing?
- Can I see current year monthly detail?

**Red Flags:**
- Seller resists showing monthly detail
- Recent months trending down
- Excuses don't match reality
- Can't explain decline

## Problem #2: Major Customer About to Leave

**How Sellers Hide It:**
- Don't mention customer concentration
- Provide customer list but not revenue breakdown
- Claim "all customers are happy"
- Time the sale before customer leaves

**Real Example:** Buyer purchased SaaS business for $400k. Three months after closing, learned the top customer (35% of revenue) had already given notice before the sale. Lost $140k in annual revenue immediately.

**How to Find It:**

1. **Get customer revenue breakdown**
- Top 20 customers by revenue
- Percentage of total for each
- Length of relationship
- Contract terms and expiration

2. **Interview major customers**
```
Ask:
- How long have you been a customer?
- Any plans to change suppliers?
- Any issues with service or quality?
- Will you continue after ownership change?
```

3. **Check contract expirations**
- When do major contracts expire?
- Auto-renewal or renegotiation?
- Notice periods?
- Any customers in dispute?

4. **Review recent sales history**
- Any major customers reduce orders?
- Long-time customers gone quiet?
- Complaints or returns increasing?

**Protection Strategies:**
- Require seller to introduce you to top 10 customers
- Get written letters of intent from major customers
- Escrow part of purchase price pending customer retention
- Adjust price for concentration risk

## Problem #3: Key Employee Exodus

**How Sellers Hide It:**
- Don't disclose who's planning to leave
- Introduce you to employees who will stay
- Claim "the team is great"
- Time sale before departures announced

**Real Example:** Buyer purchased a small manufacturing business. One week after closing, the production manager (20 years with company) quit. He had told the seller months earlier he was retiring. Production fell apart.

**How to Find It:**

1. **Private interviews with key employees**

Ask:
```
- How long have you worked here?
- What are your plans for the next year?
- Any concerns about ownership change?
- What would make you consider leaving?
- Do you know why the business is being sold?
```

2. **Look for signs of departure:**
- Recent hires in key positions (replacing someone?)
- Cross-training happening (someone leaving?)
- Major projects without leads
- Employees updating LinkedIn profiles

3. **Check employee retention data:**
- Turnover rate last 2 years
- Any recent departures?
- Exit interview notes
- Pending retirements

4. **Understand dependencies:**
- Who has critical knowledge?
- Any single points of failure?
- Is knowledge documented?
- Can business run without any one person?

**Protection Strategies:**
- Require key employee retention letters
- Build retention bonuses into deal structure
- Negotiate longer transition period
- Escrow funds contingent on team staying

## Problem #4: Lease Problems

**How Sellers Hide It:**
- Mention lease expires "but landlord will renew"
- Don't disclose rent increase terms
- Hide personal guarantees
- Don't mention transfer restrictions

**Real Example:** Buyer purchased retail store. Lease had 8 months remaining. Landlord refused to renew (wanted to redevelop property). Seller knew. Buyer paid $300k for a business with 8 months to live.

**How to Find It:**

1. **Review complete lease agreement**
```
Critical sections:
- Expiration date
- Renewal options and terms
- Rent escalation clauses
- Assignment/transfer requirements
- Landlord's approval rights
- Personal guarantee provisions
```

2. **Talk directly to landlord**

Ask:
- Will you approve transfer to new owner?
- Any issues with current tenant?
- Plans for the property?
- Will you offer renewal?
- At what terms?

3. **Check public records**
- Property tax records
- Zoning changes pending
- Development plans filed
- Property for sale?

4. **Verify rent is market-rate**
- What do comparable spaces rent for?
- Is current rent below, at, or above market?
- Will renewal be at higher rate?

**Red Flags:**
- Lease expires within 18 months
- Above-market rent
- Landlord unresponsive
- Property in development zone
- Personal guarantee required

## Problem #5: Pending Regulatory or Legal Issues

**How Sellers Hide It:**
- Don't mention "investigations"
- Downplay compliance issues
- Claim issues are "being resolved"
- Time sale before problems become public

**Real Example:** Buyer purchased medical practice. Three months later, received notice of Medicare billing audit from 2 years prior. Resulted in $180k penalty. Seller knew audit was pending.

**How to Find It:**

1. **Request disclosure of all legal matters**
```
Include:
- Pending lawsuits
- Threatened claims
- Regulatory investigations
- Compliance issues
- Insurance claims
- Disputes with customers, vendors, employees
- Government notices or inquiries
```

2. **Check public records:**
- Court records (county and federal)
- Regulatory agency databases
- Better Business Bureau complaints
- Online reviews and complaints
- Industry license status
- OSHA violations database

3. **Review insurance**
- Any claims filed last 3 years?
- Premium increases (why?)
- Coverage cancelled or hard to get?
- Incident reports

4. **Talk to professionals:**
- Attorney: Any legal issues?
- Accountant: Any tax problems?
- Insurance broker: Any claim issues?

**Protection Strategies:**
- Require representation & warranty in purchase agreement
- Escrow funds for unknown liabilities
- Get title insurance if available
- Indemnification clause for pre-closing issues

## Problem #6: Maintenance and CapEx Deferred

**How Sellers Hide It:**
- Claim equipment is "well maintained"
- Don't mention repairs needed
- Minimize capital expenditure requirements
- Make cosmetic fixes only

**Real Example:** Buyer purchased car wash. Seller said "equipment is fine." Within 6 months, needed $75k in equipment repairs/replacement that seller had been deferring for 2 years.

**How to Find It:**

1. **Hire professional inspections:**
- Equipment appraisal
- Building inspection
- Vehicle inspection (if applicable)
- Technology audit

2. **Review maintenance records:**
- What's the maintenance schedule?
- Are records current?
- Any skipped maintenance?
- Warranties current?

3. **Check capital expenditure history:**
```
Last 5 years:
- Major equipment purchases
- Building improvements
- Technology upgrades
- Vehicle replacements

If none: Why not? Everything needs eventual replacement.
```

4. **Get replacement timeline:**
- Age of all major equipment
- Expected remaining useful life
- Estimated replacement costs
- Landlord vs. tenant responsibilities

**Create CapEx Reserve:**
```
Equipment 1: 10 years old, $50k to replace, 15-year life
Annual reserve: $50k ÷ 15 = $3,333/year
Expected replacement: 5 years

Calculate for all equipment, add total annual reserve needed.
```

## Problem #7: Revenue Recognition Games

**How Sellers Hide It:**
- Pull forward next year's revenue
- Inflate last few months before sale
- Record revenue before earned
- Manipulate timing of sales

**Real Example:** Seller showed strong Q4 before sale. After closing, buyer discovered seller had offered major discounts to customers who prepaid annual contracts, pulling forward 12 months of revenue to inflate final quarter.

**How to Find It:**

1. **Analyze last 6 months closely:**
- Any unusual spikes?
- Large prepayments?
- New rev recognition policies?
- Timing differences vs. prior years?

2. **Check deferred revenue:**
- Customer deposits for future work?
- Prepaid annual contracts?
- Gift cards or credits issued?

3. **Review revenue recognition policy:**
- When is revenue recognized?
- Has policy changed recently?
- Matches industry standards?
- Any aggressive recognition?

4. **Look at post-sale obligations:**
- Work already paid for but not done?
- Warranty or service obligations?
- Returns and refunds historically?

**Verification Methods:**
- Match invoices to cash received
- Review unbilled work or deliverables
- Check customer payment terms
- Compare to tax return timing

## Your Defense Strategy

### Before LOI:
1. Ask direct questions about all 7 problem areas
2. Request specific documents
3. Note any evasive answers
4. Walk away if seller won't provide transparency

### During Due Diligence:
1. Verify EVERYTHING independently
2. Don't rely on seller representations
3. Interview third parties (customers, employees, landlord)
4. Hire professionals (inspector, attorney, accountant)

### In Purchase Agreement:
1. Representations & warranties covering all areas
2. Indemnification for undisclosed issues
3. Escrow or holdback provisions
4. Right to terminate if issues found

## The #1 Principle: Trust But Verify

Sellers aren't necessarily lying. But they are:
- Presenting their business in best light
- Minimizing negative information
- Hoping you won't dig deep
- Eager to close and move on

**Your job:** Assume nothing, verify everything, and dig until you're satisfied you understand all the risks.

## Tools to Help You Investigate

**Download our:**
1. **Document Request Checklist** - Comprehensive list of what to request
2. **Red Flags Assessment Template** - Systematic evaluation of warning signs
3. **Due Diligence Tracker** - Track your investigation progress
4. **Seller Questions List** - Critical questions to ask
5. **Complete Due Diligence Guide** - Step-by-step investigation process

## The Bottom Line

Hidden problems aren't just possible—they're probable. Every business has skeletons. Your job is to find them before closing, not after.

**Remember:** A problem discovered during due diligence is negotiating leverage. A problem discovered after closing is your costly mistake.

Take the time to investigate thoroughly. It's the only way to avoid buying someone else's problem.