Selling a business is a complex proposition. There are
dozens of considerations, tangible and intangible, that must be considered when
evaluating whether a transaction is a good fit for a buyer. Due diligenceis
the process by which buyers attempt to dig into all these factors before
signing off on a deal.
a sense, due diligence begins as soon as a buyer becomes aware of a potential
deal. Every subsequent interaction — from the first Google search of the
company name to the initial phone call with the business broker to the first
meeting with company executives — informs whether a buyer decides to move
forward with a deal.
diligence usually focuses on a few main areas (though the process will vary
depending on the industry, the size of the business, and the buyer). These
- Business/operations: How sustainable is your company’s revenue and cash flow? What is your growth trajectory? How do your customers view your product/services?
- Accounting: Most buyers will conduct a review of the sellers’ financial statements (usually with the help of an outside accounting firm) to arrive at a comprehensive understanding of the target’s historical revenues, cash flows, and earnings.
- Legal: Buyers will engage a lawyer to review a variety of legal documents — including organizational documents, customer/supplier contracts, past litigation, real estate leases, and more — to look out for any current or potential legal liabilities.
- IT: A few common focuses include security vulnerabilities, ownership/structure of proprietary technology and/or custom software, and software and employee device inventories.
As part of due
diligence, potential buyers typically request a wide range of documents from
companies. These include but are not limited to:
- Financial statements
- Tax records
- Detailed information about company assets
- Contracts with suppliers and customers
- Insurance coverage and any recent claims
- Information on product/service offerings and current/past customers
- Licenses and permits
- Intellectual property information
- Information on employees and benefits
- Information on current/projected revenue streams
working with a broker will help ensure you are prepared with all the necessary
information ahead of time, and put your best foot forward during the due
At its core, due
diligence is about uncovering and evaluating risk. During the process, buyers
try to confirm the accuracy of the information the company has provided, as
well as unearth any potential risks not detailed — whether intentionally or
unintentionally. In addition to reviewing the paperwork the company provides,
most buyers will also do some form of on-site due diligence in order to speak
with company employees and get a better sense of how the organization functions
on a day-to-day basis. Traditionally, buyers would set up a physical data room
to account for the mountains of paperwork required to evaluate a deal, but
today, virtual data rooms are the norm, allowing sellers, buyers, and brokers
to securely store and access all the documents related to the transaction
addition to verifying concrete information about the business, buyers use due
diligence as a time to evaluate the fundamentals of the business and gain as
strong a grasp as possible on the intangible factors that are likely to play a
significant role in its future success
What’s the management style of the leadership team? How engaged are its
employees? How loyal are its customers? Who manages the company’s relationship
with vendors and customers? Is information documented transparently, or does it
live in the owner’s head? What is the market’s perception of the business, and
how does it line up with its competitors?
The timeline for
due diligence varies. Often LOIs will set out a timeframe between 30-90 days
for the process; however, the process often stretches beyond this (much to the
chagrin of sellers). Our firm was involved in a transaction that opened
in November 2018 with an anticipated closing date for December 31, 2018. The
transaction was relatively small; the value proposition easily understood. The deal
finally closed on June 30, 2019 due to the buyer’s difficulty in getting firm
commitments from its investment partners due to a lack of basic information that
was made available early on to evaluate investment risk. The deal finally
closed, but not with the first group of investors. They had long since lost
patience and moved on to other opportunities.
businesses sell. Some don’t sell for good reason: lack of a sustainable
business model, depth of the management team, or undisclosed liabilities
discovered in due diligence just to name a few.
Companies that are well prepared for the process of selling their business and transparent with respect to the information they provide can help their business brokers bring a qualified buyer to the table more quickly and improve the odds for a successful close in the most efficient timeline.