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It cannot be stressed enough—the most important portion of the M&A process for a business buyer is due diligence. Performing effective due diligence allows the buyer to deeply comprehend the target company’s numbers and infrastructure. If thorough due diligence is not achieved, the buyer runs the risk of acquiring an unsuccessful company with unknown issues that will only be revealed after the payout has been made and documents signed. Not only does financial and legal information require assessment, but in order to receive the full scope of the business in question, other operations must be analyzed to avert potential risks.
The following is a list that every buyer should follow during the course of due diligence in order to ensure that every important element is examined.
The financial integrity of the company is perhaps one of the most paramount features to highlight in due diligence. This data should include schedules and controls for all financial elements such as AP/AR, inventory, expenses, audit reports, and contingent liabilities. Projections for the future and strategic plans are also critical to include.
Company expenses are also vital to scrutinize. Variable expenses should be accounted for, in order to determine if the expenditures are necessary and appropriate to continue under new management. Tax information should also be examined under the umbrella of financial materials, including company and employee tax returns, tax filings, and tax settlements from the last three to seven years.
One should include files of all certified licensure and liabilities that keep the business running at full compliance. If a business is knowingly partaking in practices that are not fully legal, this may be a red flag indicating that the seller may have other things to hide. All pending litigations must also be included.
An in-depth overview of the business plan is vital. The entire infrastructure is necessary to understand the inner workings of the company. All official certificates from the state and other governmental sectors should be provided to the buyer. Data such as contracts and agreements will help one gain a greater scope of the business.
The company’s reputation should be assessed comprehensively, as this can hold a great amount of value. One of the ways in which reputation may be concretely examined is through press releases and publicity gained by the company. A list of competitors and their standings are also important for the buyer to obtain. Any vendors, outsourced departments, manufacturers, etc. and relationships must be included, and relationships with these people examined.
Tangible assets will include documentation of inventory, equipment, physical locations, and any other fixed assets that the company holds. Along with assets, the buyer should analyze all products/services offered, and the specs on each offering. The products/services should have a system in place for methods for ensuring consistency, legality, and compliancy, and these should be outlined.
Also referred to as “intangible assets,” all intellectual property is vital for evaluating the value of the company. Included under this category are copyrights, trademarks, patents, permits and licensure. Any claims against the company’s intellectual property should also be incorporated.
The seller should provide descriptions of other key knowledge and trade secrets that allow the company to run effectively. Products under development may be listed under this category, and all designed and tested materials need to be accounted for.
Documentation of every employee should be provided to the buyer, including information about their job roles, salaries, bonuses, benefits, vacation days, retirement plans, and amount of years with the company. Any contracts signed by employees should also be included in this file. If stock options are available, this is important to include. Employee disputes and write-ups should also be documented.
Employee benefits are crucial to examine because if the buyer needs to make any adjustments, not only do they have to maintain the structure of the business, but the morale of the employees, as well as their own reputation as the new business owner.
An integral portion of the business plan should be based on how to best satisfy customers. Quality control and support should be a part of the company framework. Client losses should be documented with reasons for their leaving from the past two years.
The seller should provide information on the company’s biggest clients, with detailed data on their relationship to these customers, as well as sales figures. The business owner should not be the sole relation that these large clients hold with the company, because this could cause them to walk away after the acquisition, due to personal rather than brand loyalties.
Unfulfilled orders are another important element to note, as these will need to be addressed post-closing. Complete sales and marketing plans and statistics should also be provided.
The company’s environmental relations are a frequently overlooked but important part of due diligence. If the business is at all involved in the handling of hazardous materials, permits, licenses, and disposal methods should be obtained. The company’s environmental sustainability can have an integral effect on reputation. If the company has any outstanding environmental litigations or liabilities, this should be taken care of and any correspondences recorded.
Overall, a good rule of thumb to follow when performing due diligence is that documentation from the last three years should be examined, unless otherwise noted. Going back further is time-consuming and will most likely prove to hold fewer relevancies, however with the recent recession, many buyers are looking at numbers from 2007 and 2008 also.
If you would like to learn more about how to perform thorough due diligence, please contact George & Company. Along with professional advice, we can also provide you with a full, bulleted checklist of every piece of documentation that you need to include in your findings.