What to Expect During Due Diligence
/During due diligence, the buyer and seller exchange information as the buyer decides to invest. Attractive companies not only fit a buyer’s Investment Criteria, but also demonstrate the ability to communicate verbally and non-verbally. This post includes the basic components of due diligence and tips from the buyer’s perspective and someone who evaluates dozens of businesses per week.
OVERVIEW. Selling any business can be complex. Within the sale, due diligence is where the seller has an opportunity to highlight the virtues of the company and simplify the complexities of the business. At any point both parties may have a change of heart, sellers may find other suitors, or buyers may find other deals to pursue. An interested buyer will dedicate a progressive level of resources and time into analyzing and understanding your company before presenting an offer, and typically withing the following steps;
SCOPE. There are a number of tangible and intangible items to consider, but at the end of diligence, buyers aim to confirm their interest and commit to a transaction. As part of due diligence, buyers request a wide range of information. Due diligence usually focuses on the following areas (this will vary depending on the industry, the business, and buyer);
TIMELINE. Often LOIs will define the timeline. In short, diligence can take ninety (90) and often extends beyond. Most consider the Letter of Intent (LOI) as the mark the beginning due diligence process. THIS IS NOT TRUE! Diligence begins after the first meeting, and every subsequent interaction (e.g. Google searches, introductory phone calls, etc.) informs whether an buyer will pursue an investment.
WHAT TO EXPECT AS A SELLER. During due diligence, buyers further their understanding of the business, it’s customers, employees, and risks. Experienced buyers expect to uncover new information during diligence, which may decrease or increase the offer, the purchase multiple, or the deals structure (e.g. debt v equity). The buyer will adjust their terms to account for the information exchanged during diligence, and present a revised offer. Unless you’re told differently, the buyer has agreed to commit. Be prepared for an adjustment to the offer, and don’t bail because the terms change.
TIPS FOR SELLERS. In today’s economic climate, potential buyers are willing to search long and hard to identify the best acquisition candidate. Treat potential buyers like a partner - over-communicate and always be honest.
Define The Ideal. Don’t let the pressure or the process force you into an agreement with the wrong partner. Every buyer provides capital - their skills, experience, mentorship and networks are what makes the difference. Before engaging buyers, answer the following with your business partners, advisors or board of directors. For example; As owners, what are we trying to achieve? (e.g. liquidity, reduced risk, growth, etc.) What does the company need to further its progress? (e.g. product, market share, capital, resources, technology, sales & distribution, etc.) What type of capital is needed? (e.g. growth equity, debt, etc.) Who is the ideal investor? (e.g. private equity, venture capital, strategic, etc.)
Dedicate Resources. A buyer will likely include a team of lawyers, accountants, consultants and experts during diligence. These people will look into your company and will need access to your team - and a high level of responsiveness will distinguish your company from others. Appoint a senior person from your team who is responsible to respond to buyer requests and provide updates to you and your team.
Qualify Buyers. Talk with the buyer, understand their skills, experience and their industry knowledge. Most buyers who are a part of a private equity or venture capital fund, are investing other peoples money. Buyers are responsible for being stewards to their investors. Don’t be afraid to ask the buyer why they are a good fit and how they will help your company. In order to determine if an investment in your company is a good decision, buyers must learn about all facets of your business.
Consider Life After. Early in the discussions, clarify the buyer’s expectations about the potential investment. For example; What changes will the buyer pursue following the investment? What will be the investors role following the investment? What’s the investors role in the decision making process? How often and what types of meetings will the investor require? What is the expected outcome of investor meetings and what type of reporting is required? Will there be restrictions on taking additional investment? Who decides on future and new buyer or investor and the terms?
Evaluate Fit. Spend a lot of time with the buyer! The buyer may assume a seat on your company’s board of directors. It’s important to find a buyer who you respect. There is no guarantee the business is going to turn out, following the sale or investment. Once in a while, parts of the business need help which may require some work on the part of the buyer. Before you legally bind yourself, ask yourself the following; Do you like them? Do you trust them? When things go wrong, will they have the skills and experience to solve problems? Will the buyer solve problems or have a knee-jerk reaction?
Trust your Instincts. Often a our identity is tied up in our business, and the thought of selling is frightening and sometimes paralyzing. Stay neutral. Don’t take the buyers questions personally, and continually evaluate how well a buyer understands the company’s goals and the goals of the investment. Immediately upon ANY discomfort, pursue clarification or additional information..
There can be great upside to bringing on an investor. As the seller, its up to you to decide which buyers will be the a suitable fit for your business and your team. Do your research and know what you are getting into! Contact us if you would like additional information about this post or to discuss the sale of your business.