There is a vital step you must always take before you buy a business – due diligence. No matter how attractive the seller makes the business appear, you and your advisors should carry out due diligence.
Due diligence is the method by which you get access to all the company’s files, records, information and personnel to confirm that everything you’ve been told by the seller is accurate. It also helps determine that it is worth the price you’re being asked to pay and that it’s free from a contingent or unknown liabilities and is capable of continuing to trade.
It pays to have several deals bubbling at the same time rather than just one. This is because the due diligence process is often long. It is also the point at which deals fall through. It often changes the deal because you discover things that the seller might have hidden or glossed over. It is usually for the best not to have all your eggs in one basket at this stage and to wait until after due diligence to narrow your options.
When you buy a business, sellers and brokers will pressure you to conduct the due diligence quickly, but don’t be rushed. You’ll probably need at least 20 business days to carry out a thorough investigation.
The Due Diligence Process
Due diligence is generally carried out in the following three areas:
Legal Due Diligence
The first area is legal due diligence which is carried out by your solicitors. A request is sent to the seller’s solicitors for information and documentation. Eventually, your solicitors will prepare a legal due diligence report for you. It will explain the legal position of the business and areas of concern, and it will provide recommendations that you may need to address post-completion.
Financial And Tax Due Diligence
The second area is financial and tax due diligence which is carried out by your accountants. The purpose of this is primarily to discover the business’ financial and tax risks; to analyse its past profitability and cash flow and its future operational prospects; and to determine its assets and liabilities, internal control and operations management.
Commercial Due Diligence
The final area is Commercial due diligence which is carried out by you or an advisor. It provides you with an in-depth report of the company and its market. It analyses the company’s performance, how likely it is to meet its targets and highlights possible risks associated with its purchase.
Due Diligence Checklist
The due diligence will investigate the following aspects of the company:
- Website and domain
- Trademarks and Intellectual Property (IP)
- Marketing materials
- Customer contracts
- Owned premises
- Non-Compete Clauses
- Risk scenarios and level of protection.
- Historic debt
- Looming payments (especially HMRC)
- Long-term contracts including vehicles and leased premises
The Due Diligence process should be conducted by a professional on your behalf – never do it yourself!
Before the purchase of any business ensure you carry out all the areas of due diligence. Don’t rush. Use the time you are allocated to complete a thorough check of the business being sold. As with any seller, a business seller is likely to overstate the value of a business. This isn’t to say they will lie about numbers but they may add some flare to the way they present them and the business.
Just because the seller puts some emotion and passion into their pitch doesn’t mean what they make look like an amazing opportunity isn’t – it may well be. But it is better to check and make sure. Carry out your due diligence and use the checklist provided for guidance on what you should be looking for when considering purchasing a business.