Beyond the Curtain
Due diligence is vital to any merger or acquisition deal put into action—diligence is when you open Pandora’s box and find everything under the rug and behind the curtain. During the due diligence phase, you can comb through the company financials, employee agreements, supplier contracts, sales chain, and any other metrics to make a sound decision before agreeing to close a deal.
Thorough due diligence lowers risk for investors and creates the opportunity to find synergies and develop a plan to unlock new capabilities. Once an LOI (letter of intent) is signed and due diligence starts, the clock is ticking, and roadblocks will reveal themselves. Understanding some common pain points during this process is vital to keeping the momentum on track and settling the minds of other players in the deal who have made commitments. Due diligence accuracy is about how detailed your assumptions are in the transaction.
Keeping up with financial data and the necessary supporting materials to generate a transaction can make or break a deal. There is nothing like having a thriving enterprise when the market is rapidly expanding, and premiums are handed out like grocery store samples. Still, no one can locate the documented reasons behind the numbers and therefore can’t capitalize on the harvest. Sellers must oversee organizing documents and creating a central repository to improve efficiency. A cleanroom helps with security, allows all key players a place to access the materials, and is far more efficient than emails. Buyers should also know what items are needed, be mindful of the sensitive nature of the diligence process, and only request what’s required.
Sixty days is the usual time frame from when LOI is signed, and the buyer starts performing the diligence process. Time is crucial, and if a seller is still taking too much time to provide needed materials, this can snowball into other issues. Whether a business is thinking about selling or not, it is vital to know where financial and legal documents reside for other events such as audits, IPOS, bond offerings, etc. Most of the companies PE firms go after are not public, and due diligence performed with the utmost attention to detail is expected and needed to make a sound investment. Sellers’ ability to accommodate buyers’ requests for essential items can expedite a deal and get both sides to closing.
A list of key documents:
- Company Books/Records/Charters and Bylaws
- Tax Files
- Shareholder Reports/ Meetings/Minutes
- Contracts for employees, vendors, benefits, insurance
- Company Property/Real Estate
- Organizational Structure/Business Plan
The Right Team
Not all enterprises, even in the same industry, will have identical financials or legalities that make up these entities. Understanding different business models are crucial because some businesses are more complex than others and hiring the right SMEs to help validate these items will save you money. Hiring accounting and consulting firms to analyze financial and strategic documentation is necessary. These resources will have the required checklist to help validate potential risks and discover intangible value not easily communicated before. At the center of all deals are the people. People are putting the transaction together, investors/shareholders, employees, suppliers, customers, etc. Seeking the appropriate counsel will help you avoid a bad investment, waste valuable time, and control the deal’s exposure to unnecessary ears.
It’s also important that the sellers keep operations going, ensuring that the value is consistent after the due diligence process. Controlling the flow of information and timing should be top of mind for sellers, and this is important so that employees don’t make hasty moves due to a lack of certainty in job security.
A list of key players:
- Intermediaries/Investment Bankers/Brokers
- Accounting/Consulting firms
- Tax Consultant
- Third-Party Industry Expert
An environment of transparency and willingness to work together is at the core of the process. Buyers must know what they’re buying and, even more importantly, the justification for your commanding price. If there is a premium a seller is looking for, then finding a way to communicate what the underlying value is to the buyer must be top of mind. Are there favorable contracts with the vendor or a long-term agreement with the government? Have you established a cult following and have a product only you know the specifics? Do you have IP or licensing agreements that warrant unique access to data or distribution pipelines? Whatever that may be, the seller must find a way to ensure it is evident when the buyer performs due diligence.
Solid due diligence is the lifeline of a deal. Buyers must be knowledgeable about recent trends, market changes in specific industries, or anything directly/indirectly involved with the company in conversation. Sellers must be able to communicate factors that determine failures, successes, and key-value drivers in their industry and the business they’re trying to sell. Ensure that both buyers and sellers have established checklists that provide a good foundation for where to start!