Why a due diligence can be so important
Did you know that two out of every three buying deals fail? This is often because of a lack of due diligence by the buyer.
Now, you may be asking yourself, “What is due diligence, exactly?” and hey, that’s a fair question. In its simplest terms, due diligence is the investigation of a business and the people behind that business prior to the acceptance and signing of a contract or buying deal. Due diligence is the process by which someone whom is looking to make an acquisition pours over the assets of a company and makes a thorough evaluation of their affairs.
But how does one complete a thorough act of due diligence? Well, I’m glad you asked! I’m going to walk you through the process of due diligence by providing an in-depth — but by no means fully comprehensive! — look at acquisition analysis.
Consider this a quick primer. If you’re looking for more in-depth thoughts, I encourage you to check out a more detailled due diligence checklist.
There’s always a distinct reason behind the sale of a business. It may be a nice, simple reason, such as the fact that the individual(s) involved are approaching retirement age. However, there may be more troubling or even nefarious reasons that you will want to ascertain prior to an acquisition. For example, has the company suddenly seen a downturn in profits? Are they working through a lawsuit?
Understanding the “why” before making a business deal is critical. In order to get a more complete picture of the “why,” you’ll want to obtain recent and past business plans from the company, consider structuring and how the company targets different sales regions, and consider any related acquisitions. Other acquisitions in the same industry may give you a clue as to any potential for an industry-wide downturn.
Dive into Financial Results
You may see a few numbers that you like right out of the gate, and there’s nothing wrong with that: It’s nice to get excited about a possible new acquisition! However, again, it’s all about due diligence. Be thorough with examining their financial results. Jump in head first! Examine financial statements, understand cash flow analysis, consider any possible cash restrictions, and pour over public filings and disclosures.
Hone in on Liabilities
A specific off-shoot of the financial considerations that you will truly want to zero-in on are liabilities. What kind of liabilities does the company currently hold? Such liabilities can greatly offset otherwise positive financial performance. Are there overdue payables? Has the company been loaned money by anyone, such as managers and shareholders? What assets are considered collateral by lenders?
There’s a lot of questions to ask yourself when it comes to potential liabilities, but rest assured you’ll be far better off putting that work in!
Educate Yourself on Legal Issues
Ideally, the business you’re looking to acquire won’t be steeped in any legal issues, but you can never be sure. Check into both current and prior company lawsuits. Review all previous legal invoices, and get to know the charter and bylaws of the company by heart. Oh, and dig up old minutes from board and shareholder meetings. You never know what you may find there. Better safe than sorry!