Buying a business successfully requires dedication, meticulous research, negotiation tactics, and of course, thorough due diligence. In this article, we’ll offer useful insights that will help you navigate the complex journey of due diligence.
We’ll cover the following topics:
- What is due diligence?
- Questions to ask during due diligence
- Getting ready for due diligence
- Building a due diligence team
- Due diligence documents and contracts
What is Due Diligence?
Due diligence is similar to detective work. It is the careful examination of every aspect of a business. It goes beyond simple background checks; due diligence is the act of discovering the true value and risks of a target company, ensuring you’re confident in your decision to buy a business.
During the due diligence phase, you’ll investigate these common facets of a business:
- Financial health of the business: Reviewing financial documents, cash flow, and bank statements to understand the business’s profitability.
- Legal standing: Reviewing existing contracts, IP rights, and general commercial law compliance.
- Operational efficiency: Investigating the existing business model, customers, and operational process that emphasise growth or challenges.
Questions to Ask During Due Diligence
When buying a business, having a robust list of questions to ask a business owner will act as a guiding compass, helping you uncover fine details of your target business.
Here are some questions we recommend asking:
- Financial health: What overarching story does the financial statements of the business tell? Does the business have promising cash flow and financial information?
- Customer loyalty: Is the customer base stable and consistently growing? If so, what strategies are there to retain and expand the customer base?
- Legal: Are there unresolved legal disputes? How does the company handle commercial law compliance, regulations, and IP?
- Business valuation: How was the business valuation determined? Does the purchase price align with the business’s financial statements?
You’ll probably have far more questions than these, so it’s important to ask them. The more questions you ask, the higher your chances are of a successful purchase.
Getting Ready for Due Diligence
‘Diving in head first’ makes sense in certain circumstances, but not for due diligence. You need to start carefully, and work your way through each phase methodically.
Your first step is to be prepared. Start collecting important documentation and details that offer a clear picture of the business. Building this foundation will help you navigate mountains of financial and operational information throughout the process. Begin with financial records, intellectual property, and legal documents.
Your second step is to centralise all this information on a digital platform designed specifically for due diligence. This will make the due diligence process smoother, accessible, secure, and streamlined.
Now, let’s discuss why a due diligence team is the next important step in your buying journey.
Building a Due Diligence Team
Buying a business is not easy, and you may find gaps in your knowledge when it comes to certain phases. That’s why having a team of experts is crucial. Here are some experts you may want to hire to support you:
- Commercial lawyers
- Accountants
- Financial advisors
- Corporate finance consultants
- Real estate experts (if applicable)
A due diligence team will provide counsel on opportunities, risks, and offer different perspectives during the acquisition.
Due Diligence Documents and Contracts
Reviewing essential documentation is a step you cannot skip. Despite it being long and tedious, this is how you’ll come to understand the true nature of the business. While your due diligence team may do this for you, you should still immerse yourself in the process. Here are the documents you need to scrutinise:
- Financial statements: Analyse these to gauge the business's financial health and growth potential.
- Contracts: Review existing agreements to understand operational aspects and existing obligations.
- Licences: Verify the necessary licences to ensure legality and avoid future legal complications.
- Intellectual property: Assess the value added to the business through trademarks, patents, and copyrights.
- Draft contracts: Focus on business sale terms, including asset transfers and potential employee entitlements, to negotiate a favourable deal.
- Legal review: Conduct a comprehensive review of draft contracts to prevent future disputes and facilitate a smooth acquisition process.
The best way to safeguard your investment is to take a structured approach when reviewing these documents.
Wrapping Up
Due diligence won’t happen in one day. Usually, due diligence takes at least 60 days. However, if it drags on for some time, this could be a warning sign.
Nonetheless, due diligence is a vital process that can uncover opportunities, highlight hurdles, and save you from future pitfalls. It can even save you from buying the wrong business.
If you’d like more information on buying a business, feel free to read our expert guides on the buying process.
We wish you the best of luck on your acquisition journey!