Decoding Due Diligence For Business Buyers & Sellers

You've heard the term often: due diligence when you are thinking of selling your business, buying a business, or even doing a merger.

But it seems that due diligence is way more than just the financial assessments of both sides of the deal table.

In today's article, we break down all of the different categories of due diligence that should be conducted prior to signing a Letter of Intent and then the final Term Sheet.

Due diligence is critical for both buyers and sellers in business transactions. Key categories include:

1. Financial: Examines financial statements, tax returns, and projections. Measures profitability, cash flow, and financial health. Typically conducted by accountants or financial advisors. There is also a Business Valuation report objectively assessing the sell value of a company and Quality of Earnings report determining the accuracy of stated revenue and income of a company.
2. Legal: Reviews contracts, licenses, and litigation risks. Assesses legal compliance and potential liabilities. Performed by lawyers.
3. Operational: Evaluates business processes, efficiency, and scalability. Measures productivity and identifies improvement areas. Often done by management consultants.
4. Commercial: Analyzes market position, customer base, and competitive landscape. Measures growth potential and market share. Market research firms or industry specialists usually handle this.
5. Human Resources: Reviews employment contracts, policies, and culture. Measures employee satisfaction and retention. HR consultants or employment lawyers conduct this.
6. Technology & IT: Assesses technology infrastructure, data security, and digital capabilities. Measures technological readiness and risks. IT consultants or cybersecurity experts perform this.
7. Environmental: Examines environmental compliance and potential liabilities. Measures environmental impact and risks. Environmental consultants or specialists conduct these assessments.
8. Intellectual Property: Reviews patents, trademarks, and copyrights. Measures the value and protection of intellectual assets. IP lawyers or valuation experts handle this.

Here is a list of the specialized advisory experts who are engaged to conduct these due diligence reports:

1. Business Broker: A professional who assists in the buying and selling of small to medium-sized businesses. They typically handle transactions valued under $2 million. Connects buyers and sellers, help determine asking price, market the business, and assist with negotiations.
2. Investment Banker: A financial professional who provides various services for larger, more complex transactions, typically for deals over $5 million. Offers strategic advice, perform company valuations, prepare marketing materials, identify potential buyers or sellers, and negotiate deal terms.
3. Valuation Expert: A specialist who determines the economic value of a business or its assets. Conducts thorough analysis to provide an objective estimate of a company's worth, often using multiple valuation methods.
4. Quality of Earnings (QoE) CPA: A certified public accountant who specializes in analyzing a company's financial statements to verify the quality and sustainability of reported earnings. Identify unusual or non-recurring items, assess accounting policies, and provide an independent view of the company's true earnings potential.
5. M&A Attorney: A lawyer specializing in mergers and acquisitions law. Drafts and negotiate legal documents, ensure regulatory compliance, and provide legal advice throughout the transaction process.
6. Tax Advisor: A professional who specializes in tax implications of business transactions. Optimizes deal structure for tax efficiency, identify potential tax liabilities or benefits, and ensure compliance with tax laws.
7. Integration & Transition Consultant: An advisor who helps businesses improve their performance and operations. Assesses operational efficiency, identify synergies in mergers, and develop integration strategies.
8. Environmental Consultant: A professional who assesses environmental risks and compliance. Conducts environmental due diligence, identify potential liabilities, and ensure compliance with environmental regulations.
9. Human Capital Expert: An expert in current and future talent needs and employment issues. Assesses company culture, review employment contracts and policies, and advise on workforce integration in mergers.

These advisors often work together as part of a transaction or integration team, each bringing their specific expertise to ensure an objective, comprehensive evaluation and smooth execution of the deal. The complexity and size of the transaction typically determine which of these advisors are necessary.

It's hard to know who to engage and when. This is why a transaction advisor can provide a strategic overview and help both buyer and seller determine who to involve and when for the lowering the risks and optimizing successful deal closure and more fluid integrations after the ink has dried.

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