Significance of Due Diligence services while acquiring a business
Perhaps, you are planning to acquire a business, but not interested in getting any nasty surprises. The truth is that business acquisitions are likely to involve plenty of twists & turns. However, no part of this process is likely to be more crucial when compared to completing due diligence. The story of an Amazon business sale clearly depicts of it going well, when a critical problem was identified while performing the due diligence process. It stated that the business did not make proper efforts to collect from buyers the necessary sales taxes. Liability with regards to uncollected tax amounted to $70,000+ for which buyers were found liable. This actually stopped the deal from taking place until sellers agreed upon to pay all taxes from their pocket.
An overview of Due Diligence
It is considered to be a process involving business evaluation from all possible aspects prior to making the purchase decision. Often it is performed while purchasing the business. However, several other situations may arise, where due diligence might found to be essential. In case of private equity funding, via venture capitalists, it is termed to be a major factor and also part of real estate purchase, especially to check the property’s legal history.
But due diligence cannot be termed to be general investigation, but does include some specific elements which might vary based upon nature of business and particular situation. Both parties are well protected by due diligence. But it is mainly the purchaser who is benefitted from such services offered by the reputed professionals in the domain. All potential financial matters and liabilities can be uncovered through this process and ensure that nothing remains hidden from the sight of the purchaser, thus enabling a proper and wise decision to be taken during the purchase and to make a smart move.
What does this process involve?
This process does require involvement of the principals, namely the investor or the buyer and his attorney and accountant as well. Usually it is performed after signing of the intent-to-purchase documents, however, before formal acquisition agreement is agreed upon.
All business related documents and records are to be carefully evaluated and verified upon during due diligence. It is necessary to check out all those which might cause the company to face liability, including purchase agreements, liens on assets and sales agreements. The documents associated with potential or ongoing lawsuits or recent litigation which has concluded is to be evaluated properly. The attorney can prove to be of great help to undertake this objective.
Sufficient time is to be spent at business premises discussing with employees, executives and managers. Sales need to be checked against customer lists, so as to verify and find if the business does have customers like it claims to have.
All future plans with regards to expansion, including condition of property and facilities need to be looked at. It can include furniture, equipment and fixtures. They are to be verified as reported.
A crucial aspect pertaining to due diligence process will be to take proper note of any discrepancies identified between what is being reported and what actually is going on. Several questions are to be asked. If satisfactory answers are not derived, then ask again and know why. At times, it can be crucial to prove positive and negative aspects. In case, something does not appear right, then probably it might not be.
What is included within the process?
The subjects that are involved within the process of due diligence is subjected to change based upon the situation, often, they will include the following:
- Employees & Management: It is necessary to know who is actually in charge of the organization and get to know their credentials, experience and if they are trustworthy. Organizational chart needs to be availed including resumes of board members and executives along with employment contract copies. Information also needs to be accessed on company advisors – insurance, financial, legal, and others need to be disclosed. All board members and top executives need to conducted proper background checks. Various documents pertaining to employee benefits and pay along with employee handbook needs to be reviewed including employment tax reports. Independent contractors’ status is to be verified to ensure they are classified appropriately and correctly.
- General company information: It comprise of the company’s history, its original including succeeding business plans, long and short term objectives and goals and company’s mission statement are to be available for review.
- Services & products: In case, the company deals in products, then there will be necessary listing or catalog with information pertaining to product competitiveness. It is essential to review price listings and brochures for services and products. Also are necessary terms of service, service availability and pricing strategies. There needs to be provided documents related to company trademarks, copyrights, patents including licensee agreements and company owned licenses.
- Legal matters: Business legal structure is to be investigated and should include verification of copies of by-laws, articles of incorporation, minutes of meeting, along with other formation documents which are to be filed with appropriate states where business is to be acquisitioned. The other legal documents include agreements and copies of contracts binding the company, product liability documents, service agreements/warranties on company products, etc. There should be undertaken discussion on pending or current litigation including association with regulatory agencies for employee safety law, industry specific organizations or disabilities law.
- Competition and Marketing information: Such documents tend to include company’s market analysis, marketing plan, SWOT analysis, growth opportunities and purchase agreements. Some information pertaining to competition is likely to include major competitors’ list and competition analysis – both future and of present.
Operations: Review facilities, fixed assets, product quality safety and assurance, equipment, contracts and suppliers. Often, inventory is taken and there is to be considered inventory costing FIFO and LIFO.
Customers: Customer information includes review of major customer agreements including accounts receivable – aging reports.
Financial matters: Company’s financial records are part of diligence process. It includes past years’ income statement and balance sheets, insurance coverage, projected financial statements, funds statements usage, sources and tax filings.
Taking help of the professional agencies can help simplify the due diligence and acquisition process.
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