Once you’ve agreed the main terms of a business sale, the buyer will usually begin due diligence.
Put simply, due diligence is the buyer checking that the business they think they are buying matches the business you have presented to them.
They will look at the financial performance, customers, employees, contracts, tax position and other important areas before committing to the acquisition.
For sellers, it can be one of the busiest parts of the transaction.
What does a buyer look at during due diligence?
The exact process depends on the size and type of business, but it will usually cover several areas.
Financial due diligence
The buyer will want to understand historic financial performance and how the business is currently trading.
Expect questions around revenue, margins, EBITDA, working capital, cash flow, debt, forecasts and any adjustments that have been made to earnings.
They may also look closely at how revenue and profit are split between customers, products or services.
Commercial due diligence
This focuses on how the business operates within its market.
The buyer may look at customers, competitors, market position, pricing, growth opportunities and the sustainability of revenue.
Customer concentration can receive particular attention where a small number of customers account for a significant proportion of sales.
Legal due diligence
The buyer’s lawyers will review areas such as company ownership, commercial contracts, employment agreements, property, intellectual property, disputes and regulatory matters.
Tax due diligence
This typically covers corporation tax, VAT, PAYE and other relevant taxes, including whether there are any historic liabilities or ongoing enquiries.
Operational due diligence
Depending on the business, buyers may also review systems, technology, suppliers, processes, assets and the management team.
What information will you need to provide?
The buyer will normally send a detailed information request.
Documents are typically uploaded into a secure data room where the buyer and their advisers can review them.
You may be asked for several years of financial information, customer and supplier contracts, employee details, tax records, property documents, company records and other information relevant to the business.
There will then usually be a series of follow-up questions.
The better prepared you are, the easier this process tends to be.
What happens if the buyer finds a problem?
Finding issues during due diligence is normal. Very few businesses are completely without them.
What matters is the significance of the issue.
Something relatively minor may simply need clarification. A more material issue could lead to additional protections being included in the sale agreement.
In more serious cases, a buyer may seek to renegotiate the price or structure of the transaction.
This is one reason it is useful to identify potential issues before due diligence starts.
A problem that has already been identified, explained and addressed is usually easier to deal with than something a buyer discovers unexpectedly.
How long does due diligence take?
For many SME transactions, due diligence might take around four to twelve weeks, although the timetable can vary considerably depending on the complexity of the business and transaction.
Delays often occur because information is incomplete, documents are difficult to locate or new questions arise from information already provided.
Having your documents organised before the process starts can make a significant difference.
How should you prepare?
Try to look at the business as though you were buying it yourself.
Are the financials clear? Are important contracts signed and easy to locate? Are there unusual costs or movements in performance that will need explaining? Are there any legal, tax, customer or employee issues a buyer is likely to identify?
You don’t need to have a perfect business.
You do need to understand where the questions are likely to come from.
Being organised, answering questions clearly and avoiding surprises can help keep the transaction moving and give the buyer confidence in the business they are acquiring.