It’s easy to get caught up in the excitement of buying a business but it’s important to do your research if you want to avoid uncovering any nasty surprises when you finally sign on the dotted line. The process of due diligence involves thoroughly checking the information the seller has provided to satisfy yourself that the business is a good prospect. It sounds complicated but it’s the best way to weigh up the values and risks involved.
Due diligence comprises an evaluation of a business’s legal, financial and commercial standing. You’ll definitely need professional advice here – from an accountant and a solicitor experienced in contracts. Your aim is to approach the final stages of negotiations with full disclosure on every aspect of the business so you know exactly what you’re getting for your money.
The first thing to consider is the company’s financial position. You’ll need to perform a thorough evaluation of its incomings and outgoings, together with any future projections. Ask to see a minimum of three years’ worth of tax returns as well as balance sheets and cash flow statements, though you may be required to sign a non-disclosure agreement before becoming privy to sensitive commercial information. Check that bills are being settled – and payments being received – regularly and on time and that both profit margins and cash flow are healthy. Factor in the costs of any bad debts, too.
Don’t overlook sales records – analyse them carefully to discover how the company is performing and whether there are spikes and dips that may correspond to seasonal patterns. See if your seller is willing to provide figures on the company’s biggest customers (in code, if necessary, to protect their identities) so you can explore buyer behaviour more accurately.
The ramifications of missing an important legal loophole can be disastrous. Imagine if you committed to buying a business without ensuring that the lease on the premises it occupied was transferable, for instance. Make sure you instruct a solicitor experienced in business transactions and check copies of all contracts and legal documents (leases, purchase agreements, distribution agreements and such).
You may also need to verify that the business is adequately insured and that required licences and permits are valid. If you’re inheriting employees as part of the deal, it makes sense to learn everything you can about the terms and conditions of their contracts.
Gaining a thorough understanding of your prospective business’s strengths, weaknesses, threats and opportunities is a key part of the due diligence process. The more you can discover about the business itself, the market in which it operates, areas where there may be room for growth and factors which could stifle it, the more prepared you’ll be for the challenges that lie ahead.
Analyse business operations carefully. Study industry and economic data to ascertain whether sales seem likely to grow, decline or level out, and consider whether current pricing strategies are realistic. If your offer includes equipment and/or stock inventory, make sure that their valuation reflects condition, age and market conditions.
It may seem like a long checklist, but the more thorough your investigations at the pre-contract stage, the greater your chances acquiring a business with real potential.