Free Advice

Last month, in one of the employment columns in the Wall Street Journal, the author discussed taking a job in a company that is also laying people off. He concluded it was okay to do so, if you perform your “due diligence.”

Everyone performs “due diligence.” Investment bankers, potential employees and business buyers. What exactly is “due diligence?” When it comes to the purchasing of a business, it’s the verification of what the buyer has been told about the business and its operations.

It is not a time for surprises. It’s the time for the seller to shine as he or she proves the claims they’ve made about the financial performance of the company, the management team, the company’s position in the marketplace, the product capabilities and more.

The process

Here’s a brief outline of a typical buy-sell process and what happens during each step. Some of the steps involve multiple meetings or conversations.

The buyer and seller (and possibly the seller’s representative) meet for the first time. By this time, the buyer should have established that the business meets his or her basic criteria of location, business type and proclaimed cash flow.

At either the first meeting or immediately following, the seller or broker presents the buyer with an overview of the business. This overview describes the company, its product or service, the market, some financial summaries, etc.

The buyer will decide if, based on the overview and the first meeting, the business is worth pursuing. Criteria for pursuit generally include, the stated cash flow, detailed knowledge of the product or service, the asking price range and, most importantly, the relationship with the seller. No relationship, no deal, no matter how good a fit the business is. At the same time, the seller is verifying the buyer’s capabilities and determining if he or she feels there’s a good relationship.

At this point the buyer should present the seller with a non-binding letter of intent detailing the information needed to allow the buyer to make an offer. This initial due diligence may include analysis of the lease, tax returns, financial statements, an employee overview, benefit plans, a customer overview and a description of the market and competitive standing of the company.

Time to make an offer

If the buyer is satisfied with the information provided so far, he or she will make an offer. The offer will usually be contingent on final due diligence. This may include (but is not limited to):

·         Verifying pricing to key customers

·         Employee agreements and other employee issues (there must me a good relationship between the buyer, management and the key employees for this to work)

·         Satisfaction that there is no litigation or court actions ongoing or pending

·         Environmental studies

·         Customer concentration issues (no customer accounts for too large a share of sales)

·         Securing a lease assignment and/or extension

·         Supplier credit terms

A good stepped process keeps everybody on track and prevents either party from investing a lot of time on something that isn’t going to happen because of something that can be determined early.

Again, due diligence is the proving of what the buyer has already been told. As you can well imagine, a surprise in one area will cast suspicion on everything else. It’s important for the seller to realize every claim will be investigated thoroughly. The buyer should also understand the seller will do their best to verify the buyer’s claims of financial capabilities, experience and character.

© John Martinka 2001. All rights reserved.