Traditionally, due diligence is a buyer’s responsibility when an M&A transaction is on the horizon. Conventional wisdom and best practices support the idea that this is the buyer’s opportunity to discover in detail what they’re getting for their money. Within the bounds of ethics and transparency, the due diligence process is also the seller’s opportunity to showcase the business in the most favorable light.
Here are three top seller considerations for the due diligence process.
1. Prepare Your Records
Buyers will typically want to see at least three years of complete financial statements and records. In addition to confirming the overall health of the company, these records also provide performance history insights and (combined with other indicators) may help to forecast future success. Documentation will likely include items like:
- Income statements
- Earnings before interest, taxes, depreciation, and amortization (EBITDA)
- Net working capital
- Operating expenses and trends
- Cash flows
- Capital expenditures
- Quality of Earnings (QofE)
Quality of Earnings (commonly abbreviated QofE) is a method of adjusting the reported EBITDA by including or removing special or one-time transactions (such as discretionary expenses or unique purchases) that would not be a part of normal financial operations. This analysis generally provides a more accurate view of your company’s operations.
2. Prepare Your Operation
During due diligence, parties have moved beyond the “curb appeal” stage and are looking for deeper insights into the health of the company. Contracts, intellectual property, equipment, facilities, key personnel, or a wide variety of other assets and processes may come under scrutiny. As a seller, there are several areas you can explore in advance to make sure things are in order:
- Ownership agreements and stock records
- Business structure documentation
- Intellectual property, patent, trademark and copyright documentation
- Asset inventory
- Facilities records
- Regulatory status
- Litigation status
- Contract status
- Customer agreements/contracts
- Supplier agreements/contracts
Keep customer confidentiality in mind as you work through these steps. Certain disclosures may violate privacy agreements you have in place for key accounts. Review documents carefully and make sure any information you pass to a prospective buyer is legally yours to share. Sellers also must know the contractual impact a change in control may have on vendor and customer contracts.
3. Prepare Your People
Due diligence activities may include buyer site visits and staff interviews. Confidentiality is important to protect the interests of the principal parties, but it’s advisable to have structured conversations with your management team to prepare them for potential interviews with buyer representatives.
If you have special agreements in place with key personnel that could impact the company after a sale, it’s important to have clarity on all the relevant terms and conditions. Depending on the concentration of ownership in your business and what equity positions employees may hold, there may be regulatory constraints governing what can be disclosed and when.
Finally, people talk. Owners and key personnel may need to know what’s happening from day one, but the need to know will diminish further down the hierarchy chart. If word of an eminent sale gets out prematurely, competitors could try to poach key employees that may be part of the buyer’s attraction to your company. Not to mention key employees may feel uneasy and less secure about an ownership change.
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Our transaction services team provides trustworthy guidance to business owners who may be selling all or part of their holdings. We offer deep expertise to closely held businesses. We also consult on succession planning and tax strategy. If you have a deal in the works, or if you want to prepare for one in the future, we would be delighted to have a conversation with you about your individual situation. Contact us today to learn more.
