Getting through the due diligence phase for a seller requires meticulous preparation and responsive communication, especially for highly complex transactions that involve buyer assumed company debt. In the overall deal lifecycle, the due diligence phase usually begins after a formal offer has been submitted and agreed upon by both sides. However, our middle market M&A advisors always aim to complete as much preliminary due diligence as possible before the offer actually gets signed to help minimize the risk on both the buy-side and sell-side of the transaction. The goal with this strategy is to avoid any surprises that might impact how the buyer values the business as this could lead to a lot of wasted time on both sides for something that could have been avoided by being upfront with relevant disclosures before the offer get signed. For example, if 70% of revenues are coming from 1 single customer, that represents a huge customer concentration risk and that could materially impact how the buyer structures their offer. If that customer leaves, revenues would likely fall by 70%, which means a big part of this company’s value is based on the probability of that customer relationship continuing at the same level for the long-term. While this likely wouldn’t be obvious to a buyer by simply looking at the revenue line item on the P&L statement, an experienced mergers and acquisitions firm would know that it’s important to disclose that customer concentration risk before an offer gets signed to ensure the buyer has all the of the facts that are going to materially impact how they calculate their valuation. While there always has to be a delicate balance between disclosing material facts and safeguarding sensitive information before an offer is signed, it’s always best to be upfront to avoid wasting time and financial resources on accountants, lawyers, etc. on both sides of the deal.
After an offer has been signed and the due diligence phase is ready to begin, our middle market M&A advisors always advise sellers to put yourself in the buyer’s shoes. What would you want to see in terms of a due diligence package if you were buying the business? Additionally, it’s not just enough to provide the company tax returns, company bank statements, supplier invoices, etc. Sellers need to also prepare a guide that helps the buyer understand the documentation provided and most importantly, helps the buyer reconcile with the P&L statements with the company bank statements and other source documentation. This not only makes it easier for the buyer to understand the numbers, but it also saves valuable time that can help accelerate the overall closing timeframe. Most buyers also expect to conduct an onsite visit as a part of their due diligence investigation, which typically includes getting an in-depth look at daily operations, speaking with key employees and spot checking the source documentation records. At Smith Holland, we specialize in sell-side advisory services and we help sellers mitigate risks when possible by structuring the due diligence phase into a specific order. As the primary focus of any due diligence phase should be on the financials, we always recommend that the buyer conducts the bulk of their financial due diligence before an onsite visit is scheduled. It makes zero sense for the seller to spend a full day with the buyer to show him daily operations firsthand, review trade secrets and more if the buyer has an issue with the P&L statements or EBITDA calculation. Most buyers agree that it’s always best to confirm their satisfaction with the financial portion of the due diligence as this also limits their risk in terms of travel and lodging expenses to complete the onsite visit.
The due diligence phase is usually 4 weeks with the timer starting when the LOI gets signed. However, there will always be transactions that involve accelerated due diligence periods and deals that require extended due diligence periods that exceed 6 weeks. The length of the due diligence period ultimately depends on the needs and goals of the buyer and seller, but most of the transactions that our M&A firm advise on include 30 days for the due diligence period. As the buyer gets closer to the end of the due diligence period, our middle market M&A advisors always recommend starting the process of drafting the final purchase agreement contracts, with the goal of having the final purchase agreement contract ready for execution by the end of the due diligence period expiration.
Successfully managing a due diligence phase is a complex process and it’s important to work with an experienced M&A firm that can help you mitigate the risks for your side of the transaction. There’s a lot that can go wrong during the due diligence phase and with the process usually spread out over 4 weeks, there is always the risk of waste time and financial resources on both sides of the deal. This becomes even more challenging when each side has their own attorneys, accountants and advisors that are actively participating in the due diligence investigation, but the team at Smith Holland has the cross-border expertise needed to effectively manage due diligence investigations whilst bringing both sides together to successfully close the deal. While our primarily role is to advise the seller, helping the seller mitigate risks starts with choosing the right buyer to work with and we never forget that “it takes two to tango” when it comes to closing a deal. We always work with our buyers to make sure they get what they want out of the deal, as long as everything is within reason and in accordance with the seller’s expectations for deal structure.
At Smith Holland Advisors, our primary goal is to ensure both the seller and the buyer always walk away from the transaction happy and satisfied with the end result.
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