What Is Due Diligence & Why Is It Important?
When you buy a business its important to conduct a thorough due diligence before purchasing. Here are the key things you need to know about due dligence.
If you’re considering buying a business, you may have heard of the term ‘due diligence’ being mentioned quite often. You may have even heard of it outside of business sales too – because due diligence is a common term for investigating and analysing a business or organisation prior to a transaction being completed.
When purchasing a business, a buyer would be advised to conduct thorough due diligence before the sale takes place. But what does it mean to perform ‘due diligence'?
What is due diligence?
Due diligence is simply the investigation of a potential investment. Typically, it starts after an offer is agreed upon by both buyer and seller. The purpose of due diligence is to confirm the accuracy of the information presented (usually by the seller) and uncover any financial, legal, technical or other issues that may not have been disclosed and could affect the business deal.
As a buyer, when you have a lot more knowledge and information you have on a business, the better position you are in. Finding out as much as you can about the inside workings of a business can determine whether or not the business is worth buying in the first place. Due diligence involves the following:
• Reviewing finances and tax returns
• Inspecting records
• Outstanding issues or complaints
• Working capital assessments
• Staff records
• Building lease
• Industry competition
• And any other legal agreements that are in place
The result of the due diligence will help explain the current situation of the business, identify the risks and structure the acquisition.
Typically, the due diligence period will last for 10-30 days, depending on the buyer and the complexity of the business sale.
Due diligence usually happens prior to entering into a business sale, but is also possible to have due diligence actioned as part of the business sales process. Conducting due diligence before a business sale helps reduce the risk of you having to pay unexpected costs on issues like finances, broken or damaged equipment, expired contracts, or building issues.
However, it is possible to have due diligence in the contract agreement be conducted within a certain period of time after signing. If you are unhappy with anything you uncover about the business during this period, you can terminate the contract and walk away from the sale.
Due diligence types
Most people think due diligence just means reviewing the financial aspects of the business, but it's actually more than that. There are other types of due diligence you should do and consider.
Legal due diligence - covers all the legal aspects of a business transaction, liabilities of the company, potential legal pitfalls, and other related issues.
Financial due diligence - checking the numbers and making sure there are no black holes or hidden financial issues.
Tax due diligence - finding out the business’ tax affairs and ensuring that its tax liabilities are up to date and paid in full.
Operational due diligence - examining all the areas and elements of the business’ operations including technology, assets and facilities.
Commercial due diligence - review of the business's marketing plan, market analysis, growth opportunities, checking competitors and the regulatory environment.
When buying a business, you could undertake the due diligence work by yourself. However, it is a lengthy and taxing process with a lot of information thrown your way. A better way to ensure you’re getting the right business is by having a due diligence team with expertise in the area to support you.
Your due diligence team should include professionals in their respective areas such as an accountant, business lawyer or business broker that will assist in reviewing finances, business records, and liabilities and provide you with professional advice.
Due diligence is an investigation process carried out by those entering into a business sale agreement with another party. A diligence check should investigate many areas of the business including finances and business performance so you can feel confident in buying the business for sale. The goal of the due diligence process is to get the right information about the business that’s reliable and valid.
As a buyer, if you have a good team on your side you can make sure all the right questions are being asked and no stone is left unturned throughout the buying (or selling) process. Kakapo Business has a team of experienced business brokers who have years of experience and knowledge in the business industry. Not only will they guide you through due diligence but they can advise you throughout your business buying journey. Get in touch with our brokers by enquiring now or calling 0800 494 449.