The Art Of Due Diligence

It’s surprising that we spend more time on researching the best cars and gadgets than we do when buying companies. And yet cars and gadgets are depreciating assets that generate no cash flow (ok, maybe not the case if you’re chauffeuring a uber).

Before private equity investors plunk down millions of dollars buying a company – there’s a whole lot of work that goes on behind-the-scenes. You’ve probably heard of the term “Due-Diligence” – it’s that long drawn out process to check if your ducks are in order and to confirm that what you say, is how things really are.

The due diligence process involves technical, financial, tax and legal. Specialized firms require a greater deal of technical due diligence, to make sure the technology in place is going to carry the company forward. You’ll come across consultants and subject matter specialists who lend their expertise to evaluating the company.

The next is the financial due diligence – mostly carried out by audit firms or corporate finance advisory firms that are specialized in going through the financial statements, financial models, operating models and projections (that ultimately feed into the valuation) to ensure they all stack up. As an investor, you’ll also spent a good amount of time during this phase to ensure you’re paying the right price. Sometimes, after due diligence, things could turn out to be different from what was perceived and so everyone is brought back to the negotiation table to discuss the valuation and percentage stakes on offer.

Then there’s the legal firms who come in to investigate the company’s structure, ownership and holding are all in tact. You’ll be working with the legal firm to draft all the agreements – so everyone can sign on them and be take photos at a ceremony!

And if you’re not immune to taxation – then you’ll need a tax advisor (usually one of the tax & consulting firms) to tell you where you could possibly be taxed based on your investing and holding structure. (A structure is term used to mean the ownership chart… who owns what where.)

But there is another element, that cannot be evaluated so easily – which is why it’s just as important and that’s doing reference / background checks – this would require getting in touch with industry contacts, suppliers, customers & clients, other company CEOs, and advisers to the company.

It’s almost like a private investigation on the owners and senior management of the firm. If you’re acquiring a company – chemistry is bound to play an important part – especially if the owner and management are retained and going to grow the business. I call this the social proof aspect, the testimonials… what others have to say.

Some investors may even do mystery shopping and act like a customer to see how the company is really dealing with its prospects and clients.

By now, you’ve probably realized there’s a lot that goes into the process before you read the announcement in the newspaper – the mega event, where a company raises X million dollars or has been acquired for Y million.

You can reduce the time in due diligence, by getting your house in order – having all the information readily available in the virtual data room, packaged and ready for any potential investor.

In fact this may impress the investor so much, to see the speed of your response because you’ve organized things so well – that the chances of your getting funded goes up. It will cut the chase, and help you get to the negotiation table faster. Why waste time going back and forth sending documents – being asked and then responding – when you close the deal sooner.

I’ll be honest, investors and investment bankers like to receive a package – with all the goods well organized and neatly laid out (who wouldn’t?). This is what we currently do at Eqoris Advisors – help business owners prepare themselves and their companies to be sold or invested in. We even go a step further, by using a proprietary framework to ‘position’ your company in the best way. Remember, as a business owner – it’s your imperative to focus on selling the business and bringing cash in.

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