What Does a Due Diligence Look Like

The value almost never increases during due diligence and it is typically the inadequate preparation for due diligence by the seller that causes this. The typical seller, and even the most broker, dreads the due diligence phase.  You are not going to successfully sell the business without enduring due diligence, so you might as well embrace it.  You’ve received an offer and a successful closing is just around the corner if you have adequately prepared and handle due diligence appropriately.

Historically, many transactions fall apart during due diligence because negative surprises arise. Trust Issues from Inadequate Disclosures before Due Diligence, the key to surviving the process is to eliminate foreseeable setbacks by disclosing any negative issues early, before due diligence ever begins.  Disclosure allows you to present not only the problems faced by the business but also possible solutions and opportunities for improvement.  Buyers will appreciate your candor and you will begin to earn their trust.

You should start preparing for due diligence when you begin considering a decision to sell.  Identify and resolve as many obstacles and issues as you can before putting your business up for sale.  For those that you cannot resolve prior to selling the business, disclose the issues and position them in the most favorable way.  To avoid surprises (deal killers), you should also disclose problems that you are unable to adequately position as opportunities.

If you hope to survive Due Diligence and close the deal here are the top 9 items to prepare for the due diligence process:

1)    Identify any obstacles to a successful sale before you put the business on the market.

2)    Address and resolve as many of the identified obstacles as you can before selling your business.

3)    Disclose unresolved issues up front, presenting them in the best possible light along with possible solutions and opportunities for improvement.

4)    Avoid due diligence surprises by disclosing all known issues, regardless of your ability to position them as opportunities.

5)    Develop a trustworthy relationship with the buyer to enable you to resolve unknown negative surprises that might arise.

6)    Prepare for due diligence by reviewing a standard due diligence list with your intermediary and advisors.

7)    Surprise the buyer by voluntarily preparing a due diligence package addressing most of, or even more than, what you anticipate the buyer will request.

8)    Be sure you and your advisors respond to due diligence requests on a timely basis.

9)    Have a positive mental attitude: you are just weeks away from a huge payday!

Even if successfully sold, when negative surprises arise in due diligence, it is emotionally painful for the seller and the buyer.  Even more painful are negative surprises that raise their ugly heads and kill the deal – wasting everyone’s investment of time and monies.  It doesn’t have to be that way.  With proper preparation, negative surprises during due diligence can be eliminated or minimized and business sales can be relatively painless.

“You win not by chance, but by preparation.”   Roger Maris

Here is a sample list of Due Diligence –

  1. A Certificate of Good Standing from the Secretary of State of the state where the Company is incorporated.
  2. A list of all of the Company’s assumed names and copies of registrations thereof.
  3. A schedule of all indebtedness and contingent liabilities.
  4. A schedule of inventory.
  5. A schedule of accounts receivable.
  6. A schedule of accounts payable.
  7. A report from Franchisor showing revenues recorded and franchisee percentage paid.
  8. A schedule of fixed assets and the locations thereof.
  9. All U.C.C. filings.
  10. All leases of equipment.
  11. A schedule of sales purchases of major capital equipment during last three years.
  12. Copies of all real estate leases, deeds, mortgages, title policies, surveys, zoning approvals, variances or use permits.
  13. Any “work for hire” or employee agreements.
  14. A list of employees including positions, current salaries, salaries and bonuses paid during last three years, and years of service.
  15. All employment, consulting, nondisclosure, nonsolicitation or noncompetition agreements between the Company and any of its employees.
  16. Resumés of key employees (if any).
  17. The Company’s personnel handbook and a schedule of all employee benefits and holiday, vacation, and sick leave policies.
  18. A description of all employee problems within the last three years, including alleged wrongful termination, harassment, and discrimination.
  19. A description of any labor disputes, requests for arbitration, or grievance procedures currently pending or settled within the last three years.
  20. A list and description of benefits of all employee health and welfare insurance policies or self-funded arrangements.
  21. A description of worker’s compensation claim history.
  22. A description of unemployment insurance claims history.
  23. Copies of any governmental licenses, permits or consents.
  24. Any correspondence or documents relating to any proceedings of any regulatory agency.
  25. Environmental audits, if any, for each property leased by the Company.
  26. Federal, state, local, and foreign income tax returns for the last three years.
  27. States sales tax returns for the last three years.
  28. Any audit and revenue agency reports.
  29. Any tax settlement documents for the last three years.
  30. Employment tax filings for three years.
  31. Excise tax filings for three years.
  32. Any tax liens.
  33. A schedule of all subsidiary, partnership, or joint venture relationships and obligations, with copies of all related agreements.
  34. All loan agreements, bank financing arrangements, line of credit, or promissory notes to which the Company is a party.
  35. All security agreements, mortgages, indentures, collateral pledges, and similar agreements.
  36. All guarantees to which the Company is a party.
  37. Any installment sale agreements.
  38. Any distribution agreements, sales representative agreements, marketing agreements, and supply agreements.
  39. All other material contracts.
  40. Any supply or service agreements.
  41. The Company’s current advertising programs, marketing plans and budgets, and printed marketing materials.
  42. A schedule of all pending litigation.
  43. A description of any threatened litigation.
  44. Copies of insurance policies possibly providing coverage as to pending or threatened litigation.
  45. Documents relating to any injunctions, consent decrees, or settlements to which the Company is a party.
  46. A list of unsatisfied judgments.
  47. A schedule and copies of the Company’s general liability, personal and real property, product liability, errors and omissions, key-man, directors and officers, worker’s compensation, and other insurance.
  48. A schedule of the Company’s insurance claims history for past three years.
  49. Bank statements for the last three years
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