Due Diligence: One of the Most Important Steps When Buying a Business
Conducting thorough due diligence on a company you are purchasing in an asset purchase or stock purchase agreement is one of the most important steps, don't skip it!
Are you considering buying an existing business? The most common ways to do this are via an asset purchase agreement or via a stock purchase agreement. Under an asset purchase, you specify which assets of the business you want to buy, whereas under a stock purchase, you purchase the entire business.
Either way, though, the single most important step in purchasing a business is conducting due diligence on the company – you need to know exactly what you are buying.
Due diligence typically commences as soon as a Letter of Intent is signed. This is the point at which a buyer gets an in-depth understanding of the seller and the seller’s business. The buyer of the business will request financial information from the seller. Due diligence is also the opportunity for the buyer to understand the tangible make-up of the business, as well as the corporate culture and dynamic.
Some of the most important aspects of due diligence include the following:
Financials – What are the sources of financial benefits to the buyer, as well as potential obstacles.
Contracts – Define potential contractual liabilities derived from the seller’s contractually bound obligations.
Customers – Determine potential conflicts with current customers or potential inconsistencies within customer relationships.
Competitors – Understand who the current competitors are and what additional the nature of the competition will be for the purchased business.
Employees – Analyze the positions of each employee within the company in general, and the employment of each employee specifically.
As you can see, due diligence really involves taking a holistic look at every aspect of the business to determine both what its advantages and challenges will be.
Due diligence is both structured and creative. On the one hand, you will need to do a quantitative review of things like tax returns and contracts. On the other hand, though, the due diligence process gives you the opportunity to take a qualitative look at the business – taking into consideration all the different aspects of the business, is this a company you really want to purchase? And, is the purchase price you originally discussed a price that still makes sense given everything you learn through due diligence?
Our firm has standard areas of due diligence that we look into, though each case is different and may require other areas of inspection. In general, our due diligence involves the following general headings:
General corporate documents – Incorporation documents, bylaws or operating agreements, and equity agreements.
Financial and tax – Tax returns, financial statements, profit-and-loss statements, accounts receivable.
Real property – Review of deeds, mortgages, and other documents related to real estate owned by the business.
Intellectual property – Review of the trademarks, copyrights, patents, or other trade secrets that the company owns.
General contracts – Review of other contracts the company has with clients, vendors, and other third parties.
Litigation – Review of lawsuits and other legal claims that are ongoing or that occurred in the past.
Personnel/employment – Who are the key personnel, what are the terms of their employment, and what is the best way to ensure that no interruptions occur because of the business sale.
If there is a problem with the business sale, then it will be discovered during the due diligence stage. This is why it is extremely important that due diligence be conducted in a manner that is thorough, complete, and organized.
Both the seller and the buyer of a business are often eager to move to closing as soon as possible; however, without conducting due diligence as described in this article, a buyer could find hidden surprises after the closing that would have affected the transaction. Due diligence is the most detailed, and most important, part of any business sale.
Dye Culik PC is a Charlotte, North Carolina business law firm that handles business purchases and sales, asset purchases, and all manners of other business law and litigation. If you are buying or selling a business, contact us or give us a call at 980-999-3557. Follow us on Instagram for the latest updates on CLT/NC businesses and franchises.