Anyone who is contemplating selling their business should start the planning process early in order to maximize the value that a third party will pay. Part of that planning should include readying their business for the purchaser’s “due diligence” review. This due diligence usually takes place after signing of a letter of intent or purchase agreement, but before the purchaser becomes legally obligated to complete the transaction. Preparing for the due diligence review will ensure that prospective purchasers aren’t scared away by any unexpected issues.
As part of this process, a prospective purchaser may want to review some or all of the following:
1. Corporate records, including articles, bylaws and minutes;
2. Documents evidencing securities issuances;
3. Material contracts and client lists;
4. Outstanding or potential litigation;
5. Employment agreements;
6. Financial records and tax filings;
7. Real property rights;
8. Intellectual property rights; and
9. Insurance.
Material contracts include agreements with any major customers and suppliers, any significant debts or financial obligations, or any other agreement that could have a material impact on a business. If a seller has standing (unwritten) arrangements, it’s advisable to document them via written agreements prior to the due diligence review. If a prospective purchaser intends to employ their current employees, they will want to ensure that there are employment agreements in place. They may also want to ensure that the company’s employees have entered into confidentiality and protection of corporate interest agreements.
If a company owns real property, the purchaser will want to ensure that there are no financial encumbrances on title or other unexpected liens or charges. Further, if a company’s business involves intellectual property rights, such as copyright, trademarks and patents, the purchaser will want to ensure that the seller has taken appropriate steps to protect such rights.
A prospective purchaser will also want to ensure that the business is adequately insured. Accordingly, sellers should ensure that they have adequate insurance to cover their assets and comprehensive liability insurance appropriate for their industry.
Finally, sellers should be prepared to be up front with prospective purchasers and disclose any potential issues early in the process. Purchasers tend to be more concerned about surprises than they are about issues which have been disclosed.
Failure to properly plan and prepare for the purchaser’s due diligence review can significantly complicate the sales process and result in collapsed deals. By involving their various business advisors (ie. lawyer, accountant, broker) early in the process, sellers can often ensure that their records and related business documents are in order, and that they will withstand the purchaser’s scrutiny of same!
