Most entrepreneurs do not consider due diligence as an important factor while buying a business and eventually and invariably end up with unwanted and sometimes nasty surprises. Ideally there are a lot of twists and turns involved in buying any business irrespective of its size and nature. It is for this reason most prudent entrepreneurs believe that there is no other part of the buying process that is as significant as completing Due Diligence for sale of business .
Even if the buying or selling process seems to be going well, you will never be sure of the existence of any critical issue in the business that can be revealed only through due diligence process.
A brief overview
When you buy a business how will you know whether or not the business has collected the sales tax from the buyers successfully prior to the sale? If you do not complete a Financial and legal due diligence then such exceptions will become your liability and depending on the size and nature of the company you want to buy it can add up to millions of dollars in the form of uncollected sales tax. To prevent paying such a huge amount from your pocket you must insist on a due diligence to know the tracks, performance and records of the business you wish to buy. If you are still wondering what it is and why you need it then here are a few clues:
- Due diligence is the process of evaluating any business from all aspects before you make a purchase
- It is usually performed while buying a business but there may be different other situations where you may need due diligence as well
- It plays a significant role in private equity funding through the venture capitalists
- It is also a part of the purchase of any real estate especially to check the legal history of any property you wish to buy and
- It is much more than a general investigation and includes specific items related to the nature and situation of the business.
In short due diligence conducted by the top due diligence firms in India will protect you as the buyer and safeguard your interest primarily though it is helpful for the seller as well in several different ways. Ideally, due diligence reveals potential liabilities to the buyers as well as makes sure that there is nothing hidden or surprising regarding the financial matters of the company in sale.
The process involved
Whether it is Due Diligence for investors or for the buyer, the process followed may look simple but is very important. It requires the involvement of the principal, buyer or the investor and their attorney and accountant.
- Due diligence is performed usually after the presentation of the signed intent-to-purchase documents and prior to the formal purchase agreement is made.
- During the diligence process all business records, documents, financial statements and agreements are examined to look for liability of the company. These documents also include sales and purchase agreements as well as any liens on assets, any potential or ongoing lawsuits, recent litigation concluded and lots more.
- The process also involves talking to the managers, employees and executives and checking sales records against customer that are listed just to make sure that these customers really exists and is not a fake claim made by the business.
- Looking at the future provisions and potential expansion of the business is also a part of due diligence and so is checking the condition of the property and its facilities such as equipment, fixtures, and furniture and include in the report.
- Taking note of the discrepancies that may exist in the report and the actual practice and function of the business is the most significant aspect of the process of Due Diligence for sale of business. A lot of questions may be asked if any discrepancies are found till the time you get satisfactory answers.
In short, the due diligence process proves the negatives of the business as well as brings forth the positives of it. This eventually helps you to make an informed and educated decision.
The elements included
The elements and subjects included in the due diligence process can change according to the situation but there are a few common elements and subjects involved in it such as:
- General info of the company – This will include the history of the company, mission statement, original and future business plans, objectives, and short-term and long-term goals.
- Information on company management and employees – This includes the person in charge of the company, their credentials, experience, honest and trustworthiness, the organization chart, resumes of board members as well as executives, copies of employment contracts, details of company advisors for legal, insurance, financial, and other matters.
- Background checks – This is done on the on the board members and on all top executives. It also includes checking the employee handbook apart from the documents related to employee benefits and pay, employment tax reports including Forms 940, 941, and others for both state and federal taxing authorities, and the classification of the status of independent contractors as well.
Apart from that a comprehensive due diligence report will also include legal matters, worker safety law, catalog and listing of products and services, company patents, pricing policies followed, copyrights, trademarks, licenses, agreements with licensees as well as SWOT analysis and marketing and competition information of present and future. All this will eliminate any surprises in the future.
Seema Mehra is a Chartered Accountant at Ashok Maheshwary & Associates, CA firms in india that provides accounting services in india in a convenient manner. She is a professional writer and loves to share Financial related topics.