A brief introduction to due diligence and how it works on Acquire.com
Last updated: September 6th, 2023
In acquisitions, due diligence is the process where a buyer checks your business over for any hidden problems or unknown risks.
While it might sound scary, due diligence is just a form of risk management. It starts the moment a buyer views your startup and ends when you're ready to legally close.
Expect more due diligence as your acquisition with a particular buyer moves forwards. They'll ask more questions about your business and want evidence for your answers.
Your acquisition can't close until due diligence ends. The meaty part of due diligence happens after you've signed a letter of intent (offer). Pass that, and then you'll both sign an asset purchase agreement, obliging you to close on the price and terms agreed.
How does due diligence work?
Due diligence is essentially a question and answer session.
A buyer might send you a list of questions and then expect you to provide evidence for your answers, which is why building your data room early is so important.
Due diligence includes a thorough investigation of:
- People (HR)
- Intellectual property (IP)
- Regulatory risk
- Legal risk
- Strategic risk
- And more
Some buyers might hire a due diligence firm to act on their behalf. They might request a quality of earnings (QoE) report. It all depends on the size of the acquisition, the buyer's opinion of you and your business, and the buyer's tolerance for risk.
The aim of due diligence isn't to catch you out. It's to reveal risks even you might not be aware of about your business. If the buyer doesn't find anything, and you can confidently answer their questions and provide the required evidence, you'll move to closing.
However, if the buyer finds something they don't like, they can:
- withdraw from the acquisition
- negotiate a lower purchase price
- add post-closing conditions (like holdbacks and earnouts)
To understand the kind of risks buyers need to manage, check out this guide to managing acquisition risk. It's written for buyers, but gives you a glimpse into their mindset when considering whether or not to buy a business.
How to pass due diligence
The easiest way to pass due diligence is to prepare for questions and answer honestly.
If you know there's an issue with your business, don't try to hide or gloss over it. The buyer will weed out problems big and small during due diligence. And they expect transparency.
Start with building a data room to house all the information a buyer might want to see.
Include things like:
- Profit and loss statement
- Balance sheet
- Equity cap table
- Your attorney's digital minute book
- Company incorporation documents
- HR records (staff CVs and so on)
- A list of assets, registrations, and licenses
- Customer and vendor lists
- IP and patents
- And so on
The above list is just a snapshot of what you might need to share during due diligence, so add everything connected to your business to save time hunting for files later.
The buyer is likely to find one or more problems during due diligence. This is pretty normal, so don't be too worried. Minor things can be resolved with a conversation. If it's something bigger but the buyer is still interested, be glad they discovered it now and not after closing.
In the rare cases where a buyer wants to pull out of the acquisition during due diligence, respect their decision and walk away. Be thankful they raised the issue because now you can resolve it and sell later knowing your business is sound.
Where to get due diligence help
It's certainly possible to pass due diligence on your own. It depends on the size and complexity of your business – and whether you have the time to prepare everything. Your executive team or senior staff can also help you collect evidence for buyers.
But, if you need a little extra help, we've got your back. Our customer success managers can help you prepare for and answer buyer questions. Bigger acquisitions could also benefit from expert guidance from in-house M&A advisors.
So, how do you get this help and how much does it cost?
It doesn't cost a cent. It's all part of your closing fee package. Don't be afraid to lean on us during due diligence and we'll do everything we can to help you.
Get in touch following these instructions and we'll connect you with the best person for the job, be that an M&A advisor, customer success manager, or other acquisition expert.
For an in-depth look at passing due diligence, please read the full guide.