N3 Business Advisors
What is Due Diligence in a Business Merger & Acquisition?
Updated: Mar 4
Mergers and acquisitions are not agreements that companies and businesses take lightly when buying or selling a construction company. Buying a construction business can be tricky and time consuming. Before any kind of merger or acquisition can be finalized, there are a lot of questions to be asked and a lot of due diligence needed. A buyer needs to first gather all of the information about the business they plan on acquiring, as well as information regarding the market and other aspects that may have an impact on the acquisition.
What exactly is this due diligence that we mention? Why is it important for buyers and sellers? What does it cost? And what kind of questions are asked during a business acquisition due diligence? Read ahead to find out the answers to these questions and get a better idea of the importance of the process when it comes to business acquisitions.
What is Due Diligence?
Due diligence begins with a letter of intent – an LOI. It is basically a kind of investigation or an audit of the company that is being acquired. The investigation uncovers all the facts about the company that might influence the buyer’s decision on whether or not they want to move forward with the acquisition. During the process of due diligence, there is usually a team that conducts in-depth research regarding various aspects of the company. No agreement or financial transactions regarding the acquisition are made until the due diligence process has been completed.
Overall, the due diligence process can be quite long. Depending on the company, it could take anywhere between a few weeks to many months. The process begins with getting together a team to conduct the due diligence. This can be done internally, or an external team with expertise in the process can be hired. The team is made up of financial and legal experts, including lawyers, accountants, and consultants.
The due diligence team begins by gathering all the necessary documents about the company being acquired and by scheduling meetings between the buyers and sellers to discuss the acquisition. The buying company then reviews all of the documentation in order to address any concerns they might have before the sale. If any problems are found, the due diligence team determines whether the problems are big enough to warrant calling off the acquisition or if the buyer should go forward with it. The buyer can also ask for the acquisition deal to be adjusted based on whatever information the due diligence process unveils.
The Importance of Due Diligence for Buyers and Sellers
Due diligence is very important in mergers and acquisitions and allows all parties involved to make informed decisions. For a buyer, due diligence gives you the satisfaction that all the bases have been covered and you know exactly what to expect when buying a company. Without the due diligence process, a buyer would be at higher risk when going through with an acquisition or merger.
It is also notable to mention that due diligence is equally important from the seller's perspective. While the main purpose of the process is so that the buyer can trust the company they are attempting to buy, the seller can also benefit from the process. The financial examination the selling company goes through can help the seller determine a fair market value to sell the company at. This value might end up being significantly higher than what they had previously understood. Before any sale, most sellers will undergo their own due diligence process.
What Does Due Diligence Cost?
It would be difficult to put a specific amount down when it comes to the cost of the due diligence process. Various things need to be taken into account, such as the kind of professionals hired as a part of the team, the size of the team, the size of the company being bought or sold, how long the entire process takes, and so on. However, any cost incurred for the due diligence process is more than worth it when you take into account the risk that can be avoided if a company fails to do its due diligence before an acquisition and ends up buying a failing company.
As for who has to pay for the cost of due diligence, this can change from case to case. Usually, the buyers and sellers will negotiate and determine who bares the expense between themselves. Both the buyers and the sellers would have to pay their own teams for their expertise.
Due Diligence Beyond Only Financial Aspects of an Acquisition
For those not familiar with the entire due diligence process, it can be easy to assume that due diligence only means reviewing and investigating a company’s financials. In truth, the due diligence process goes much further than just the financial aspects of the company a buyer is hoping to acquire.
The financial due diligence involves investigations into a company's revenue, profits, growth, debts, and balance sheets. Further than that, due diligence also covers aspects such as legal, administrative, operational, tax, environmental strategic, and other aspects of a company. There are various questions asked when carrying out due diligence for all of these separate aspects. The next section will discuss those in a bit more detail.
Questions Asked in A Business Acquisition Due Diligence
The list of possible questions and things to address during the due diligence process can be endless. From information regarding the company’s finances to their customer base, the buyer needs to have all of the information possible in order to make an informed decision and minimize their risk. Let’s take a look at some of the basic or usual questions that might be asked during due diligence in a business acquisition.
What is the main reason the company is being sold?
Is this the first time the company has attempted to be sold, or have there been previous efforts?
What are the long-term goals that the seller hopes the achieve after the sale?
What is the company’s business plan?
Has the company been involved in any mergers or acquisitions previously? If so, how recently, and what were the main reasons involved?
Are all financial documents submitted by the selling company audited?
Are the margins for the company’s finances increasing or decreasing?
Do future projections seem reasonable?
How much working capital does the company require for day-to-day running?
How much debt is outstanding? And what are the repayment terms?
Technological Aspects and Patents
Does the company own any trademarked or patented information or technology?
How are these trademarks and patents protected?
Will they carry forward to the buying company?
Are the two companies going to fit together strategically?
What are the company’s long-term and short-term strategic goals?
What synergies will the buying company obtain?
Does the selling company offer any services or products that the buying company does not already have and can benefit from?
Existing Customer Base
Does the selling company have an existing customer base?
Who are the company's top and loyal customers?
Are there any apparent consumer risks to consider? If yes, what are they?
What is the company’s customer backlog?
Corporate Structure, Management, and Workforce
What is the company’s current corporate structure?
What benefits are offered to employees?
What compensation is offered to employees of different standings?
Background information on the company's management staff, including the CEO and CFO
A full overview of the employee manual and any other policies relating to employees
Are there any claims against the company? If yes, what are they?
Are there any outstanding or pending legal matters to be attended to?
What are the previously settled legal matters, and what were the terms of those settlements?
Is the company involved in any legal proceedings with the government?
Information Technology Aspects
Questions regarding the kind of technology set in place and being used by the company
What kind of software packages have been bought and used?
What are the general IT maintenance rules and costs?
Is there an IT recovery plan set in place?
A list of officers and directors
A list of security and shareholders
Who are the company’s subsidiaries?
Have securities and stocks been issued correctly and with valid legal protections?
What are the environmental impacts of the company?
Does the company have legal and valid permits?
Are there any environmental claims against the company?
Does the company use any hazardous materials in its products or when carrying out its services?
Who are the company’s biggest subcontractors?
Who are the company’s biggest raw material suppliers?
How much does the company produce yearly? What is its full production capability?
Do the selling company’s marketing strategies align with the buying company’s strategies?
What strategies are currently set in place?
Does the company have agreements with sales representatives or other marketing agencies?
The Bottom Line
While there is still a lot more to learn when it comes to due diligence in a business acquisition, it is vital not to underestimate the importance of the process. Due diligence offers a company various advantages and allows them to make a fully informed choice before making any financial transactions or legal settlements.
Additionally, when a buyer has all of the information about the company they are acquiring, this protects the buyer from any potential risks or unexpected problems with the acquired company. It is much better to go through the sometimes lengthy process of due diligence rather than rush through the acquisition only to fall into legal or financial troubles further down the line.
And finally, it should be mentioned that the due diligence process is actually a great way to foster a healthy, honest and open relationship between the two companies taking part in the acquisition. If there was previously no channel of open communication, due diligence could create such a channel for both the buyers and sellers to air out any concerns or questions.
Mergers and acquisitions can be lengthy and complicated processes, whereby due diligence can help expedite the process and also keep all parties fully informed of everything that might be important to know. It can help both the buyers and sellers feel more confident and comfortable with the deal and ensure the acquisition or merger goes through smoothly and without any unnecessary or unexpected setbacks.
N3 Business Advisors - Construction Industry M&A Advisory Firm
If you are the owner of a business and are interested in expanding through mergers or acquisitions, you may benefit from the services offered by N3 Business Advisors. We are a merger and acquisitions advisory firm located in Ontario, Canada. We work primarily with businesses in the construction industry, such as HVAC companies, general contractors, landscaping companies, civil engineering firms, and more.
Here at N3 Business Advisors, we have an experienced and successful team that offers a number of services, such as business sales, business acquisition searches, business valuations, management buy-out, and more. We also offer due diligence support. With extensive knowledge and experience on the matter, we can add value to any team that is conducting due diligence. We can manage the process entirely on your behalf or just coordinate the exchange of information between you and the selling company.
You can get in touch with N3 Business Advisors now to schedule a confidential consultation. Visit our website for more information, or call us at 647 967 4222. Our office is located at 55 Village Centre Place, Suite 200, Mississauga, ON L4Z 1V9. You’re just one step away from getting together an experienced and trustworthy team for your due diligence process.