In the context of running, buying or selling a business, DD is extremely important. But what is it and why?
DD means different things to different people but essentially it is a process of discovering and evaluating the status of a business in terms of its liabilities; performance; financial position; value; culture; management expertise; tech; and potential. It can also extend beyond the physical structure and operations to include people, especially senior management and leaders, their capability and experience. This isn’t an exhaustive list but it highlights some of the core areas that most people focus on.
There are numerous people involved in the process from specialist consultants, lawyers, accountants and financial experts, all of whom will handle specific areas under the DD umbrella. It can take a matter of weeks or several months to complete, depending on the size of the business. Physically obtaining information and intel can be done in person through interview and observation, analysis and data verification. Information exchanged is often delivered electronically through common channels or data or deal centres. Specialist tech now plays a big part and can include, where relevant, the use of referencing and digital-footprint analysts, even satellite imaging.
The timescales involved also depend on the size and scale of the business being looked at, but also the motivations of the business, as well as their ability to provide the information requested. From our experience many SMEs simply do not have adequate systems in place to enable them to place their hands on relevant information quickly. It is also sometimes the case that some business owners or leaders may not want to disclose certain information and therefore being thorough and persistent is critical.
Why do companies do it?
In the case of buying a business – it is pretty obvious why you’d engage in a thorough DD process. You or the backers will want to know exactly what is being bought and to understand the future potential of the business. It is not always the case that a poorly run business is worth less that a well-run one, conversely the opposite may be true. As ever, the difference lies in the detail. Is a company under performing due to poor management and strategy (and therefore rectification of such presents a good opportunity)? Or is performance being hampered by a change in market or consumer trends which mean it’s on an inevitable decline? In the case of Private Equity buyouts, turmoil and chaos can represent a golden opportunity, but getting the critical detail is essential to differentiate a good deal from a dud.
Selling a business – it might seem a little unusual to some to consider getting a DD process or audit underway prior to selling, but to many it’s a necessary first step. Running a business with a multitude of teams or service areas means it can be difficult to determine if everything is being done as it should. The standard queries raised by any purchaser or investor will highlight these weak areas and can jeopardise a deal or price being obtained. Pre-empting these queries and taking an objective look at the business prior to seeking funding or a buyer can mitigate the risk whilst also affording you the opportunity to take remedial measures.
Running a business – getting an objective look at business and people performance in normal day to day operations is becoming more and more common. It is very easy to miss or be unaware of the risks and areas of your business that should or could be performing better. It is essentially what a management consultant would do, albeit normally with a pre-defined challenge or particular problem in mind. We’ve been providing management audits, or management observational reports, for nearly 10years now, and we generally discover a number of different things (non-compliance, leadership and people problems, failure of statutory obligations, financial anomalies etc) which the client was completely unaware of. You cannot fix what you do not know exists – having clarity and information is key to good performance or prior to change initiatives being started. Finding these problems can prevent future action or litigation.
Knowledge is power and a comprehensive DD process will reveal far more than a few credit checks or financial reviews (although they certainly have their place). Technology can only go so far so getting under the skin of an organisation, free of pre-conceived ideas or influenced by culture or ideas, is very important. Being dogged and determined to get to the truth will give a real insight to help you make decisions and avoid problems.
If you’re want to know more about due diligence or wish to discuss how it can help you, your investors, or business, get in touch.
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