How to Conduct Buy-Side Due Diligence + Template

In transactions where managers say that deals weren’t a success because of ‘cultural issues’, ‘paying too much for the target’ or ‘problems surrounding integration,’ it very often means that they failed to conduct sufficient due diligence.

Everything that you might associate with a successful transaction - including the valuation - is derived from good due diligence.

We at DealRoom help dozens of companies conducting due diligence and in this article we'll share our experience.

What is the difference between buy-side and sell-side due diligence?

Often the buy-side is the side to begin the due diligence process after the LOI is signed. For the buyer, due diligence presents the all too crucial opportunity to gain a true understanding of the target.

For instance, a complete picture of the target’s business (its products and services, its management style, its key players, its suppliers, its customers, its marketing strategies).

Additionally, it is the time for the buyer to gain a full financial picture of the company. This can also help assure the buyer’s offer price is appropriate.

Finally, due diligence serves as a way to identify any red flags and additional risk factors. Knowing the above helps the acquirer position itself for future success and sets the stage to capture synergies post close. 

In order to complete due diligence, the buy-side needs to have, or put together, a due diligence team. This team can be made up of internal individuals as well as external individuals. Legal and financial experts are key. 

For the sell-side, the goal is to leverage due diligence to mitigate risks so these risks do not end up hurting the deal and lowering the price. Specifically, the sell-side should consider the following questions in preparing for diligence:

• Why am I selling?
• What is the current value of the company?
• What are current areas of the business that could pose a risk to a deal?
• Can any of the above areas be easily remedied?
• Who will be part of my team during the life cycle of the deal?
  

In summary, the buy-side is focusing on looking for risks and the sell-side is focusing on removing them. 

Why you need to conduct bell-side due diligence

In conducting buy-side due diligence, you’re reducing the risk of joining the casualties of the M&A process and maximizing the value of the deal. You can reasonably expect due diligence to bring to light some uncomfortable truths about a business.

After all, it would be unusual for a business not to have at least a few. These don’t necessarily have to be deal breakers. But they have to be taken into account.

Below, we’ve put together a checklist of the things that you cannot afford not to include as part of your due diligence process.

Buy-side due diligence process (overview)

Typical ‘how-to’ guides on due diligence will arbitrarily divide the process into four or five of the most important issues - tax, legal, finance and operations.

These are the bare minimum due diligence checks that any company should conduct before making an acquisition. And depending on the size of the firm being acquired, these alone could take a significant amount of time to complete.

But we should stress that they’re the minimum. In a previous article, we provided an exhaustive list of the documents that could be asked for as part of the due diligence process.

Borrowing from that article for a moment, a thorough due diligence process should ask questions under each of the following headlines:

• Legal
• Commercial
• Financial
• Human Resources
• Intellectual Property
• Information Technology
• Environmental, Health and Safety
• Tax
• Marketing
• Compliance and Regulatory Matters

The people directly responsible for each of these areas at your firm should be the first ones to ask the questions in that area.

That is, while your legal team can add a lot of value to the process, it’s more effective to have your HR team ask questions related to human resources.

By the same token, don’t hesitate to bring in new people if they can add value to the process. For example, not many companies have in-house IP experts, so if you’re buying a company with patented technology, it makes sense to temporarily bring in that expertise.

There are a few overarching themes which we believe apply to all everyone involved in buy-side acquisitions:

1. Develop an action plan

The best-laid due diligence plans go to waste but that doesn’t mean you shouldn’t make them.

Analyzing documents will depend on how quickly the target sends them over; deadlines or emergencies within your own business may mean that you can’t conduct certain parts of the due diligence process at the scheduled time.

But having an action plan at least allows you to tick off parts as you go, and to come back to those that demand more attention.

2. Know your red-line issues

There would be no point in undertaking due diligence if you were going to acquire the target firm regardless of what results it threw up.

Due diligence is not research for its own sake. This could come down to a simple lack of integrity: If you feel that you’ve been misled on an issue - even one that wouldn’t necessarily be a deal-breaker on its own - you should strongly consider whether you’d be okay being misled like this again when the company has been acquired.

Other red-line issues could include large contracts expiring faster than you had expected, impending legal cases against the company, or intellectual property which isn’t as waterproof as the owners had you believe.

3. Quantify the qualitative

To paraphrase Robert Norton and David Kaplan, authors of the Balanced Scorecard:

‘Whatever can be measured, should be measured.’

Before you ask for information from the target firm, having a framework that allows you to measure qualitative elements will allow you to see how it stacks up against your own firm and others in the industry.

This could include anything from “how many members of your staff are trained in program X,” (giving you an indication of how many hours you’ll need to spend training them in) or what score they’ve got from ex-employees on Glassdoor.com (giving an indication of the culture that exists within the firm).

And finally, remember, in every due diligence process…

4. Efficiency rules

Due diligence costs your business time and money. In many cases, it’s also a nuisance for the company being acquired. Ironically, management of the businesses which have no skeletons in the closet can often be the most impatient.

Set two time limits for due diligence: the first - the date at which you tell the target that you aim to finish due diligence.

The second - a shorter time frame (perhaps two to three weeks less) in which you aim to finish. Not only does this make you work more efficiently - it also exceeds the expectations which were  set for the target firm.

Buy-side due diligence checklist or questions that should be asked

Access our pre-made, buy-side due diligence checklist here:

How DealRoom helps to conduct buy-side diligence process

Technology has revolutionized aspects of the M&A process, most notably due diligence. The right software can improve the due diligence process.

Here are a few key ways software designed for M&A can help teams effectively conduct diligence:

Eliminate work - Software that eliminates duplicate requests is one of the easiest ways to reduce redundant work and wasted time. Furthermore, the ability to do things such as upload documents in bulk, produce PDFs and Excel reports with the click of a button, assign tasks with a click of a button, and live link documents also helps eliminate work and save time. 

Break teams out of silos/improve communication - Software can also increase transparency, therefore, breaking teams out of silos and improving communication throughout the diligence process. With a centralized hub, everyone is kept in the loop and unwieldy emails and spreadsheets are replaced. 

Cut costs - Eliminating work and improving communication culminate in faster, smarter due diligence and, in turn, reduce costs. In addition, the best M&A software for diligence moves away from the traditional and outdated per page pricing method, which also reduces the cost of diligence.