Due Diligence: How Company Sellers Should Navigate The Process

If you are a company owner with a potential acquirer circling around you looking to make a deal, congratulations on making it this far. Think about all the hard work and vision it took to get from the initial company launch to this exciting next phase, and commend yourself and your team.

Now get ready to be scrutinized by strangers who will put every detail of your operation under a microscope.

The due diligence process was never meant to be fun — and it isn’t. But for too many business owners it is downright painful.

But due diligence doesn’t have to be this way. By adopting the right mindset and taking the right steps, companies can shine during this process. And successful due diligence can mean reaching a deal that benefits the buyer, the seller and all involved.

Phases Of Due Diligence

Before the due diligence process kicks into gear, both buyers and sellers take steps that ideally will help the overall process flow smoothly. For a buyer, this generally means assembling a team of financial and legal experts.

This period—before a company has actually gone to market—is an especially important one for the seller. This is akin to getting one’s house in order and involves a thorough internal review of sales projections, financials and other important metrics.

There’s a reason high school seniors take time to primp in front of the mirror before going to prom: Knowing they look great is a critical first step toward having a magical evening. Company founders preparing to sell—and getting ready for due diligence—should similarly take the time they need to make sure they “look great.”

This is important, because the next stage of the process is all about handing over documents to the potential acquirer. Once both parties have signed a confidentiality agreement, the requests for paperwork from the buyer begin to flood in. The specifics vary by company, but corporate records, stockholder information, intellectual property documentation and information on regulation, insurance, leases and other financial information are all common requests.

The final phase of due diligence takes place after a letter of intent is signed, and is mainly the continued confirmation of the accuracy of the information provided to the buyer.

All information related to company finances is collected in preparation for a process known as a quality of earnings, which confirms the financial health of the company. This process and report will confirm the details of the company’s financial history.

It may sound straightforward and businesslike, but it can be uncomfortable for many sellers. Making all the necessary disclosures feels a bit like that dream where one shows up for work or school only to realize they forgot to put on clothes. For all but the most shameless exhibitionist, it’s not pleasant to stand exposed in front of a room full of people. Due diligence conjures this feeling for many sellers—but it doesn’t have to.

Setting The Stage For Success

In my years working with companies through the mergers and acquisitions (M&A) process, I have seen many founders struggle with due diligence. I’ve seen some sellers navigate the pitfalls, and many others fall headlong into them.

My experience tells me that sellers set the stage—either for success or failure—early in the process. While most understand that full transparency will be a must in due diligence, many fail to lay the proper groundwork to make this transparency easy.

Most sellers, especially those working without guidance, fall short during the opening phase before the company has gone to market. During this phase of the process, sellers need to be thorough and fearless as they hold up a mirror to their company’s full track record and financial health.

Sellers must do everything they can think of to look at their company through the eyes of a buyer. Where are the risks? Where are the weakest links? In self-assessment, company founders need to do more than kick the tires. They need to lift the hood and check the connections, hoses and battery terminals.

If the seller doesn’t do this, someone else will. This, in fact, is what can make the rest of the process so grueling. Without an unflinching self-assessment, assessments by others can seem arbitrary and cruel. Embracing the 360-degree view of your company, on the other hand, makes all subsequent disclosures during due diligence feel far more manageable.

Unsurprisingly, many company founders struggle to be objective when they evaluate their own companies. But objectivity is essential in the first—and arguably most important—stage of due diligence.

This is why many sellers tap the expertise of an M&A advisor as they gear up for the process. Advisors help sellers prepare to share and respond to potential questions and information requests from prospective buyers. Offering incomplete or incorrect answers can be a ticking time bomb that may eventually blow up the transaction, so the more prepared the seller is for full transparency the better.

In the same spirit that a person selling a car might want a qualified mechanic to look over their engine before an actual buyer pops the hood, many company founders get M&A advisors to assess their company before a team of legal and financial experts does the same. Advisors can find and help repair problems before a buyer appears on the scene.

Selling a company can be grueling, but it doesn’t have to be. Companies can prepare for what’s ahead, and team up with experts to ask and answer the tough questions before they are asked by attorneys and financiers.

Giving the right answers will be paramount. But by adopting the right mindset and taking the right steps, due diligence can simply be the first step to a deal that benefits both the buyer and the seller.