Getting your startup to the point where you are negotiating with buyers is a significant victory. Arriving here proves that you have successfully built a company that promises to have significant strategic value–whether that value lies in your revenue stream, technology, brand, or anything else. Now you are faced with a next important step: due diligence. But what does due diligence mean in this context?
During the business acquisition process, due diligence is essentially where you are asked to prove that your company is, in fact, the strategic asset that you promise buyers it will be. If you have been scrupulous about record-keeping, due diligence should not be much of an inconvenience.
This article provides you with everything you need to know about the benefits of and reasons for due diligence, the usual process of due diligence during business acquisition, and a brief acquisition due diligence checklist to provide you of an idea of the documents and records you will need.
Why buyers conduct due diligence
Due diligence is the buyer’s method of confirming what they are buying. It allows buyers to get an in-depth overview of your company’s financials, contracts, assets, workforce, and any other pertinent information.
Due diligence is also more than a cautious approach to investing – it serves to avoid criminal liability. In terms of the Securities and Exchange Act, sellers of securities can be held criminally liable if they do not disclose pertinent information about the securities they sell – unless they have done proper due diligence. Due diligence is therefore a standard part of any business acquisition and any startup should plan for it as part of its acquisition strategy.
What to expect during the acquisition due diligence process
Each business acquisition process is somewhat unique and context dependent. However, the typical course of events when conducting due diligence is as follows:
1. The acquisition due diligence checklist
The buyer (or acquirer) will provide you as the seller with an acquisition due diligence checklist when you enter the exclusive stages of negotiation (usually, this is when both parties sign a letter of intent with regard to the acquisition transaction).
As a seller, be sure to go through the list and address any problematic items. If you know of records that you won’t have available, disclose that at the start of the process. This way, you will avoid post-closing indemnification claims and possible reductions in the purchase price.
Gathering of information and the electronic data room
The seller will gather the records and documents required by acquisition due diligence checklist. Typically, it is best practice to set up an electronic data room (contract a third party for this). This means that there is no need for the physical exchange of documents, and it also means that you as seller will have accurate records of exactly who viewed your records, and when.
Ongoing negotiations and the disclosure schedule
Usually, the business acquisition negotiations will take place concurrently with the due diligence process. The reason for this is that you as seller will already have made the most material and pertinent facts about your company available, and you will therefore be bound by these through representations clauses.
The other reason is that the acquisition agreement will include a disclosure schedule. In this schedule, you will add anything that arose from the due diligence process that requires further clarification or disclosure. To complete and accurate disclosure schedule you will have to be very familiar with your due diligence records and the results of the process – it is usually a good idea to assign this task to one person in your team so that nothing slips through the cracks.
The typical acquisition due diligence checklist
The specific list of required documents will depend on your company and on the requirements of the buyer. If the buyer is using financing from a bank or private equity firm, the checklist will tend to be longer and more specific. Usually, a checklist will cover the following four categories:
Your company’s strategic position
Your financial data, including tax information, schedules of inventories and assets, as well as current and contingent liabilities
Your assets, including your intellectual property portfolio
Legal matters, including guarantees, loans, leases, exclusivity agreements and customer contracts
Legal expertise at your disposal
Getting acquired can be expensive, but it does not have to be. At LawTrades, our experts can guide you through the acquisition process at an affordable rate, allowing you to avoid the common legal pitfalls associated with business acquisition negotiations without breaking the bank. Get in contact with our attorneys today.