Mergers and Acquisitions For Dummies (64 page)

Buyers, do your work quickly and push as hard as possible to close the deal within 60 days. Based on the situation, Seller may not decide to extend exclusivity if you need more time and may instead reengage conversation with other interested parties.

You Have a Signed LOI — Now What?

Signing an LOI doesn't mean you have a deal. In many ways, the LOI is simply the beginning of the process. As Seller, the deal isn't done until the money hits your account! As Buyer, the deal is done when everyone has signed all the documents at closing day (see Chapter 16) and the money has been wired to Seller.

In the meantime, Sellers should continue to run the business as though they haven't made a deal, focusing on profitability and controlling costs as they normally would. Buyers should place the escrow with a third party, usually a bank, and give an escrow agent a set of instructions detailing when to release the money to Seller. Sometimes all the money is released at one time, but in some cases, the escrow may be released over a period of time. The staggered release can be a good way to satisfy both Seller, who undoubtedly wants the money as soon as possible, and Buyer, who may want to keep money in escrow for a longer period of time. See the earlier section “Holdback and escrow” for more on escrow.

Chapter 14

Confirming Everything! Doing Due Diligence

In This Chapter

Understanding due diligence

Conveying important due diligence information

Evaluating whether to provide extra information

T
he Buyer conducts
due diligence
(a thorough review of the Seller's books, records, inventory, contracts, and more) concurrent with the drafting of the purchase agreement (see Chapter 15). Due diligence is the “open the kimono” time when the Seller reveals intimate details of the business, including (but not limited to) financials, customer information, pricing detail, sales pipeline, contracts, and employee compensation.

In this chapter, I introduce you to the ins and outs of due diligence, what to expect, what needs to be done, and perhaps just as importantly, what doesn't need to be done. Please refer to the appendix for a full list of information provided in a typical due diligence process.

As you conduct due diligence it's a good idea to begin thinking ahead to the integration phase. You'll need a dedicated team in place to help make the transition smooth, so I recommend getting a head start on that important step. Chapter 18 talks more about assembling your transition team and what pre-integration considerations a Buyer should make.

Digging into the Due Diligence Process

The goal of due diligence is for Buyer to confirm Seller's financials, contracts, customers, and all other pertinent information. In other words, the goal is to make Buyer comfortable enough that he goes through with the deal and closes.

Buyers often have other partners (usually banks or private equity firms) who are providing some of the financing and have stricter requirements than the Buyer does. In other words, Seller may have to overcome both Buyer's demands and Buyer's financial partner's demands.

The following sections look at some considerations for the overall due diligence process.

Getting the process underway

Due diligence commences the moment the letter of intent (LOI — see Chap-ter 13) is signed, or at least it theoretically should. But frankly, many Sellers are wholly unprepared at this moment; they often don't realize the vast amount of data they have to provide during due diligence. (To get an idea of just how much data due diligence requires, check out the later section “Providing Appropriate Information” and the appendix.)

All due diligence information should be ready and available for Buyer the moment both parties have signed the LOI. Because compiling due diligence information takes time, I recommend that Seller begin to gather this information when she starts marketing the business to Buyers.

How long compiling this data takes is largely contingent upon how quickly Seller works, but I recommend planning on one full month, assuming Seller is highly motivated and works quickly. Given the inevitable delays due to the demands of running a business, she may discover that she takes two or three months to fully compile all the due diligence info.

Allowing enough time for the due diligence phase

In theory, due diligence should take no longer than 60 days. When buying or selling a business, I never submit or agree to an LOI of more than 60 days. In both cases, I want to close a deal as soon as possible

In reality, however, the due diligence phase can take longer than 60 days. In most cases, the delay is the fault of the Seller, who's often slow in getting information out. As I note in the preceding section, Seller needs to have all the due diligence materials prepared and ready to provide to Buyer as soon as both sides sign the LOI.

Regardless of whether you're buying or selling, push hard for a 60-day due diligence period. Stay proactive with the process: Push and prod for information, and don't be reluctant to pick up the phone and be a pain in someone's side. However, other people don't always work as fast as you'd like, so mentally prepare yourself for 90 days.

Sellers can't be afraid to remind Buyers that due diligence is confirmatory in nature, meaning Buyer should spend the time confirming Seller's information and not planning, creating, and combining the two entities. The Buyer should take care of post-closing activities after closing! Otherwise, due diligence will drag on longer than necessary.

The length of time for due diligence should coincide with the length of exclusivity laid out in the LOI because Buyer wants to avoid Seller being able to negotiate with other Buyers while due diligence is still under way. See Chapter 13 for more on LOIs and exclusivity.

Covering the expense

Each side pays its own expenses. Buyer hires his own lawyers, accountants, investment banker, and other sundry consultants, and Seller retains her own similar set of advisors. Each side is responsible for paying only its own set of advisors.

However, Buyers may be able to negotiate with their advisors to accept payment after the deal closes, meaning a Buyer can pay the bills by either using Seller's cash flow or perhaps by adding the cost of the advisors to the amount of money the Buyer borrows from other sources.

Due diligence means that you as a Buyer are spending a lot of money on auditors, lawyers, and other consultants, so refusing to move forward with those expenses until you know the Seller isn't continuing negotiations with other Buyers makes perfect sense. You don't want to show up on closing day only to discover that the Seller has picked a different Buyer!

Conveying the due diligence info to Buyer

In days of yore, back when the slide rule and rotary-dial phone ruled, M&A deal-makers conducting due diligence would sit in a room, informally called a data room, with a stack of financial statements, contracts, and all manner of information, and slowly but surely confirm what they needed to confirm.

This task wasn't fun, so Al Gore took it upon himself to invent the Internet. Okay, I'm joking, but thanks to that non-Gore invention, the insanity of the physical data room ended. The M&A deal-makers of today use an online data room (sometimes called a virtual data room).

An online data room has numerous advantages over the old fashioned “a bunch of documents dumped in a cold, impersonal room” approach, including the following:

Seller can control who sees what information and when.