Due Diligence will Minimize Your Risk

By Joe Schlett, Partner

Everyone does due diligence. When you go to the grocery store, you’re comparing products and prices to get the best value for your money. Why then, do so many owners fail to complete proper due diligence when purchasing or selling a business?

The lack of due diligence with respect to the purchase or sale of business entities is a major cause of the poor financial performances of many North American corporations and financial institutions. Not doing so can cost you your company!

What is due diligence?
Due diligence is performed in a wide variety of situations, the most common being:

By a firm considering a potential acquisition
By a banker considering providing a loan
By a business broker offering a company for sale
By a public accounting firm in conjunction with an audit

It may include a detailed audit, but is not, in itself, an audit. It’s much broader and is more concerned with the future profit potential of a business than with its past. Due diligence must also project how well two organizations will operate together under one management.
No two businesses are alike and so each due diligence will differ from firm to firm.

Why is due diligence necessary?
It forces an owner to view a purchase or sale in a clear and objective manner, eliminating emotions that often get in the way. For example, an owner who has spent a lifetime building a business could be wrought with emotion over the sale of the company and may expect a sales price that is well beyond a realistic market value.

Due diligence examines all external and internal factors that can affect the business. What happens if the firm only has two major clients and loses one of those clients? Or what if key people on the management team retire or leave the company?

Often external events are outside a company’s control, such as the SARS scare in Toronto last year or the value of the Canadian dollar. But their impact can be minimized if proper due diligence is performed.

The degree of due diligence required cannot be clearly defined. A lot depends on the extent and size of the transaction, how much is at stake and why the investigation is needed. The bottom line is that the more time spent on due diligence, the higher the probability of achieving a successful outcome.

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