If you are ever involved in a business sale transaction, you will hear the term “Due Diligence” being used and talked about as a necessary component of the sale. For many buyers and sellers, it will be the first time that they are encountering this term and might not quite understand what it is. This article was written to provide a basic understanding regarding what due diligence is, and the role that it plays in a practice purchase/ sale transaction.
What is “Due Diligence”?
Due diligence usually refers to the investigation process done by a buyer before a transaction becomes unconditional, to verify the facts and virtues of the business and to assess and uncover potential risks or liabilities.
Is a buyer’s due diligence on a business for sale just a financial investigation?
Due diligence in a dental practice transaction certainly has a focus on the financial aspects of the business. (for example, reviewing and assessing documents like Profit and Loss reports, dental software reports, tax returns)
However, due diligence on a business is not limited to financial due diligence alone. It will usually also include:
- Legal due diligence (for example, reviewing and checking the premises lease and zoning, radiation licenses, etc.)
- Operational due diligence (for example, reviewing open hours, roster, etc.)
When should due diligence in a business for sale be done?
Due diligence can be costly and time-consuming for a buyer and often involves a deeper level of exposure that the vendor would be comfortable giving to a lot of people.
For this reason, we usually see:
- A base level of due diligence done before an offer is made by multiple potential buyers. (for example: A review of the Profit and & Loss reports, dental software reports and premises lease)
- A more detailed due diligence to be completed by a single buyer once an offer of price and terms is accepted in principle (for example, checking tax returns, BAS and bank statements, radiation licenses)
If due diligence isn’t complete before contracts are signed, it is possible for them to be signed subject to a period of due diligence, BUT every effort should be made for due diligence to be completed before signing.
How long should due diligence take?
This depends upon:
- How detailed the due diligence requests are. Different buyers and larger sized deals will necessitate more extensive investigation.
- How organised and responsive the vendor is to requests
- How readily available necessary documents for due diligence like premises leases, financials and supporting documents are
- How clear the financials are when they are provided.
Can a buyer do too much due diligence?
Yes they can.
Dentists are trained to find small problems in small places. Sometimes that training extends beyond the mouth and into business.
Many times, we have come across buyers who over-investigate (for example asking for more than 3 years of financials and statistics, asking for Staff CVs and employment history, asking for a renovation history) or spending too much time on trivial risks (nothing is perfect). I appreciate that buying a business is a big career and financial decision and as such it needs to be scrutinised, however this scrutiny should focus on the verification of the core business and identifying major risks. Over investigation:
- Stops you from seeing the big picture
- Risks spending your time and money in investigation of problems that may not warrant it
- Causes transaction timelines to blow out
- Risks compromising the relationship with the vendor.
Can a seller do due diligence on a buyer?
Absolutely.
Some potential buyers are safer and more likely to get to the finish line than others. We frequently do due diligence on buyers before we accept an offer so that our clients (the sellers) have an indication of the quality and compatibility of the buyers.
In next issue we will explain the importance of doing due diligence on a buyer.
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