Decoding the Dance of Diligence Navigating the Intricacies of Selling Your Business

The Fatigue and Triumph of an Entrepreneur's Journey

Selling the business is meant to be the pinnacle of an entrepreneur’s journey – but often the face of the seller at the end of a process can be one of shell-shock and exhaustion. The term “deal fatigue” is commonly used when the excitement of a deal is sapped out and replaced with frustration and despair at the relentlessness of the diligence process and the countless faceless advisors who delight in bombarding the seller with a blizzard of questions ranging from the most inconsequential to the bizarre. Diligence can be a miserable experience, no doubt, but it's usually a result of being ill-prepared or failing to appreciate its objective.

Unmasking the Hidden Layers: Understanding the Delicate Process

When selling your home, you expect the buyer to conduct a thorough survey to ensure its quality and determine its value. It's a necessary part of the process, and you accept it as such. Similarly, when it comes to selling your business, diligence serves a similar purpose. It seeks to understand your business inside and out—its past, present, and expected future—identifying any risks that may exist, ultimately supporting the business valuation for the buyer and financing banks.

The breadth of scope in the diligence process for companies, unlike houses, is far greater. Companies are complex beasts, entangled in a web of commercial, contractual, fiscal, and legal obligations. They navigate through the challenges posed by employees, those emotional creatures. In this litigious world, buyers want to assess the risks they'll be taking on, aware that they may become targets for any existing or future grievances.

Turning the Tables: The Buyer's Perspective and Motives

Consider the motives of the buyer's M&A Executive, who has already sold the merits of your business to their board while preparing the offer for your company. They base their investment case on the information you've shared. The offer, however, will likely be subject to confirmatory diligence, which aims to validate the claims and substance presented in the Information Memorandum (IM). Diligence advisors are not out to find flaws or negotiate a price reduction. They are simply there to corroborate that the business aligns with what was previously presented.

Shattering the Myths: Demystifying Diligence and Deal Negotiations

Misunderstandings about the causal relationship between diligence and price reductions breed fear among sellers. Negotiating an attractive price based on the IM, sellers naturally resent answering layers of questions designed to find flaws or defects and potentially reduce the agreed price. However, most credible buyers are pragmatic. They view problematic diligence issues as problems to be resolved together, seeking minor tweaks to the structure and terms rather than slashing the deal value itself.

From Ice Cream to Checklists: The Multifaceted Nature of Diligence

Diligence, like ice cream, comes in many flavors. The buyer may conduct operational diligence, exploring areas such as commercial, operations, quality, human resources, and IT. These discussions allow you, as the seller, to explain your business. The buyer will also engage external advisors with expertise in legal, financial, and tax matters. If your business possesses unique technical capabilities or operates in a novel marketplace, technical and commercial diligence may be required. Property structure, dilapidation, or environmental diligence may also be requested based on property ownership, leasing, or waste-generating processes.

Taming the Mammoth: Strategies for a Smooth Diligence Process

It may all sound overwhelming to a seller, especially when inundated with questions from nondescript external advisors. However, these inquiries are not unreasonable. In fact, as a shrewd entrepreneur, you would want to know the same if you were on the buying side. To approach this mammoth process effectively, it's crucial to listen to your advisors, be realistic about the resources needed, involve your senior team, and enlist the support of professionals such as accountants, lawyers, and project managers. Investing in a well-run process avoids delays, distractions, and potential harm to the business.

A Roadmap to Success: Preparation and Transparency in Selling Your Business

Embracing the right mindset is key. Rather than being consumed by frustration and emotion, view the diligence process as a necessary checklist on your path to selling the company. While your time and patience will be tested, remember that the diligence providers and the buyer are merely doing their job. They ask what they consider appropriate questions to support the acquisition of your business.

As noted in a previous article, the best way to diminish the pain of diligence is to plan well in advance with your advisors. Identify potential problem areas and find ways to resolve them before the process begins. Alternatively, present them upfront as voluntary disclosures to the buyer. By doing so, you avoid deal issues that may arise later in the process when they are discovered.

At Red Swan Partners, our team has extensive experience in growing and selling businesses, as well as working with a wide range of business owners to support them in developing their exit strategies. Our expertise allows us to provide valuable advice and help sellers perform their own due diligence on potential buyers. We are committed to securing not only a premium value but also finding the best partner for your business.