What should a potential buyer know about historical financial information?
The historical financial information is important because it’s the basis from which a series of decisions are made. It’s the historical story of the company. However, when performing due diligence, you must maintain a skeptic’s eye and acknowledge that every person who is selling an asset is going to wash it before a potential buyer looks at it. I think it is safe to say that in most cases historical information leading up to a sale transaction depicts performance that is above what is normal for the company. I like to refer to this as ‘window-dressing.’
How can a potential buyer uncover these things?
By analyzing trends and having discussions with the right personnel. It is not to say the seller is doing anything illegal or unethical. For example, a company may have a highly experienced and effective middle manager who is making $100,000 a year. Suppose that individual leaves the company the year before the sale and the owner elects not to replace him, instead spreading his workload. Going forward, the company has $100,000 more profit given the same level of activity, but the company isn’t humming along like it was because that effort is missing.
Often, a business owner will start to position a company for sale two to three years in advance. Uncovering these items is an important part of the due diligence process. Time and again, I see a rush to complete due diligence. Teams will load up with bodies, rush in and divide and conquer. I feel it is generally better to go in with a smaller crew and stay longer. A few additional days will allow you access to more employees, to build trust with the people you are interacting with and, ultimately, to obtain better information.
What else should a potential buyer look at before making an acquisition?
Consider integration issues prior to consummating a deal. Repeatedly I see an acquiring group fail to properly integrate its acquisition. The acquirer has a successful business model and work culture, but they fail to bring the new company into the fold correctly. Or they are slow to do so, and the acquired company losses steam or never really gets on board. Look before you leap at what it will take to integrate the companies. Consider the cost of the effort to bring the two cultures together.
Finally, be conservative with your projections and cash flow modeling and give proper and balanced consideration to the hurdles discovered during due diligence that are significant enough to derail the transaction. The excitement of the deal must take a back seat to sound business and financial decisions.
Paul Woznicki, CPA, is associate director in transaction advisory services at SS&G Financial Services, Inc. Reach him at (800) 869-1835 or [email protected].