Due Diligence, a litmus test in the buying/selling of a company?

Imagine that you are going to buy a flat but you have only been able to view it in photos. You liked what you have seen up to this point but ¿would you really buy it based on a couple a photos? I’m sure the answer in no. Something similar happens during the process of buying/selling a company. The potential buyer only sees the “photos” that the seller wants to show him. The due diligence process is the way the buyer gets to know about the actual state of the company and whether or not these photos are “photoshopped”.

Every buyer of a company specifies knowing the company’s real situation by means of an assessment, due diligence, which encompasses not only the financial side of the business, but also the legal, work, environmental aspects etc.

Traditionally due diligence is carried by the buyer once their offer (subject to due diligence) has been accepted. Normally realised between four and eight weeks, in which period the buy/sell contract is, in a parallel fashion, negotiated.

It is worth highlighting that the buyer usually requests exclusivity during this period if he/she is going to have to spend money on due diligence and it is normal to concede it. However, you should bear in mind that seller, while the due diligence process is ongoing, will maintain negotiations with a single buyer and running the risk that he/she may, by being in exclusivity, demand a final discount on the price.

Once due diligence has been finalised, the results can be an essential tool to verify whether the price offered is adequate. Consequently, the buyer has the ability to use them as a tool for negotiating the price and contract terms. This, combined with the fact that usually the seller is not conscious of his/her shortcomings until the buyer discovers them in due diligence, which can put the seller in a weak negotiatory position.

As well as this, it can happen that the seller may need to formalise the purchase urgently, thus he/she proceeds quickly to the contract signing, but will establish as a condition that the buyer was satisfied with the results of the due diligence, which we would be carried out in a more restrictive timeframe.

Without a doubt, the due diligence process is crucial in a buy/sell operation, it is the way to come across (or not) the potential “tweaks” needed relating to the company for sale.

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