By Scott Moss, Partner at Cherry Bekaert & Holland and Leader of the firm’s Transaction Advisory Services Group
Our recovering economy continues to challenge business owners looking to sell. Credit remains tight, and it’s still very much a buyer’s market. The ability to differentiate your company from others is critical in this marketplace. As such, prospective sellers should consider improving their chances of success by investing in sell-side due diligence.
The sell-side due diligence process enables prospective sellers to examine their businesses from the perspective of a potential buyer. Sellers benefit from a sell-side due diligence process in their ability to identify and address issues that could impact a transaction before they are uncovered by a buyer’s due diligence team. Additionally, this process provides potential buyers access to more credible financial information that can reduce the amount of time needed to successfully close a transaction.
While there continue to be changes in the broader economy, the critical aspects of selling a company remain relatively unchanged. In order to assess a company’s true profitability, interested buyers will typically request three years of historical financial statements to better assess a company’s operating profitability, but there are a number of business situations that can interfere with a buyer’s ability to make that determination. Understanding these issues outlined below and preparing an appropriate response to potential questions in advance can help you achieve a successful sale.
Industries with complex accounting rules
Ensuring your company is compliant with complex accounting regulations unique to your industry will eliminate potential questions from prospective buyers. Without proper documentation, these conditions may confuse buyers and hamper their ability to measure your profitability compared to others in your industry. Companies typically subject to unique and complex accounting guidance include those operating in government contracting, healthcare, technology, and financial services sectors just to name a few.
Companies selling only part of the business
Accurately measuring the stand-alone financial performance of a division or subsidiary can be difficult to accomplish and often requires the use of estimates and assumptions. To assist potential buyers in understanding how a division would perform on a stand-alone basis, sellers must adequately document and consider certain costs that may have been allocated to the carve-out and the types of costs would have to be incurred to enable the stand-alone company to function on its own.
Declines in performance compared to anticipated levels
When a company’s actual revenue does not correlate to budgeted or projected performance, an explanation detailing the gaps in financial performance is required. Sellers need to put such gaps in context and ensure the explanations are supportable. For example, a sudden 10% drop in sales could be caused by the bankruptcy of a large customer. If the company has also recently added customers with future sales projected to fill that gap, the seller needs to disclose this important information.
An important aspect of sell-side due diligence is the ability to identify non-recurring, non-operational items that impacted financial performance. This allows a buyer to better understand the true earnings power of the business. Also, by providing a normalization adjustment for non-recurring items and the supporting methodology to present historical earnings in a favorable manner, the seller’s value may potentially increase. Tax implications also play an important role in structuring a transaction. Understanding all applicable federal, state, local, and estate taxes will leave a seller better positioned during the negotiation process.
Advisory services and support
Selecting advisors that possess unique knowledge and experience gained from a successful track record of merger and acquisition activities is critical. These advisors can be an invaluable part of your team and can leverage the resources of your accounting department. In fact, most middle-market accounting departments are often challenged just to keep up with the day-to-day accounting aspects and have little time to devote to special project activity.
Quite simply, the key to successfully navigating today’s challenging marketplace is to be prepared. By investing in sell-side due diligence, you can better anticipate potential issues, and position your company to withstand buyer scrutiny, ultimately increasing the company’s value.