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Due Diligence - It's More Than A Business Phrase!

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I wonder if anyone will ever invent a cure for the reason that I am going bald? Over the past six months I have been involved in three separate assignments where the buyer performed negligible if any due diligence on a business that they purchased.

It never ceases to amaze me how an individual can invest hundreds of thousands of dollars buying a business and not perform any due diligence! In a society that is plagued with mistrust, everyday throughout North America people invest their life savings and in most cases pledge all of their current and future assets into acquiring a business without the full knowledge and a complete understanding of what they are buying.

They do this because for some reason, which completely escapes me, they believe everything that the seller and the seller’s intermediary has told them or even worse than that, they believe that they have been told absolutely everything about the business that they are buying.

Performing adequate due diligence, when acquiring a business, is the single most important item in the purchase process. Some people may believe that a multitude of “save harmless” clauses and well-written purchase agreements eliminate the need to perform due diligence. They couldn’t be more wrong! The only major difference between an acquisition that proves to be successful versus an acquisition that turns into a disaster is that in the successful situation the buyer of the businesses was fully aware of exactly what he was buying before he bought it, and based on that knowledge paid a fair and equitable amount for the business and was prepared for any and all situations that might arise when he was given the keys on closing.

Many of my peers take exception to the statement that it is adequate due diligence that is the key to a successful acquisition. Their feeling is that it is a lack of capital that is the usual reason for the demise of a business. My rebuttal is that had the buyer performed adequate due diligence he would have been aware of the capital or cash flow requirements of the business and would have been adequately prepared to meet those needs or he shouldn’t have acquired the business in the first place. To know that you are going to need two hundred thousand dollars to support the cash flow requirements of the business and proceed to acquire the business with the knowledge that you only have one hundred thousand dollars does not describe a lack of capital as the reason the business failed. The business failed because the buyer is a fool! After all one of the biggest reasons for buying an established business instead of creating a business from scratch is the ability to be able to do a reasonably accurate cash flow forecast.

Why didn’t these individuals perform due diligence? Does the excitement of finding what appears to be a great business opportunity destroy peoples’ brain cells or just cloud their better judgment?

In most of the situations that I have been personally involved in, where due diligence was not adequately performed if performed at all, it was because of a personal relationship that developed between the buyer and the seller and if the seller utilized one, his intermediary. This relationship, that is closer to a mentor (the seller), understudy (the buyer) then it is to a personal friendship, is exasperated if the buyer requires the seller to finance the purchase of the business and/or if the buyer requires the seller to stay on with the business for a period of time in order to transfer his knowledge to the buyer.

The buyer begins to feel that the seller is doing him a big favor by selling him his business and he does it by bringing the buyer into his confidence and placing himself in the position of the business expert or guru and commences to tell the buyer all sorts of inside industry specific business matters that have absolutely no real meaning! But, it usually works as the buyer is manipulated by the seller and the seller’s intermediary to believe that requesting the necessary information to adequately perform due diligence means that you are questioning the seller’s integrity and it is the same as calling the seller a liar or proposing that the seller might cheat you; his new friend and buddy! After all, if he didn’t like you he wouldn’t sell you the business in the first place and if he likes you, he wouldn’t lie or cheat you!

It’s your money invest it wisely and with confidence.

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