Expectations: Entering Due Diligence
Signing a letter of intent and kicking off due diligence is a big step and requires trust. Although nothing is consummated, you’re getting business-engaged and promising to be exclusive. But let’s be honest, due diligence is not designed for fun. It’s full of tough conversations, thorough reviews of financial, legal, and historical documents you may have long since forgotten, and negotiation around who’s responsible for what. With that said, it’s kind of like eating your veggies -- make the best of it and be healthier because of it.
Most financial buyers outsource due diligence because it’s expensive and time consuming, and also because they may lack the expertise to evaluate all of the areas of a business that must be understood before a transaction can be finalized. As a result, outside accountants and lawyers are brought in to turn the business upside down on their timeline and with competing clients pulling at their attention, which can be demanding on the seller. Yet this diligence is almost always done by junior folks, reviewed by the next rung up, and then approved by the senior partner who interfaces with the buyer. So while the buyer is managing its risk, it’s missing an opportunity to build a relationship with the operators. Further, post-close, all the knowledge gained during the process dissolves into the hired firm and the acquirer has to start the get-to-know-you process all over again.
If this seems less than ideal, it’s because it is.
At Permanent Equity we handle due diligence differently. We have built a full-time diligence team in-house with senior experts who are focused and attentive, and who will be working with the operating team post-close. This allows for much quicker turnarounds, the building of deep knowledge, and post-close consistency. We do this because we believe it helps us close deals faster, with more knowledge, and with better post-close relationships. Here’s what you can expect from us during due diligence:
Detail Orientation: Diligence is intentionally detailed. Please pay close attention to the requests and questions posed, and be thorough in responses. “Thorough” does not translate to quantity of words or documentation. Rather, if you know that the document requested will lead to more questions, be proactive. It will save everyone time and reduce the potential for issues close to closing.
Timeliness: Time kills deals. We work hard consistently and never let things “sit.” When we can, we try to turn in under one business day, including follow-up questions. That said, while we’ve never been accused of being slow, we also understand that sellers have a full time job running their company and are respectful of the additional time sometimes needed to respond to our requests. Ultimately, we’ll move at your pace and won’t set arbitrary deadlines.
Let’s discuss and set mutual expectations for pace of work. We’ve closed deals in under 2 months and some have taken almost a full year. We’re happy to set milestones and keep you informed on how much progress is being made. Certain things will set us up to move at a faster space, including availability for meetings/calls, deal-specific legal counsel, thoroughness and timeliness of responses, and general simplicity of intended deal structure. A well-resourced and responsive selling team can expect exploratory, confirmatory diligence, working capital confirmation to last 4-8 weeks, with a first draft of the purchase agreement provided 1-2 weeks thereafter. Ancillary documents usually follow a week after receiving seller’s counsel’s purchase agreement revisions. All-in due diligence and documentation will likely last between 2-4 months.
Tone: We will ask tough questions, but pledge to do so with transparency and respect. We’re not looking for “gotchas” that will kill the deal, but genuinely want to understand why things are the way they are and if they might be improved upon.
Benefit of Doubt: When we find something amiss, we give the benefit of the doubt and won’t jump to conclusions. If some corrective action needs to be taken, we’ll give you a heads up about it and try to help get it done. Spending time on a deal destined to die is in no one’s interest.
Negotiation: Parallel to the diligence process we’ll be negotiating the terms and structure of the transaction based on what we’re finding. Given the importance of timeliness, and unlike other negotiators, we try to only ask for exactly what we think is fair and will show our work in terms of how we got to where we did. If you disagree, that’s fine, but we ask that you show your work as well. Then, we can all settle on a solution that keeps the ultimate goal of closing prioritized.
Communication: We understand why sellers hire intermediaries to help them through this complicated process, but our strong preference is to communicate directly with the organization we’re diligencing and the people we’ll be working with post-close. We understand this doesn’t work for everyone, but let’s establish clear lines of communication and a cadence from the outset. In other words, who should be talking to whom and when.
Games: Due diligence isn’t a game for us, and we enter into it expecting to do the deal outlined in the LOI, assuming the information checks out. That said, we don’t expect goalposts to be moved on us either. If you ultimately expect to close on different terms than those outlined in the LOI, we should talk ASAP. Games generally end in delays, mistrust, and broken processes.
Throw a Flag: If we find a deal-breaker during diligence, we will tell you as soon as possible and we ask that you do the same if something is not working for you. Again, spending time on a deal destined to die is in no one’s interest.
How Deals Die: We enter diligence with every intent to close, but, in full transparency, sometimes that doesn’t happen. No doubt you’ve heard horror stories about getting the runaround, retrades, or the inability to close due to a lack of capital. Those aren’t a concern with us. We shoot straight, don’t retrade, and never make an offer that we don’t have the cash on hand to close.
For a deal to die, generally one or more of the following has happened: material misrepresentation or suppression of information, demands for deal structure changes, an unwillingness or inability to communicate, and/or a lack of trust that inhibits transparency and progress. In practical terms, if you don’t want the business to continue to grow and succeed post-transaction, there’s a good chance the process may break.
No matter who does it, diligence is expensive and time consuming. We’ve invested in this capability in-house because we believe it makes for a smoother process, a higher likelihood to close, and better performance post-close. Yet every diligence process is a two-way street and our experience is that for it to work, the other side needs to come to the table with the same commitment to these underlying principles.
