The road to business acquisition is fraught with great danger, numerous pitfalls, and unforeseen challenges. Knowing what to look out for during due diligence and surrounding yourself with a team of trusted M&A advisors can help offset the inherent dangers with mergers and acquisitions.
In this post, we discuss the top seven pitfalls buyers need to be aware of and how to avoid them with VP of Operations at Sun Acquisitions Joseph Beer.
As a seasoned M&A veteran and licensed attorney, Beer gives buyers and sellers the low down on the most common speed bumps and traps that can slow down or cancel a deal.
Without further ado, let’s go into the first due diligence pitfall.
Pitfall #1 Failing to choose the right M&A advisors
Business acquisition is not a one-person undertaking. It requires an entire team to stand with the buyer and the seller as they assess the deal from every angle. Two must-have professionals are an expert accountant and an experienced attorney.
And when it comes to selecting the right professionals go with those that have been in the game longer and have successfully closed similar deals.
Takeaway: “You want to have the right team assembled well in advance of your planned acquisition…because time kills deals…so you want to move diligently and swiftly in a deliberate manner.”
Pitfall #2 Failing to include critical deal components in an LOI
One of the foremost mistakes a lot of people make is having a non-specific LOI drafted and signed.
People omit information about deal financing, structure of the purchase price, upfront payment, holdbacks, deadlines, dates, and seller promissory notes. These are things that will haunt them later on.
It might seem tedious but the more detailed the LOI the better for everyone involved. Because the LOI acts as a roadmap, a guide, a framework that sets the pace for future negotiation.
A quality LOI keeps everyone on the same page and helps avoid deal fatigue.
Takeaway: “You’re eventually going to get to a purchase agreement phase, but you want to include enough detail in your LOI that when you get to the purchase agreement, you’re not stalled on unresolved issues.”
Pitfall #3 Taking the wrong approach to understanding the customer base
As a buyer you want to know more about the business’s customer base. Who are they and how content are they with the current service and or products?
Sellers are averse to handing over such sensitive information – and with due reason. However, they should be able to give you some kind of redacted data so you can get an idea of metrics such as customer concentration, attrition, retention, and satisfaction.
Takeaway: “When looking at the customer base, there’s a lot of metrics, but some of the most critical metrics are customer satisfaction with the services or products being provided.”
Pitfall #4 Failing to check compliance issues
When buying a business, you want to know if there are any liens on the business as soon as possible. This means conducting a comprehensive UCC search. You don’t want private or tax lien surprises down the road.
Additionally, you also want to check up on any business licenses needed for operation and if there are any local state clearance fees you need to pay. If there are, then arrangements for an escrow agreement must be factored in.
Takeaway: “When you’re entrenched in financial due diligence or getting lease assignments, you want to make sure you don’t miss details such as conducting UCC searches.”
Pitfall #5 Failing to verify contract assignability
Buyers need to be clear on the vendor contract assignability details. Don’t make the assumption that when you buy the business, all the contracts transfer to you seamlessly.
Each supplier contract needs to be studied to see what the terms and conditions regarding assignability are.
Takeaway: “When you’re looking at situations where there are material customer contracts or vendor agreements you need to find out if the buyer can take over this contract? Are they allowed to take over the contract? How many days notice is needed if the contract is assignable?”
Pitfall #6 Failing to understand closing timelines
No seller wants to have an unstructured deal with no end in sight. Smart sellers will make sure they’ve included their expectations. And dates upon which they want certain milestones to have been fulfilled by the buyer.
Milestones are designed to hold buyers accountable by putting subtle pressure on the buyer to get their act together especially on the financing side of things.
Takeaway: “A sophisticated seller will include guardrails in the LOI saying the buyer must meet certain milestones to maintain exclusivity.”
Pitfall #7 Failing to understand working capital needs
Buyers cannot afford to overlook or underestimate the work in progress and working capital needs of the business. To do so can have costly repercussions later in the deal. Because there is money involved in these two, they must be included in the LOI.
Watch out for attorneys who try to exclude a clause discussing work in progress and working capital needs from the LOI.
Takeaway: “You don’t want to miss out on the work in process or working capital needs because it can have a real swing in the overall enterprise value.”
The Bottom Line
Business acquisition can be complex. It’s important for buyers to enter into these negotiations with a good M&A advisory team and a healthy dose of skepticism and flexibility. Knowing these pitfalls will also help prepare you for your initial meeting.
If you’re thinking of an M&A and need to discuss your options with an expert, don’t hesitate to contact us.