What documents are required for due diligence?
With so much M&A going on these days, I get asked a lot about how much data a seller should hand over to a prospective buyer to receive an IOI or LOI. After all, pulling together these documents can take time and it should be viewed as the start of the due diligence process, so you want to make sure it is complete and accurate. But, at this point in the process, you also don’t want to hand over too much data.
When I prepare a blind teaser and CIM, I usually have about 20 pieces of information I ask for to help me prepare these documents. These are then put into a virtual data room and are the start of the due-diligence document requests that I know a buyer will require. Most fall under the financial, human capital and product areas.
But what do you provide if you are approached by a prospective buyer and they ask for a plethora of documents? What is really needed for them to make you an offer? Buyers have a tendency to ask for as much as possible before making an offer, but you as the seller should not give up more information than is needed. You definitely do not want to expose your customer list, nor the names of your employees, as these are both your most precious assets as a technology service provider.
This then begs the question: how much information is enough, what documents are required for due diligence and when is a buyer requesting too much? After running multiple transactions, I have compiled a list of the top 10 MUST HAVE documents to provide your buyer sufficient information to propose an offer.
Top 10 Due Diligence Items Required to Prepare an IOI or LOI:
- Three years of Profit and Loss Statements and Year-end Balance Sheets – include EBITDA adjustments if you are comfortable
- Current YTD P&L by month
- Current year forecast/projections by month
- If in the 4th quarter, next year’s forecast/projections by month
- Revenue breakdown by type: recurring, repeat, renewals, time and material, subscription, etc. This could also include product pricing if you have IP or packaged solutions you offer.
- Revenue by customer for the last three years and current year – please disguise your customer names with codes. Be sure to show the % of total revenue they represent.
- Last three years’ Corporate Tax returns – substantiates your revenue
- Management team names (initials only), titles, compensation, including bonuses and start date
- Average Bill rates, and utilization % by employee – (again use initials only for your employees)
- Sample MSA, engagement letter or contractual agreements – the buyer will want to review assignability, etc.
In addition to the above, you might want to give a brief history of the company and what makes you unique and stand out from your competition.
You will want to upload these to a virtual data room that only YOU have access to and control. I suggest using something outside of your own SharePoint or network so that others in the organization don’t see what you are up to as the owner. I also suggest creating a separate folder for each prospective buyer and maybe even adjusting the data accordingly – as there might be an odd request or two from one buyer that you might not want to share with another.
Of course, this is only the beginning of the due diligence process, but whatever info you give out, be sure that it is accurate to your best ability. Inaccurate data or data with errors will set the tone of future requestions, meaning the buyer will be more suspect if your data contains errors. This is also the time to present your EBITDA adjustments if you feel you can identify them properly. If you are uncomfortable with EBITDA adjustments, be sure to read my post or get professional help. It can make a huge difference in the purchase price.
Finally, and I cannot emphasize this enough, due diligence can take a lot of time and effort, especially if YOU PERSONALLY are pulling these together, and more so if the data is scattered or in numerous different locations. This is also the time when I find sellers are missing a few important signatures on client facing documents or contracts that have lapsed and need to be renewed quickly. If you have code, have written your own solutions, or manage applications in a private datacenter, this due diligence list can grow exponentially. And every buyer will have a slight variation on their list.
Usually once due diligence begins, especially with experienced strategic buyers and private equity firms, you can expect work to begin on the contracts almost immediately. Reading, negotiating and redlining agreements with counsel is also very time consuming. While still running a business, it can be nothing short of 12-hour days. So do yourself a favor and prepare as much as possible in advance, so when a buyer does appear, you can focus on the terms and contracts and not be caught up in providing due diligence documents.
If you are looking for a more in-depth list of initial due diligence, below is a list you can review to get you started. It is more comprehensive than the list above, but you will need to provide all of this in the end, so better to start on it now. For a complete list, feel free to download my due diligence checklist here.
Initial Due Diligence Request List:
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