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M&A Due Diligence: Why Buyers Can’t Afford to Go It Alone

June 03, 2016

Description: 14% of companies see a merger and acquisition as their main opportunity for growth in 2016. Find out why.

KLR’s 2016 Manufacturing Industry Outlook Report reveals that 40% of companies expect their revenue to grow by more than 5% over the next year. Most of this growth will come from expanding market share for existing products or developing new ones. But 30% are considering a merger or acquisition in 2016 — and 14% see M&A as their top growth opportunity in 2016.

Buy-Side Issues

In previous blogs, we’ve covered the growing importance of sell-side due diligence. But buyers traditionally spend more time performing due diligence procedures than sellers.

At the most fundamental level, buy-side due diligence strives to answer one question: Will this deal create shareholder value? If not, the deal probably isn’t worthwhile. In addition to educating the buyer about the target company’s financials and operations, buy-side due diligence considers such potential deal-breakers as:

  • Tax liabilities and pending audits,
  • Internal control weaknesses,
  • Unreliable accounts receivable and inventory balances,
  • Assignability of contracts with customers, key employees, franchisors, insurers or lessors,
  • Off-balance-sheet liabilities, including undisclosed property liens, pending litigation, and environmental violations, and
  • Inaccurate seller representations and cash flow estimates.

The sooner in negotiations that problems are brought to light, the sooner the parties can renegotiate the terms — or walk away from a deal that won’t add shareholder value.

Deal Terms

A critical part of buy-side due diligence is evaluating potential deal structures — and finding the option that works best. There’s more to consider than just price. For example, seller financing, in the form of an earnout or installment sale, is currently in vogue. It’s especially appealing to buyers with limited access to funds or those that want the seller’s continued involvement during the transition phase.

Another important decision is asset vs. stock sale. Buyers generally prefer to cherrypick balance sheet items. Compared to stock sales, where the business is sold as is, asset sales give buyers a fresh start on depreciating assets, thereby lowering future taxable income and capital gains. Asset sales also prevent the buyer from assuming all of the seller’s liabilities, including what’s not reported on the balance sheet.

Success Takes Time

Although 30% of manufacturers are considering a business combination this year, only 6% of survey respondents followed through with a business combination in 2015. Has the popularity of M&A grown that much in a year? That’s unlikely. Rather, it takes time and effort to successfully combine businesses, and many deals that initially look promising fail to receive the green light during the due diligence phase.

If you need help vetting a potential deal or finding a company that’s interested in selling, our team of experienced accounting and tax professionals can help fine-tune a deal that suits your needs and maximizes your growth potential.

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