Entering a sell-side due diligence process? Here are 3 things to consider when responding to diligence requests.
#1 – Understand the bigger picture.
It is easy to get swept up in a sell-side process (especially one with multiple buyers) and be overwhelmed by the volume or difficulty of various data requests. We can avoid some of this mayhem by first keeping in mind the purpose of the due diligence process.
Generally, the buyer needs to accomplish 3 things during the diligence process:
- Confirm historical performance.
- Assess quality of projected (future) performance.
- Identify any red flags / risks in the target company.
There are other goals, of course, but generally the diligence efforts should fall into one of the three categories. So, if a potential buyer asks for copies of key contracts, this makes sense: The potential buyer wants to see if there is anything in those contracts that would be red flags or risks.
Conversely, you will receive requests for data that either doesn’t exist, would be extremely difficult or impractical to gather, or doesn’t materially support the three objectives mentioned above.
Put another way, it is not uncommon for potential buyers (typically their analysts!) to default to always asking for more detail – regardless if that detail is relevant. For example, let’s say your company budgets by month, and you have provided a monthly budget. But the potential buyer asks for a weekly budget. You must really understand why the buyer needs that budget, and you shouldn’t be afraid to (politely) decline to stretch your team to acquiesce to the request.
#2 – Understand the true objective of the request.
In a perfect world with unlimited resources and flawless, accessible data, you (and your hypothetical large team of data analysts!) would respond to each and every detailed and obscure diligence request with exactly what the potential buyer requested.
Of course, reality brings very real limitations on what data is available. Generally speaking, any given response to a due diligence request should:
- Determine what question the potential buyer is truly trying to answer.
- Determine if existing / prior documents can satisfy their request.
- If necessary, reframe or refocus the request to align with available information.
- If there remains an open request:
- Determine what analysis you can run to possibly address the request.
- Before commencing, communicate to the requestor your planned deliverable and conservative timing.
Let’s run through a hypothetical example: The potential acquiror has requested revenue by customer, by product, by week for the past 10 years. Now clearly, if this is a report that you have and can be generated easily, you’d run the report and provide it promptly.
However, if that is not the case, run through the checklist below:
- Follow up with the requestor to understand what they really want to answer. Is it concerns with customer concentration? Analysis of specific products? Is weekly data meaningful or would monthly (or yearly) suffice?
- After clarifying the request, is there data already in the dataroom that will address the root of their question? Or is there a readily available report you can generate that will satisfy their request?
- Perhaps you have the data they want, but in a monthly format, not weekly. If weekly data is unavailable or impractical, attempt to reframe their question such that your available information will work.
- If their request remains open / unaddressed by existing information:
- Utilize your knowledge of internally available data across your systems to determine a possible analysis you can provide.
- Communicate with the requestor that you can develop said report in X number of days, and confirm with them that this analysis would be sufficient.
Utilizing the above steps can help reduce overload and fatigue for you and your team and allow you to focus on the most critical and relevant requests.
#3 – Future-proof your diligence responses.
As you create reports and analyses to address buyer requests during the sell-side due diligence process, build files with ALL potential buyers in mind. That is, you might be responding to a request from one specific buyer, but it is highly likely other potential buyers will also have some sort of similar request. Document your process for pulling and organizing data so that when you get a similar request, you can either use the same file (you already built), or be in a position to quickly repeat the analysis.
As appropriate, you might even want to consider sharing analyses created for one buyer with all of the other buyers. If one potential buyer found your revenue-by-customer analysis useful, it is highly likely other potential buyers would also find this information useful and it could be added to your dataroom.
Finally, document in detail all of the data sources and adjustments in each of the analyses you perform. The time spent documenting is well worth it when the potential buyer eventually wants it updated with the next month’s data, or there is ever a question about how the data in analysis A compares to analysis B, for example.
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About the Author
Mitch has over 13 years of finance and systems experience across entertainment, engineering, and technology industries in both private and public companies. As a consultant, Mitch has advised on M&A and capital raise projects, provided post-merger integration services, created budgeting and forecasting models, and performed financial system implementations including NetSuite and Tableau. Prior to 8020 Consulting, Mitch worked at AECOM, Hulu, and Yahoo where he served in both corporate finance and corporate development capacities. Mitch began his career as an investment banker at Wells Fargo Securities, providing investment banking services to middle market clients. Mitch completed his undergraduate work at Claremont McKenna College and earned his MBA from Washington State University.