Making a Case for Capital

Many companies, Roberts says, forget that they need to charge, collect, and remit sales tax. She recalls a California company that shipped products and employed maintenance personnel all over the country. “They somehow thought, well, we don’t have to pay sales tax to any of the states where we’re doing business,” she says. Their back sales tax bill was around $100,000, and while it didn’t kill the deal, “the buyer certainly wasn’t happy. There was a purchase price adjustment.” It also delayed the deal while the buyer more thoroughly investigated other issues. “When you run into issues like that, then the radar starts going up, wondering what other problems there are,” Roberts adds.

Make sure other records and policies are updated and accurate. Ekberg says that he tells sellers to document their internal controls over accounting, expenses, reimbursement procedures, and maintain records of any changes to their capital structure. If you promised a key employee 10 percent of the company in lieu of a raise, if you’ve issued options, or if your father-in-law made a start-up investment in return for an equity stake, make sure you’ve documented those transactions and paid any associated costs.

You’ll know you’re done with the presale portion of due diligence when you’re ready to clearly, accurately, and easily answer common investor questions and document requests. “The ability to have your files organized and available and to meet the list of documents that the acquirer asks for without a lot of resistance is important,” Martin says.

Just because you have the information ready, though, doesn’t mean you’ll give it to anyone who asks. Successful sellers typically dole out information in stages: a little at the beginning, and more as a deal grows increasingly serious.

If you’re marketing your company to more than one potential buyer, prepare an executive summary describing your company. That memo should include summaries of your financial information, sales and earnings, and customers. Send it to possible buyers to whet their appetite.

“Once you’ve narrowed down who is really interested, you’ll sign a letter of intent—which carves out a period of exclusivity—with one party, and release more detailed information,” Cavanagh says. That might include more extensive financial information, projections, and equity ownership documentation. A buyer might also want to hold discussions with company management after signing a letter of intent.

The due diligence experts say that sellers should always insist that the buyer sign a confidentiality agreement before discussing company information that the buyer could use without closing a purchase deal—a secret formula or other proprietary information, for instance.

But confidentiality agreements can be hard to enforce, so some sellers add extra protections. They might keep the details of a secret recipe confidential until right before the closing, or reveal the information only to a third-party assessor. “The buyer hires an independent expert, and that expert looks at the secret recipe and gives the buyer their opinion without revealing the secret,” Martin says.

Other companies use data rooms to both control buyers’ access to data and make it more difficult to use that data without closing a deal. A physical or virtual data room contains all a seller’s documentation, but different buyers get different levels of access. A private equity company, for instance, might get to see a company’s software patents and other proprietary information during negotiations. A competitor, on the other hand, won’t get them until after closing.

A potential buyer and its representatives can take notes on what they see in the virtual data room—but they can’t copy documents. That makes it harder to break a confidentiality agreement.

Still other sellers leave elements of the deal to the very end, no matter who the buyer is. Some buyers, for instance, want to talk with a company’s customers—a conversation that sellers should delay until they’re very sure the sale will close. “Customers often get anxious if they think their relationship with a company is going to go through a change, so why get them anxious if you don’t have to?” Cavanagh asks. “I might let a buyer talk to customers the day before the deal closes.”

Whatever you decide about that situation—and the many others that due diligence presents—depends a lot on your individual circumstances. Well-prepared due diligence information and a strong grasp of the process that produces it, however, will serve you well in every instance.