Due Diligence is a rigorous and demanding exercise, requiring input from a raft of professional advisors, including M&A consultants, corporate finance lawyers and specialist tax advisors. The time and expense involved means that when proceedings fail, it is a painfully expensive headache for both buyer and seller.

Despite the presence of astute minds around the table, Due Diligence proceedings can fall over for a variety of different reasons, especially if you are not wise to the hidden dangers. Below we discuss a few of the major issues that arise during due diligence, leading to likely deal collapse.

Funding Fails

In the ideal scenario sellers would only engage with buyers that have a significant cash reserve to call upon, evidenced by a strong balance sheet, or with backing from a larger parent company, group or Private Equity/financial investors.

Acquirers can deploy creative deal structures to close the gap between their war chest and the seller’s aspirational deal value to avoid disappointment. This could include Seller Financing, such as an Earn Out, or an Equity Roll Over, requiring the management team to retain some equity in the business post-sale.

Where there is limited capital available to the acquirer, and a third-party funder is required, then careful scrutiny of the funding arrangements is required. Their offers may be wholly dependent on a bank, asset-based lender or some other institutional lender, who may well disagree with the valuation, potentially causing the deal to fail.

Private Equity funding can be equally perilous, where investment committees have absolute authority to strike down a partner’s proposed deal. In smaller PE firms the deal will still be subject to investors, who depending on sentiment could also pull their backing for the deal, if the acquisition does not meet the firm’s investment thesis.

Top tip: Ensure the purchasing party has sufficient funds to proceed with the transaction prior to entering into exclusivity/due diligence proceedings. In the event that a third-party funder is involved, be flexible and work with the buyer to ensure that the deal can complete, subject to the appropriate mitigation.

Seller Underperformance

Most advisors would acknowledge that selling a business where the financials were nose-diving is an arduous process, which applies doubly if the business in question is under the scrutiny of due diligence. Selling a business is a demanding and intense process for company owners, naturally as a consequence some owner managers take their eye off the ball.

The absolute worst-case scenario in this respect is when the forecast revenue and profit numbers are significantly adrift of target, based on the preceding monthly management accounts. For sellers to admit missed forecast targets can mean seeing the overall value/price chipped.

Additionally, some transactions will have contingent elements tied to achieving the forecast result. Failure to meet agreed financial targets can lead to the entire structure of the deal changing, reduced/forfeit consideration/payments, not to mention increased legal fees.

Top tip: Ensure senior management continue to drive the business forward during the sale process. Targets should be hit and exceeded, where possible, ensuring that the business remains a highly attractive acquisition target and that offers are not discounted due to underperformance.

Misaligned Senior Management

Shareholders are best advised to ‘carry’ management along with them on the acquisition journey, revealing the sale at the most appropriate moment to achieve consensus and buy-in.

There are occasions where senior managers, responsible in large part for driving revenue and achieving objectives can revolt against a transaction. In one example, an acquirer presented the Newco org chart, with two management team members’ roles marked as ‘redundant’ – the quarrel that ensued stopped the deal dead in its tracks.

Imagine a scenario where one senior management team member holds the top twenty client relationships. The value of those contracts could disappear should he or she choose to jump ship, if they do not like the incoming new owners. This is a very real danger and on occasion has been known to de-rail a deal.

Top tip: The use of what is metaphorically called a Golden Handshake or Golden Handcuffs could provide a contractual obligation for managers to align with the deal, combined with the financial appropriate incentives.

Unresolved Legal Claims

Litigious activity is not unknown for larger SMEs and any pending matters, whether a contractual dispute with a supplier or tribunal hearing with an employee, unresolved legal claims can result in a significant delay to a transaction.

Navigating the pitfalls of outstanding legal disputes and mitigating their impact on the sale is both the domain of the Sell Side advisor and Corporate Finance lawyer. The advisor should ensure the acquirer can view the claim in the round, highlighting mitigating factors.

During Legal Due Diligence, the Corporate Finance lawyer can discern the correct instrument to be applied to the dispute, potentially using Warranties and Indemnities to protect the acquirer should an outstanding legal claim turn adversarial. Caveat emptor!

Top tip: Preparing well for a sale should include a SWOT analysis of the existing operation and where required, specialist legal advice to address any concerns related to outstanding legal disputes. Having the right advisors around the table will save both time and unnecessary expense.

The EVOLVE platform by EvolutionCBS

Being well-prepared for the sale of your business is critical and having the right advice en route to engaging with serious buyers is a process that should not be side-stepped. Based on years of experience in deal making the Evolve platform will put you ahead in terms of preparing for exit, engaging with high quality acquirers and maximising the value of your business.

EvolutionCBS’ Evolve platform will provide you with a comprehensive suite of consultancy services and strategic support, aimed at maximising the value inherent in your company and minimising the risk of selling at a diminished price.

Led and supported by a team of M&A specialists the plan will enable business owners to benefit from CFO-level Scrutiny and a Financial Alignment plan, as well as strategic and operational input, alongside preparing effectively for a sale.

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If you would like a no-obligation consultation on the sale of your business or would like to discuss our Business Valuation Service, click here.

As a long-established premium provider of business sale advisory services to UK businesses, EvolutionCBS offers business owners a complimentary and confidential discussion on how their specific objectives could be met and provides them with pragmatic, practical advice on how to begin preparing both themselves and their businesses for future sale or investment.

EvolutionCBS works with owners of UK businesses in any sector, finding buyers from around the world through highly targeted research and supporting clients with dedicated Director-led teams, at every stage of their journey to a successful sale or investment.

If you are an owner or shareholder of a business and would like a no-obligation consultation on the sale of all or part of your business, please email: info@evolutioncbs.co.uk   or contact us on Tel: 0118 959 8224.