Once you have identified an acquisition target and agreed Heads of Terms with the seller you’ll be looking to start the due diligence. The sooner you can ask for information the better. It’s rare that a target business will have everything required for due diligence to hand.
The list below is a starting point only, once this information is reviewed and analysed it will inevitably unearth further areas for investigation.
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When obtaining information, the historical period should be at least two financial years plus the current year to date. The forecast period should be at least one year, longer if it’s key to your valuation.
- Statutory accounts for the historical period.
- Monthly management accounts for the historical period (this is vital, one of the most important pieces of analysis is to carefully review for significant monthly fluctuations in sales/expenses and understand exactly why these occurred).
- Reconciliation of management accounts to statutory accounts.
- Copies of board minutes for the historical period.
Sales due diligence
- What revenue streams are there?
- Breakdown of sales by client on a monthly basis for the historical period.
- Breakdown of sales by product/service on a monthly basis for the historical period.
- What Key Performance Indicators are monitored?
- KPI data on a monthly basis across the historical period.
- Information for any one-off sales in the last two years.
- Client numbers by month for the historical period
- Have any clients expressed a desire to leave or otherwise dissatisfied?
- Specific reasons for client losses.
- When is revenue recognised?
- What are customer payment terms?
- Terms of the standard client contract.
- Do customer contracts include a ‘Change of Control’ clause?
Expenses due diligence
- Analysis of monthly gross margin and operating margin with explanations for any significant changes over time.
- What are the variable cost lines?
- What are the fixed cost lines?
- Information for any one-off costs in the last two years?
- Is ongoing business dependent upon any suppliers?
- Breakdown of costs by supplier
Cash flow due diligence
- Details of the timing of large payments/receipts (eg. Rent, software, etc)
- Bank statements for the last three months.
- Analysis of the degree of bank balance fluctuation within a month.
Employee due diligence
- Organisation chart
- What is the day to day role of the owners?
- Will replacements be required for the owners?
- Are any other employees vital to on-going operations?
- Standard employment contract
- Current salaries and benefits for each employee
- Terms of any staff bonuses or commission – (remember: a bonus may be ‘discretionary’ but that doesn’t mean the staff won’t be expecting one!)
- Details of any contractors utilised? (eg. Service provided, rates, monthly cost)
Balance sheet due diligence
- Fixed asset register at the most recent balance sheet date
- What capital expenditure plans are there?
- Does any current equipment require replacement / upgrade?
- Are there any capital commitments?
- Are there any other future contracted commitments?
- Debtors ageing report at the most recent balance sheet and each year end date during the historical period along with explanations for any items aged greater than 90 days.
- Breakdown of bad debt provision at the most recent balance sheet date.
- Details of all debtors written off or provided for over the historical period.
- Creditors ageing report at the most recent balance sheet and each year end date during the historical period along with explanations for any items aged greater than 90 days.
- Bank reconciliations for the most recent balance sheet date and each year end during the historical period
- Breakdown of accruals, prepayments, deferred income, deferred revenue at the most recent balance sheet date and each year end during the historical period.
- Has any cash been received from any clients in advance of performing all work required for that payment (these amounts should be included in the deferred revenue balance).
- Details of any loans or debt outstanding.
- Details of outstanding corporation, VAT and payroll taxes due at the most recent balance sheet date.
Tax due diligence
- Corporation Tax Returns for the last six years
- Any correspondence received from HMRC over the last six years
- Details of any tax investigations over the last six years
- If VAT is paid quarterly what months are returns made up to?
Forecasting due diligence
- What is the forecasting process?
- Was an ‘integrated model’ used when forecasting?
- Detailed assumptions used when preparing the forecast?
- A copy of last years forecast alongside actual performance?
- Explanations for any material variance between forecast and actual performance?
Accounting due diligence
- Who prepares the accounts?
- What bookkeeping systems are used?
- What is the accounts review process?
- Details of any change in accounting policy or estimation methodology during the historical period.
- Do all balance sheets balance?
- Do all balance sheets ‘roll’ (ie. Opening retained earnings + current year earnings = closing retained earnings).
- Are there any outstanding legal claims or potential claims?
- Rental agreement for leased offices?
- Details of any transactions with related parties.
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How Caprica Online Accountants can help
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