Any prospective purchaser of another business will factor due diligence into both the budget and the timetable. Sometimes it is a legal requirement; always it is an essential part of the platform upon which informed decision-making is based.
After first establishing that the target enterprise is the right fit in overall terms, a deep dive will be initiated into more specific, technical areas and for this detailed due diligence typically input will be sought from those pillars of the professional services industry, lawyers and accountants.
The lawyers will review the relevant contracts, both external, with clients and key providers, and internal, with employees. They will also check whether there are any existing or pending lawsuits which might jump up and bite the unwary buyer.
The accountants will investigate the acquiree’s numbers, for example, revenue, expenditure, cash flow, assets, liabilities, cost structure and shareholdings.
Combined with the commercial savvy of the acquiror’s management team, this investigation will hopefully provide the required amount and quality of information to facilitate a confident contract signing ceremony or enable a relieved and hasty retreat.
This all makes good business sense but there is something missing in my view, the third leg of the process, and that is relationship due diligence or relationship diligence for short.
The vital work of the legal and financial experts is fine as far as it goes but, in essence, it’s a look over the shoulder into the past. There will be reassurances, or not, in the client agreements around revenue security but these days, beyond the realms of government IT contracts, notice periods are short and genuine protection limited.
What will really shine a light into where the target firm’s business will be in a year or two is the state of its key relationships, with influential employees, within the Board and, most important of all, with significant clients, both those which pay the big bills and those with most future potential.
A core group of committed, major clients, happy to appoint the acquiree to more business, keen to write them a testimonial, proud to recommend them to a friend or colleague, represents a gold-plated indicator of future prosperity and bankable value.
As an independent consultant who specialises in helping service buyers and providers grow and succeed by building more valuable, longer-term relationships, I am increasingly seeing enlightened purchasers benefit from the penetrating snapshot of the future which relationship diligence delivers.
From the point of view of a potential seller, also, an intelligent, proactive approach to relationship enhancement can add to the appeal of a business to a high quality buyer. If, as part of the reveal, a seller can produce a recent, objective client evaluation conducted by a credible, professional expert, then the context for the interrogation by the lawyers and the accountants is all the more positive.
Due diligence is an essential business practice. To be as effective as possible, however, it should be prospective as well as retrospective. There is no such marvel as a crystal ball but relationship diligence can provide that valuable glimpse into the future and needs to be part of every purchaser’s, seller’s and VC’s toolkit.