What is a due diligence report, and when is one needed when buying a business?

A “due diligence report” raises two questions: what is it, and do you have to get one? The sources cited here describe due diligence as a process the buyer carries out, not as a single required document. The reports that come out of it are written by the advisers you choose to involve, and what you commission is a decision for you and those advisers.

What the review covers

BDC says due diligence gives crucial information on a target’s finances, prospects and legal issues. It describes the work in three parts: commercial, financial and legal. The seller provides commercial, financial, legal and other information so the buyer can understand how the business works. BDC adds that the review lets a buyer test early expectations and confirm that the initial valuation and letter of intent still make sense.

Reports a buyer can commission

BDC says an accountant can help analyze the company’s financial records, and that a buyer who wants a more detailed look at the finances can have an accountant prepare a quality of earnings report. It also says a lawyer can assist with the letter of intent, draft the purchase agreement and conduct legal due diligence. Before you hire anyone, ask what written deliverable you will receive, what it covers and what it leaves out. Environmental and distressed-business questions have their own pages: see environmental due diligence in an asset purchase and extra due diligence for a struggling business.

When it happens

BDC says both parties usually want to sign the letter of intent, or a similar document, before launching formal due diligence. Once the main terms are listed in the letter, BDC says, it is time to proceed with thorough due diligence. The next step after that is due diligence and negotiating the purchase agreement. BDC also lists a purchase price range among a letter of intent’s terms, and says the final amount depends on the due diligence.

What the findings can change

BDC says what you learn could change your perception of the deal and even make you walk away. It also says that if the seller cannot provide the documents you ask for, you may have a chance to renegotiate the price. In a separate article on owner liability, BDC calls due diligence the most important thing a buyer can do to protect themselves when buying a business in whole or in parts.