When launching the due diligence phase of an M&A transaction, knowing where to start one’s analysis can prove a daunting task. Imperfect information, unsophisticated parties and abridged timelines are all potential hurdles to overcome in a successful deal.
The following are five common areas of focus that many times lead to the largest pre-deal renegotiations of value.
- Owner’s CompensationOftentimes owner compensation is distributed in many areas of the income statement, making it difficult to find how much cash is flowing out to the owner. Many payments will not even show up on the income statement (Distributions/Loans).
- Revenue RecognitionFrequently, the target recognizes revenue on a cash/non-GAAP basis. Analysis of historical GAAP revenue is critical to understanding the future impact of the target’s operations on your company.
- Customer ConcentrationsEven if a target has many customers, certain clusters of that customer base may drive significant profit or significantly negatively impact profitability.
- InventoryLack of inventory management controls can dramatically distort gross margin and net income, swinging results from positive to neutral/”no-go.”
- Related Party TransactionsRelated Party Suppliers or Customers can dramatically impact results of operations. Care must be taken to fully identify these transactions and to understand the post-deal impact of such arrangements.
While these “high-value” areas of focus may be the first to delve into, a number of other potential pitfalls may exist. Whether you are on the buy-side or sell-side of an M&A transaction, reach out to an experienced financial services professional for guidance and support.