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Buyer Due Diligence
Buyer’s Side (or Merger Participant’s) Financial Due Diligence Investigation Checklist
Note: If the proposed transaction is a merger rather than a purchase/sale,
the due diligence procedures in this checklist are appropriately
performed by both the acquiring and target merger participants.
Due Diligence Procedures for Assets of Target Business
- Cash is generally not included in sale. However, cash accounts
should be reviewed for large and unusual transactions in the period
preceding the deal. In a merger, cash may either be included or
“stripped out” of the target.
- Accounts Receivable, if included in sale:
- Obtain and review aged accounts receivable schedule.
- Review status of customers or clients with large balances.
- Look for and inquire about any receivables from owners, officers, employees, or affiliates.
- Determine if receivables have been factored (borrowed against). This can be done by conducting UCC filing search.
(usually completed by the closing attorney
- Obtain seller/merger participant’s representation that all borrowings secured by receivables have been fully disclosed.
- Consider subjecting receivables balances to ratio analysis (see Appendixes 3A and 3B for guidance on using ratio analysis).
- Inventories:
- Consider taking physical inventory to establish existence and condition of inventory.
- During the physical inventory, be alert for old, obsolete, or damaged goods.
Make sure those items are written down to salvage value.
- If work-in-process is significant, it should be scrutinized to make sure that it
is properly valued and that its carrying amount is recoverable.
- Determine whether there is any inventory held on consignment or consigned to others and whether it was accounted for properly.
- Compare inventory values on financial statements to insured values.
- Review insurance loss payable provisions to uncover borrowings against inventory.
- Consider subjecting inventory balances to ratio analysis.
- Equipment:
- Review repair and maintenance accounts to see if needed work has been postponed to dress up earnings in presale period.
- If equipment is specialized and expensive, consider engaging professional appraiser to assess value and condition.
- Obtain seller/merger participant’s representation that all liabilities secured by equipment have been fully disclosed.
- Review insurance policies to compare insured values to values represented by seller (or assumed by buyer).
- Review loss payable endorsements to uncover borrowings secured by equipment.
- Leased Equipment:
- Verify with lessor (preferably in writing) that leases can be assigned to buyer (or merger survivor), if that is the intention.
- Verify that financial projections reflect any assumed purchase options at end of lease terms.
- Obtain seller/merger participant representation that all leases have been fully disclosed and that
leased equipment has not been shown as owned on balance sheet.
- Review the actual lease agreements.
- Real Estate Assets:
- Consider engaging professional appraiser to assess value and condition of properties.
- If appropriate, charge seller/merger participant with making needed repairs prior to
closing or reduce purchase price/merger consideration accordingly.
- Consider engaging environmental engineer to assess potential environmental problems.
- Obtain seller/merger participant representation that all known actual and potential environmental
problems have been fully disclosed.
- Review ownership documents and zoning standards for unanticipated restrictions on use of property.
- Review insurance policies and property tax statements to compare insured and assessed values to
values represented by seller/merger participant (or assumed by buyer/co-participant).
- Obtain reports from title insurance company or have abstract of title prepared to verify
ownership and check for liens against properties.
- Check public records for tax liens.
- Obtain seller/merger participant representation that all borrowings and liens against properties have been fully disclosed.
- If real estate is subject to favorable mortgages, verify with lenders that these can be assumed by buyer.
- If transactions will cause increased property tax assessments, make sure financial projections reflect higher tax expense amounts.
- Leased Real Estate:
- Review the provisions of the lease agreement to obtain an understanding of the lease terms.
- Verify with lessor (preferably in writing) that leases are assignable to buyer.
- Investigate renewal terms for leases that will expire in the near future (often, renewal provisions will be significantly less
favorable than existing terms). Adjust financial projections accordingly.
- Verify with lessor that there are no unpaid lease obligations beyond those disclosed by seller/merger participant.
- Check zoning standards for unanticipated restrictions on use of the leased premises.
- Obtain seller/merger participant representation that all leases have been fully disclosed and that leased
real estate has not been shown as owned on balance sheet.
- Intangible Assets (Trademarks, Franchises, Patents, Customer Lists, Workforce in Place, etc.):
- Make sure that all material statutory and no statutory intangible assets have been identified and that the proposed transaction
includes legal transfers of all intangible assets and rights that buyer/merger survivor intends to acquire.
- For “statutory” intangible assets, review patent documents, copyright registrations, etc., to verify that
seller/merger participant is rightful holder.
- Obtain seller/merger participant representation that statutory intangible assets in question have not been assigned to
third parties or used as security for borrowings.
- Consider obtaining certified copies of documents establishing existence of statutory intangible assets (patents, copyrights, etc.)
from applicable governmental offices.
- Determine remaining number of years of statutory protection for statutory intangible assets.
- For franchises, verify that franchise rights can be assigned
to buyer/merger survivor, determine if franchiser will charge
a transfer fee, and determine remaining term under franchise
agreement.
- For “non statutory” intangible assets (such
as secret processes and customer lists), determine if value
is affected by expiring no compete agreements with a previous
seller, predecessor entity, or former key employee, or by
other foreseeable events or market conditions.
- Determine tax accounting treatment of purchased statutory
and non statutory intangible assets if they are material.
- If relevant, determine financial accounting treatment
for purchased statutory and non statutory intangible assets
if they are material.
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