Buying a Business and Due Diligence

Buying a Business and Due Diligence
Due diligence is the investigation, checks and balances undertaken by a prospective purchaser to ascertain whether a business "stacks up" and actually is what is claimed and presented by the vendor.
The purchase price, performance and return on investment all dictate whether the acquisition is economically viable and meets the fundamental criteria of investing in an asset.

Cash Flow
Cash may well be considered to be the foremost requirement for sustainability of a business.
Profit in itself may not be adequate to sustainability.
You must understand the data presented to you and the underlying assumptions being made regarding future cash flows.
A business may well be making profits but slow paying debtors, build up of stock and poor planning are some of the reasons a business may experience cash shortages.
Consider also revenue sources, is there a major customer which increases the risk profile of the business?

Working Capital
Management of current assets and current liabilities is fundamental to the survival of a business.
It is important to understanding the dynamics between the control of inventory, debtors, creditors and cash.
Current assets less current liabilities is a basic measure of the liquidity of a business and its ability to pay its debts as and when they fall due.
If this equation is negative, the business may well be trading while insolvent.

Future Performance
Historical performance must not be relied upon as an expectation of future profitability.
There must be a real focus on the assumptions and compilation of data presented that forecast future results.
Current internal systems, quality of assets and personnel will all have a huge impact on future performance.
Replacement of capital assets and turnover of key employees may have a large impact on cash flow and efficiencies.
Be aware of current contractual arrangements, the quality of the document and expiry dates.

Due diligence is a detailed investigation of all aspects of a business and how this will impact on future performance.
Remember, past performance, however well it may have been, is not an assurity of future results.