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Vendor Due Diligence When Selling a Business

In Short

  • Vendor due diligence is the process of getting your business in order before selling it. This helps attract the right buyers and can increase your chances of a successful sale.
  • Key areas include reviewing your financial records, intellectual property, employee contracts, leases, supplier and customer agreements, and ensuring corporate approvals are in place.
  • Organising your documents and setting up a clear data room makes the process smoother and shows buyers that your business is well-managed.

Tips for Businesses

Start preparing for due diligence early to avoid delays or price negotiations later. Make sure your company records are up to date, your contracts are assignable, and all necessary approvals are in place. Check for any legal risks, such as litigation or unresolved employee issues. Use a virtual data room to keep your documents organised and easily accessible. Working with a lawyer can help you manage the process and present your business in the best possible light.


Table of Contents

When selling your business, it is vital to get your business into the best position possible before offering it for sale. As the seller or ‘vendor,’ you need to consider what approvals are necessary before you can legally sell. In a business sale, due diligence refers to the process of investigating the critical facts relating to a business, including its legal and financial position. Generally, the buyer will undertake due diligence, though there are steps you can take as the vendor to ensure your business is in an ideal position to attract the right buyers for the optimal price. This article explores vendor due diligence when selling a business.

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The Ultimate Guide to Selling a Business

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This How to Sell Your Business Guide covers all the essential topics you need to know about selling your business.

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What is Due Diligence?

Vendor due diligence (DD) is the process of investigating the critical facts relating to purchasing a business. Business sales that undergo proper and thorough DD have a higher potential for success. By conducting a thorough DD, you place yourself in the best position to make informed decisions. While the DD process can be costly, it is a justifiable expense when compared to the risks associated with failing to conduct proper DD. 

Typically, the buyer will conduct DD to ensure that any claims you make about your business are true. The following section explores key areas a buyer will review and analyse to help you prepare for the business sale. 

Corporate Matters

This area involves understanding what corporate approvals are required to affect the sale. In particular, you should review your company constitution and shareholders agreement (if you have one) as it might detail a specific process that you must follow when selling. 

The purchaser would also be interested in confirming whether you have the power and authority to enter the sale. As such, they will check your corporate members register and ASIC’s records, so be sure these are both updated and correct.

To prepare, you should make the following documents ready for the purchaser:

  • constitution;
  • shareholders agreement; and
  • members register.

Financial Matters

If you have borrowed cash from a lender or entered into any other forms of financing, there is a good chance that a lender has taken a security interest over general or specific assets of your business. A diligent lender would have registered this on the Personal Property Security Registry (‘PPSR’). You should be ready to provide any documents that record or evidence such transactions, including loan and security documents.

Employment Matters

If your employees are to be transferred to the purchaser in the sale, the purchaser will want to check employment contracts, records and any arrangements entered into with employees. Ultimately, they want to confirm that everything is in order and that you have complied with all regulatory requirements. 

A purchaser will be most interested in those employees whose absence would be detrimental to the functioning of the business. 

Areas of concern to a purchaser include:

  • employee rights, including salaries and period of employment; 
  • compliance with wage and superannuation requirements;
  • leave accruals; and
  • immigration and visa compliance.

Intellectual Property

Intellectual property (IP) can be one of the most valuable assets to a business. Therefore, you should ensure you have correctly registered any trade marks, designs or patents with IP Australia. Also, note that if the sale includes the transfer in ownership of websites or social media accounts, you will need to prepare a list containing login details. 

Land and Leases

If you agree to transfer the rights to any premises you own or lease to the purchaser, a diligent purchaser will want to ensure that your land is free of any third-party interests. For land that you own, this would include financial arrangements such as a mortgage with a bank. With leases, the purchaser will want to make sure your lease has assignment clauses so that you can assign your obligations under the lease to the purchaser upon settlement. 

Depending on how much time is left on your lease, you could expect a purchaser to negotiate whether the lease: 

  • is to be terminated and dealt with afresh; or
  • needs to be renewed by you prior to the sale completing.

Litigation

Threatened, impending or settled litigation will pose a financial risk to any purchaser. Although the purchaser is buying your key assets as opposed to buying your company, a court could, in theory, issue an interim order preventing assets from being sold or transferred during the course of litigation. 

As the vendor, you will likely have to provide a warranty to the purchaser that makes you liable for failing to disclose any current or impending litigation within your knowledge.

What Documents Will I Need to Prepare?

Financial Information
  • profit and loss statements;
  • balance sheets and cash flow statements;
Asset and Intellectual Property Lists
  • a list of the company’s tangible and intangible assets;
Lease Documents
  • copies of your lease;
  • invoices for rent;
  • insurance policies;
Employee Lists and Contracts
  • a list containing the non-personal information of your employees;
  • the employment contracts for key employees;
Supplier and Customer Contracts
  • copies of any material contracts between the company and third parties; and
Licences and Permits
  • any permits required to run your business.

Approvals

When transferring your business, you will need to obtain certain corporate and third-party approvals. 

Corporate Approvals

Certain business decisions require certain corporate approvals from either the company’s directors or shareholders. You will need to check your shareholders agreement, if you have one, and your company’s constitution to determine what corporate approvals are required to sell your business.

Commercial Contract Consent

As there are other parties to your commercial contracts, a purchaser will require you to transfer your rights and obligations under those contracts to them. The contracts you have with your suppliers, customers, lenders and landlords will hopefully contain transfer provisions setting out how to effect such a transfer. The purchaser will want to analyse your key supplier and customer contracts to see whether they contain a mechanism for transferring them to the purchaser. 

Depending on the circumstances and nature of the sale, a purchaser may reasonably expect to review either:

  1. all of your commercial contracts; or 
  2. an agreed number of your most substantial contracts.

You must reach an agreement with any party you contract with, such as a landlord, as to whether contracts will be assigned to the purchaser or renegotiated afresh. 

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Due Diligence Timeline

The due diligence timeline will roughly look as follows:

  1. documents are requested by the purchaser;
  2. documents are provided by you to the purchaser; 
  3. the purchaser issues ‘requests for further information’;
  4. you provide answers to the requests for further information; and
  5. the process is completed and the purchaser compiles a due diligence report.

1. Documents Requested

The purchaser will send you a list of the general types of business records they would like to inspect. This can also extend to a request to inspect the premises and equipment.

2. Documentation is Provided

Depending on the level of complexity of your sale, you will be required to provide the requested documents to the purchaser. On larger deals with a substantial number of documents, this is most commonly done through a virtual “data room”. These are secured services where documents can be provided by the vendor and viewed by the purchaser. On smaller deals, this can be conducted via email or document-sharing platforms such as Dropbox or Google Drive. 

You should ensure you have a well-structured data room from the beginning. A muddled data room looks unprofessional and can affect how a purchaser perceives how your business runs and your records are kept. A properly structured data room will also reduce the time and costs involved in professional fees.

3. Requests for Further Information (‘RFI’)

It is common for a purchaser to request further information through a RFI. This is commonly done on a Word document or spreadsheet and will be sent back and forth between the parties until all queries are adequately resolved and sufficient information is provided.

4. Process Complete

The purchaser will compile a due diligence report based on their assessment of the documents in the data room and your responses to their RFIs.This report will be used by the purchaser to make an informed decision. The purchaser will either:

  1. proceed at your asking price;
  2. attempt to re-negotiate a reduced price based on their findings during the DD process; or
  3. decide that the business is too risky to purchase and not proceed with the sale.

Key Takeaways

Selling your business will involve steps to ensure your legal, commercial and financial matters are in order. Otherwise, you risk dissuading potential buyers from proceeding with the sale. Just as the buyer will undertake due diligence to ensure the state of your business matches your claims, you should also undertake processes to get your business in an optimum position for selling. 

If you need help with your business sale, our experienced sale of business lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 1300 544 755 or visit our membership page.

Frequently Asked Questions

What is vendor due diligence?

Vendor due diligence is the process of investigating the critical facts relating to purchasing a business. It involves assessing your business’ corporate, financial and employment matters, as well as intellectual property, leasing and litigation issues (if any). Vendor due diligence aims to ensure these matters are all in order to attract buyers in a business sale.

What is a Request for Further Information?

As due diligence is an active process involving many documents, a buyer might send you a Request for Further Information (RFI). Commonly, parties will use Word document or a spreadsheet and the document will go back and forth between the parties.

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Ashton Sesel

Ashton Sesel

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