Consider due-diligence factors when buying, selling, merging businesses

The following checklist, compiled by Danny Lobina, director of the Missouri Small Business & Technology Development Center at Moberly Area Community College, identifies important issues that should be considered when buying, selling or merging businesses.

"This detailed list covers virtually all aspects of ownership and can be used in whole or in part to conduct due-diligence research for the purpose of buying or selling a business," says Lobina.

The list provides an easy, systematic, step-by-step process to follow. It is designed to reduce the risk involved when buying or selling a business, according to Lobina:

A. General Financial Information

• Previous (up to three years if available) annual audited / unaudited financial statements as well as interim period (monthly / quarterly) for current year
  
• Current prospective financial data (i.e., budgets / forecasts) with detail of assumptions
  
• External and internal auditors' reports (annual and quarterly), permanent files, management letters and regulatory examination reports received / issued in the last three years.
  
• Consolidating general ledger or trial balance for detailed accounts for the latest two fiscal years, current year quarters and stub period
  
• Schedule of prepaid expenses and other assets
  
• Schedule of financing arrangements such as guarantees, pledges, factoring arrangements, credit lines, letters of credit, etc.

B. Cash/Investments

• Latest annual and interim / current cash flow statements
• Detail of latest quarterly and monthly cash and cash equivalents balances
  
• Description of short-term and long-term investments and copies of investment statements for latest annual and interim periods

C. Accounts Receivable

• Schedule of accounts receivable by category for the latest annual and interim periods and comparable periods
  
• Credit policy and collection procedures
  
• Latest annual and interim period aging analysis and trends, allowance for uncollectible accounts and past write-offs

D. Property and Equipment

• Fixed-asset policy including depreciation methods and lives used for book and tax purposes
  
• Maintenance procedures and expenditures
  
• Schedule of fixed assets for the latest annual and interim periods including date acquired, original cost, accumulated depreciation, net book value and appraised value (include appraisals)

E. Purchased and Developed Software

• Accounting policy for software development and purchased software
  
• Schedule of purchased and developed software as well as the amortization schedule and write-offs for the latest annual and interim period

F. Accounts Payable and Accrued Liabilities

• Detailed schedule of accounts payable and accrued expenses for the latest annual and interim periods
  
• Schedule of the top five vendors from latest 12-month period
  
• Schedule of commitments to customers - product deliverables, consulting agreements, etc.

G. Revenue

• Copies of the five largest contracts for the current year
  
• Description of the procedures for contracting and billing maintenance
  
• Detail of revenue for last 12 months
  
• Description of the sales force, including sales offices and service facilities, including compensation structure

H. Product Expenses & Other Operating Expenses

• Operating expense detail for the last annual period and latest comparative interim periods
  
• Listing of outside contractors
  
• Detailed schedule of general and administrative expenses and payroll expense

I. Taxes

• Schedule of states and local jurisdictions in which the Company currently files tax returns and pays taxes, including income, property (personal and real), payroll and sales and use taxes
  
• Federal income tax returns for the past two years, and all state tax returns filed during the past three years
  
• Schedule of completed tax examinations/audits from the past five years and all tax examinations/audits in progress or scheduled to be performed.

J. Corporate Records (if applicable)

• Certificate/Articles of incorporation, determination or organization (or similar documents), including any amendments thereto
  
• By-laws, operating agreements, partnership agreements (general or limited) or similar documents, including any amendments thereto (if applicable)
  
• Schedule of officers, directors and committees of the board of directors (if applicable)
  
• Stock book and stock ledgers (if applicable)
  
• Shareholder agreements, proxies, voting trusts and similar agreements (if applicable)
  
• Agreements relating to registration or preemptive rights for any class of security
  
• Offering materials and closing documents from prior financing
  
• List of jurisdictions (domestic and foreign) where the company is (or should be qualified) to do business
  
• Schedule of locations (by street address, city, state and country) at which the company has offices, conducts business or stores inventory or equipment, since inception.
  
• Schedule of owned real property
  
• Schedule of leases and subleases for real property and facilities, including location, square footage, rent and lease term and renewal options
  
• Schedule of material suppliers and other third party service providers
  
• Schedule of property, key personnel, liability, and worker's comp insurance policies (including current and pending insurance carrier, policy limits, deductibles, retroactive premium adjustments and other special arrangements), and copies of all such insurance policies and contract
  
• Press releases relating to the company, its management or its products and services

K. Intellectual Property

• Schedule of owned or proprietary technology, systems, equipment, or property
• Trade names, brand names, trademarks, service marks, logos and slogans;
  
• Patents, patent rights, innovations and designs;
  
• Copyrights;
  
• Trade secrets and other industrial property rights, including all processes, know how, technical data and shop rights
• Schedule of third party intellectual property sold, licensed or otherwise distributed by the company
  
• Schedule of third party intellectual property necessary for the company to conduct business in the ordinary course
  
• The name(s), address(es) and phone number(s) of counsel and any other person(s) responsible for application, maintenance and protection of trademarks, copyrights, patents and other intellectual property rights

L. Material Agreements

• Agreements with customers and clients
  
• Consulting, development and work-for-hire agreements with, or for and on behalf of, customers and clients
  
• Marketing agreements distributorships, sales representatives, co-packaging, re seller, franchises and referral agreements
  
• Leases with respect to tangible personal properties (including equipment)
  
• Joint ventures, joint development agreements and other working arrangements
  
• Non competition, exclusivity and non-solicitation agreements, in favor of the company or by which the company is bound, or by which the company's key employees may be bound to third parties
  
• Other confidentiality and non disclosure agreements, in favor of the company or by which the company is bound
  
• Employment (including incentive and severance agreements), agency and independent contractor agreements
  
• Agreements or arrangements with management, employees, shareholders and other affiliates (including any loans or management fee arrangements), or with which any of them have a relationship
  
• Outstanding agreements or commitments for capital expenditures
  
• Agreements with investment bankers, brokers and similar advisors
  
• Intercompany agreements
  
• Leases and subleases (including all amendments, supplement and addendums)
  
• Contracts, rights of first refusal or options to purchase, sell or lease real property
  
• Loan agreements, lines of credit, indentures and other debt instruments, including notes payable and guarantees (by or in favor of the company), and any other agreements collateralized or secured by the assets
  
• Security agreements affecting assets or properties, and all currently-effective financing documents, such as sale and leasebacks and installment sales, and all liens and financing statements
  
• Agreements relating to past, current or proposed mergers, acquisitions or dispositions, including transactions involving subsidiaries, divisions, product lines and other substantial assets
  
• Powers of attorney
  
• Consents and approvals required under law or contracts, leases, licenses and other agreements necessary for the company to complete the present transaction
  
• Other material agreements to which the company is bound or which are necessary for the conduct of the company's business

M. Personnel and Employee Benefits

• Schedule of officers, directors, employees, independent contractors and consultants, and their respective titles, length of service, current compensation and benefits, compensation history since employment or engagement, and contractual severance obligations
  
• Schedule of employee benefit plans, including pension, bonus, commission, profit-sharing, stock option, deferred compensation, incentive, retirement, 401(k), medical, disability, salary continuation, executive benefit, fringe benefit, management perquisites or golden parachute/change-of-control payments
  
• Copies of plan documents, trust agreements and insurance contracts
  
• IRS forms (including schedules and attachments) for past three years
  
• Evidence of compliance with state or federal COBRA (including form of COBRA notice)
  
• Copies of requests for audits of employees made by the U.S. Department of Labor, OSHA, OFCCP and any other federal, state or local agencies during the past two years, and documents summarizing the results of any such audits and any disposition of violation or citations issued as a result of such audits
  
• Policy and personnel manuals, including policies and procedures with respect to vacation and sick time, harassment and equal opportunity
  
• If the company has more than 25 employees:
  
• Information on confidentiality or non-competition agreements to which key employees and consultants may be a party currently or from prior employment or engagements
  
• Management perquisites or arrangements, contracts or loans between the company and any shareholder, officer, director, employee or consultant or any entities or persons with which such persons have a relationship
  
• Any information on retiree welfare benefits other than COBRA or state continuation coverage requirements
  
  
• If there are at least 50 employees, evidence of compliance with FMLA
• Any communications to or from any governmental or regulatory agency with respect to any plans
  
• If the company or any affiliate of such company (at an 80 percent ownership level) has entered into any collective bargaining agreements with a union:
  
• Information with respect to any multi-employer plans that the company or any affiliate has any obligation to contribute to or has had an obligation to contribute to during the past six years
  
• With respect to such multi-employer plans, the following: record of contributions for the last three years, calculation of potential withdrawal liability pursuant to ERISA Section 4221(c), and a description of pending claims against the employer for complete or partial withdrawal

N. Litigation, Investigations and Other Disputes

• Schedule and description of pending or threatened litigation, claims and other disputes
  
• Schedule and description of government, regulatory or administrative proceedings, inquiries or investigations
  
• Pleadings, filings and correspondence relating to the matters requested in the preceding two items.
  
• Legal opinions rendered to the Company in the last three years.
  
• Inquiries with respect to the company's rights or ownership in or to internet domain names
  
• Judgments, consent decrees, injunctions or other orders
  
• Settlement agreements
  
• Schedule of warranty claims
  
• Correspondence and other written materials

Contact your local Missouri Small Business & Technology Development Centers assistance with small business issues.

This story was featured in the January 2011 newsletter