Financial Due Diligence – Beyond the Dream to Reality

 By Mary Whetstine

In our previous financial analysis article, Due Diligence/The Tool for Transparency, we discussed the necessity for due diligence for an investment or acquisition.  We are now going to examine the critical part of the process:

 

Financial Due Diligence

You now have made the decision to move forward with the strategic acquisition or selling of the company, the patent, the license, or the design that will take your current company to the next level.  This is where you go beyond the dream and the great idea. This is where we detach from the emotion and the energy and we ask” is there enough substance to last?”  Be prepared to do your research and know your company’s past, present and future,  because if you are to be successful with your capital requests, your private, closely held group will be turned inside out and inspected.

Financing needs and terms—why is the capital needed?  Will it be used for products or personnel?  A timeline needs to be established.  How does the funding need to flow, exactly how and when it will be consumed?  Is the company public or private?

Business Model and budgets—this may seem really basic, but know your cash flows.  What are your expenses and revenues and how they are affected by the capital? Prepare a balance sheet and detail liabilities.   Do you plan to hire people or buy equipment?  What is the burn rate?  Have your goals and objectives mapped out, short and long term?  How will the capital be used upon receipt and what is a one year milestone?  What will the company look like a year from now?  Prepare projections detailing scenarios for best, worst and most likely, include the dates and when you estimate you will break even.  Finally, what are your future funding needs and who do you see as a possible source for that capital?  What are the milestones that will have been achieved that will enhance your receiving that next round of funding?  Do not fall into the trap that by acquiring the funding you have just hit the lottery.  Demonstrate that the money will be used for solid enhancement of the business and not perks.

            Compensation—if stock options are used, know the vesting schedule as to how the plan dilutes stock.  If there are restricted shares, what are the details of the restrictions?  Determine how the founders, board and key employees are compensated and if there is a vesting schedule.

Without being able to answers these questions, there is no going forward because you don’t even know what you have, nor a justifiable value of what you are seeking to acquire or sell.  Without that full understanding of value, it will likely be a futile attempt to convince an investor that your company, the patent, the license, the design is a great investment.

Dear Reader: Can you share a financial due diligence experience that had either positive or negative results in the acquisition or selling of a company or intellectual property?

 

Next time we’ll finish financial due diligence by exploring some of the legal elements to review.  Then move on to the competition and marketing components.

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191 Responses to “Financial Due Diligence – Beyond the Dream to Reality”

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