Due diligence is where business deals are won or lost — and CFOs are often at the center of it.
In fact, it’s not uncommon for deals to unravel in the months that follow closing, when buyers discover what they didn’t know or didn’t look hard enough to find. For CFOs leading the charge on M&As, here are eight errors that show up and why they’re worth addressing now:
- Taking the income statement at its word. Financial statements are built to summarize, not to reveal. And when due diligence stops at the prepared reports, critical details may stay hidden.
A thorough review traces transactions at the general ledger level to uncover inconsistencies, like expenses that vanish without explanation or revenue that appears in irregular bursts. These may be signals that change how you see a deal.
- Misjudging what the business is actually worth without its owner. Privately held businesses often carry expenses that exist primarily for the benefit of the owner — personal vehicles, family payroll, discretionary travel or above-market compensation. At the same time, they may underinvest in areas the buyer will need to fund immediately after closing.
Normalizing earnings means stripping out what won’t continue and adding back what will be required, to arrive at a number that reflects the true economic performance of the business.
- Treating cash as just another line item. Cash is the one metric in a financial statement that should be independently verifiable.
A proof of cash traces actual receipts and disbursements through the bank records and matches them against both management’s reconciliation and the figures reported in the financial statements. When those three numbers align, you have a solid foundation to build on. When they don’t, you may have a problem.
- Focusing on earnings while ignoring the balance sheet. Receivables that are older than they appear, inventory that’s been carried at inflated values and accrued liabilities that were underreported are all issues that can compress the true value of what you’re buying.
A buyer who walks into a closing focused only on earnings multiples and doesn’t scrutinize the quality of the underlying assets may find themselves holding much less than they bargained for.
- Missing the obligations that don’t appear on any schedule. Not every liability comes with a label.
For example, personal guarantees that a seller expects the buyer to assume or pending disputes that haven’t yet reached litigation may surface later at the worst possible time. A disciplined due diligence process actively searches for commitments and contingencies beyond the standard financial statements.
- Underestimating how the business could break. Sustainable earnings depend on stable operating conditions, and not every business is as stable as its recent performance suggests.
A company that derives the majority of its revenue from a handful of customers is exposed in ways that don’t show up in a three-year average. So is one that relies on a single supplier, a commodity input with volatile pricing or a product category where newer technology is already eroding demand.
Understanding the risk profile of a business means asking what happens when conditions change.
- Underpricing the working capital conversation. Working capital is one of the most common sources of post-closing disputes — and one of the most preventable.
Buyers who accept a target based on a single snapshot rather than historical patterns often find themselves underfunded shortly after closing. Seasonal swings, slow collections and stretched payables can make working capital look stronger than it really is. Nail down a normalized target and get it clearly documented in the purchase agreement.
- Going it alone when the stakes don’t allow for it. Internal finance teams are built to run a business, not evaluate an unfamiliar one under deadline pressure.
Bringing in outside advisors with transaction experience is how smart CFOs reduce risk and show up to the table better prepared.
Due diligence done right
Walk into your next deal with a clear picture of what you’re buying, what it’s worth and what comes next. At Magone & Company, we’ve worked alongside CFOs and business owners at every stage of the transaction process. Call us today at (973) 301-2300 to learn more.
This document is for informational purposes only and should not be considered tax or financial advice. Be sure to consult with a knowledgeable financial or legal advisor for guidance specific to your business situation.