Reverse due diligence is often known as sell-side due diligence. It refers to when a sell-side company performs due diligence on itself to assess the company’s business model for sale before presenting to prospective buyers. It also refers to when the sell-side company performs an analysis of a potential target to assess its model before deciding to close the transaction.
A comprehensive reverse due diligence involves an extensive assessment of quality of earnings, quality of assets, tax due diligence, commercial due diligence (especially if the future revenue of the company is highly associated with sale) and operational due diligence (if the operation plays a critical part in valuing the company). A reverse due diligence is performed before the kick-start of a sale process in order to provide the seller more room to correct and modify the deal.
There are some advantages for doing a reverse due diligence.
- It helps to provide the seller some time to find flaws with the company before selling to the buyer. This helps the seller to buy some time to formulate an explanation of the flaws or weaknesses
- It also assists the seller to prepare some anticipated questions and supporting documents that are requested by the buyers. This is necessary as all the prepared questions and document would help to substantiate certain business model of the seller company and thus convince the buyers to clinch the deal during the negotiation phrase
- A reverse due-diligence can keep the prospective buyer in a longer sale process and thus reduce the competition among the potential sellers. This will then allow the investment banker to maximize the price and structure for the sell-side company. Also, if the reverse due-diligence is done extensively, it can minimize the exclusivity period, as the buyer only needs to extend the data required to validate the investment thesis.
It is important to know the right time to utilise the reverse due diligence.
- The seller’s system is not as complex as it is expected to give the buyer a difficult or tedious time to extract the required data and documents.
- It could be used in complicated situation where it is difficult to identify operation earnings due to mixed costs and standalone costs.
- · It is used in situation where there is a lack of seller resources to prepare for sale and the seller is not audited (putting the company in a vulnerable position to complicate accounting issues).