Due diligence refers to the exercise of reasonable care prior to committing to the acquisition or establishment of a new business. It involves a detailed study of all aspects of the business and will attest to the accuracy of any conclusions of prior feasibility studies.
Due diligence or business review is an essential step in evaluating a target business or new business venture. Whilst representations and warranties may be made by the vendors, it is not sufficient to place total reliance on such clauses.
The level of work undertaken in a business review will depend on the size and characteristics of the business being acquired. Additional work is necessary if the company itself is being purchased rather than the underlying business.
As the complexity of the business increases, the areas that should be covered as part of a business review increase.
One of the simplest of business in terms of a business review is a café. It has no debtors, no stock, gross profit levels are generally consistent across the industry, sales are in daily or weekly cycles rather than monthly or seasonal. The key drivers of the business are sales and human resources, as they are the only two variables that will have a significant impact on the profitability of the business.
Retail businesses are at the next level, whereas labour cost reduces in importance (not a service industry) but the importance of gross profits, inventory and relationships with suppliers increases.