How to Conduct Due Diligence When Buying a Business
You have found a business that looks like a perfect acquisition target. You've met with the M&A advisor and the seller and the meeting went smoothly, you've now submitted a Letter of Intent (LOI) and it's been accepted! You're officially in due diligence.
Now what?
Now comes the hard part: figuring out whether what you see on paper actually matches reality.
That is the job of due diligence. Done well, it protects you from overpaying, exposes deal-killing risks early, and gives you a clear playbook for what happens after close. Done poorly (or rushed), it is how smart entrepreneurs end up inheriting hidden liabilities, broken systems, and earnings that collapse the moment the deal closes.
In this guide, we will break down what due diligence really is, how to structure it, and the key questions to ask before wiring a single dollar.
Navigate Your Exit with Confidence 🚀
Introducing the Exit Navigator
Whether you're 12 months or 12 weeks from exit, our Exit Navigator gives you a step-by-step roadmap to prepare, position, and sell your tech company at maximum value. Built for founders in the $2M–$20M revenue range, this free download includes:
A deal-readiness checklist
Tips for reducing diligence friction
Red-flag risk items buyers spot quickly
Valuation drivers by business model
A 6-phase roadmap from prep to post-close
Make your exit a strategy—not a scramble.
Book your free assessment call HERE or download our Million Dollar Exit Guide for FREE HERE
What “Due Diligence” Really Means
Due diligence is the process of verifying a business before you buy it. You are testing three big questions:
Financial: Are the earnings real, repeatable, and support your offer price?
Legal: Are there any contracts, lawsuits, or hidden obligations that can hurt you after closing?
Operational: Can this business keep running, and growing, without the current owner at the centre of everything?
You are trying to understand the business well enough to decide:
Should I buy this at all?
If yes, does my original offer price still make sense?
Step 1: Start With a Clear Diligence Plan
Before you dive into files and meetings, outline a simple plan:
Timeline: 30 to 60 days is common for lower mid-market M&A deals.
Categories: Finance, tax, legal, operations, HR, technology, and commercial (customers, market).
Who does what: What you will handle yourself, and where you need outside professionals (accountant, lawyer, specialist).
Decision gates: A few key checkpoints where you either move forward, negotiate, or walk away.
Many buyers approach due diligence as a scavenger hunt to uncover what the seller is hiding. That's the wrong mindset, it comes from a place of mistrust. If you don't trust the seller, don't do the deal. Instead, go in cautiously optimistic. Your diligence should confirm that everything you believe about the business so far is true.
Step 2: Financial Due Diligence – Are the Earnings Real?
Most deals are priced on a multiple of EBITDA (earnings before interest, taxes, depreciation, and amortization). Your first job is to understand what “true” EBITDA really is.
1. Normalize the financials
Ask for:
3–5 years of income statements and balance sheets
Year-to-date results and a current trailing twelve months (TTM) view
Tax returns for the same period
Customer and product / service revenue breakdowns
Then:
Remove one-time items (e.g., lawsuit settlement, unusual repairs).
Adjust for owner perks (e.g., personal vehicles, family on payroll without real roles).
Align accounting policies (e.g., how revenue and expenses are recognized).
Your goal is a normalized EBITDA number you trust.
2. Test the quality of earnings
You are not just checking “how much” the business earns, but how reliable those earnings are.
Look at:
Revenue mix: How much is recurring or contracted versus one-off projects?
Customer concentration: Any customer over 15–20% of revenue is a red flag.
Margin trends: Are gross margin and EBITDA margins stable, rising, or shrinking?
Seasonality: Do cash flows swing heavily at certain times of year?
If the business relies on a few big customers, a single product, or an aging founder to close every sale, your risk is higher—and the price and structure should reflect that.
3. Cash flow and working capital
Profit does not equal cash.
Review historical cash flow statements.
Understand how much working capital (receivables, payables, inventory) is required to run the business.
Clarify what working capital will be left in the business at close and how adjustments will be handled.
A business that looks profitable but constantly needs cash injections is a common and painful surprise for first-time buyers.
Step 3: Legal Due Diligence – What Could Come Back to Bite You?
Legal due diligence is about avoiding landmines.
You will typically work with a deal lawyer here, but you should understand the big categories.
1. Corporate and ownership
Confirm:
The seller actually owns what they are selling.
All shareholders and option holders are identified.
There are no side agreements or undisclosed promises.
Ask for:
Articles of incorporation and shareholder agreements
Cap table and any warrants / options
Board minutes for major decisions
2. Contracts and obligations
Focus on:
Customer contracts: Term, renewal rights, termination clauses, pricing.
Supplier and landlord contracts: Term length, escalation clauses, assignment or consent requirements on change of control.
Loans and security: Personal guarantees, liens on assets, covenants that could be tripped in a sale.
A “simple” deal can get complicated fast if key contracts cannot be assigned or a landlord refuses to cooperate.
3. Employees and HR
You want clarity on:
Employment contracts and independent contractor agreements
Non-compete, non-solicit, and confidentiality clauses
Outstanding bonuses, commissions, or severance obligations
Any HR disputes or claims
People issues are often more expensive—and emotionally draining—than financial ones if they are ignored during diligence.
4. Litigation, compliance, and risk
Ask directly:
Are there any existing or threatened lawsuits?
Are there regulatory bodies that oversee the business, and is the company in good standing?
Are there environmental, safety, or data privacy issues?
You are not looking for a spotless record. You are looking for any risk large enough to change price, structure, or your willingness to proceed.
Step 4: Operational Due Diligence – Can This Run Without the Owner?
Financial and legal checks tell you where the business has been. Operational diligence tells you what it will feel like to own it.
1. Map how the business actually runs
Walk through core workflows:
How leads are generated and converted to customers
How work is scheduled, delivered, and quality-checked
How billing, collections, and customer service work
How inventory, equipment, or field teams are managed (if applicable)
Look for:
Documented processes versus tribal knowledge
Single points of failure (only one person who knows how something works)
Obvious bottlenecks that will limit growth
2. Test “owner dependence”
Ask practical questions:
Who holds the key customer relationships?
Who approves major pricing decisions?
If the owner went on a one-month trip with no phone, what would break first?
If the honest answer is “everything,” you either:
Lower the price
Change the structure (e.g., more earnout tied to successful transition)
Spend more time building a concrete transition plan—or walk away
3. Technology and systems
For many businesses, the backbone is a mix of:
CRM or job management software
Accounting and payroll
Industry-specific tools (e.g., dispatch, e‑commerce, booking platforms)
Check:
What systems are in place today
How data is backed up and secured
How painful a migration or integration will be for your post-close plans
You want tools that support growth, not brittle custom spreadsheets that break the moment you change anything.
Step 5: Talk to People, Not Just Spreadsheets
Numbers matter. But the quality of a business is also revealed in its culture and relationships.
Where appropriate (and usually after a signed LOI and NDA):
Meet key managers: Do they understand the strategy? Are they staying post-close?
Sample customer calls: With the seller’s permission, speak to a small set of major customers to understand why they buy and how they feel about the relationship.
Visit in person: Walk the shop floor, office, or field operations. You can learn more in one afternoon on site than in a week of PDFs.
You are buying a living system, not a spreadsheet. Trust what you see and hear.
Step 6: Turn Findings Into Price, Structure, and Next Steps
Due diligence is not just about finding problems. It is about translating what you learn into a better deal—or a clean “no.”
When you reach the end of your diligence window, you should be able to answer:
Price: Does the original valuation still hold, or should it move up or down?
Structure: Are you comfortable with mostly cash at close, or does the risk profile call for seller financing, earnouts, or holdbacks?
Conditions: Are there any items that must be fixed before close (e.g., key contract assignments, clean financial reconciliations)?
Integration: What are your first 90 days post-close going to look like?
Sometimes, good diligence leads to a simple conclusion: this is not the right deal for me. That is a win. Walking away before close is far cheaper than discovering issues after your capital is committed.
Due Diligence Cheat Sheet
Below are some standard metrics to keep in mind on your next deal:
FAQs Due Diligence
How long should due diligence take?
For most businesses in the $2M–$20M revenue range, 30–60 days is typical. Complex deals, cross-border transactions, or heavily regulated industries can take longer. The key is agreeing on a realistic timeline in the LOI so neither side feels rushed or stuck in limbo.
Who should be on my due diligence team?
At minimum, most buyers lean on:
A deal-savvy accountant (or QofE provider) to review the numbers
A transaction lawyer to handle contracts, risk, and structure
You (and possibly a partner) to dig into operations, people, and strategy
For specialized industries, you might also bring in a technical or industry expert on a project basis.
When should I spend money on professional advisors?
Once you have a signed Letter of Intent (LOI) with clear price and structure, it usually makes sense to invest in deeper financial and legal work. Spending a modest amount before close to avoid a bad acquisition—or to negotiate better terms—is almost always cheaper than fixing mistakes after the deal is done.
What are the biggest red flags in due diligence?
Some of the most common warning signs:
Earnings that shrink quickly once you adjust for owner perks and one-time items
High customer concentration or a few customers driving most of the profit
Poor financial records, missing tax filings, or unexplained adjustments
Key contracts that cannot be assigned or require landlord / customer consent that is unlikely to be granted
An owner who resists sharing information or frequently changes their story
One red flag does not always kill a deal, but clusters of them should make you slow down or walk away.
Can I still do a deal if diligence uncovers issues?
Yes—if you understand the issues and price and structure the risk correctly. That might mean:
Lowering the purchase price
Adding earnouts tied to performance after close
Requiring certain problems to be fixed before closing
Adjusting your integration plan and capital reserves
The goal is not a “perfect” business. It is a fair deal where both sides understand what is being bought and sold.
Recommended Reading
If you are evaluating a potential acquisition, these related guides will help you go deeper:
How to Value a Business Before You Buy It – A practical framework for valuing small businesses before you submit an LOI.
Business Valuation Explained: How Buyers Value Your Company (and How to Increase It) – A broader look at valuation drivers and how buyers think about risk.
Buying a Competitor: How to Value Their Business – A focused guide if you are considering acquiring a direct competitor.
Key takeaways
Due diligence is about confirmation, not perfection. You are validating that the business you think you are buying actually exists in the real world.
Start with a clear plan and timeline. Define your workstreams, decision gates, and who is responsible for each piece of the analysis.
Focus on the quality of earnings, not just the headline number. Normalize EBITDA, test revenue durability, and understand customer concentration and margin trends.
Use legal diligence to uncover obligations and landmines. Contracts, leases, loans, HR issues, and compliance all affect your risk and the structure of the deal.
Operational diligence tells you how it will feel to own the business. Map processes, test owner dependence, and assess the strength of the team and systems.
Translate findings into price and structure. Better information should lead to better terms—or a confident decision to walk away.
📥 Thinking about Selling Your Business?
Get access to The Complete Million Dollar Business Exit Guide (includes our Exit Checklist)—downloadable with one click and packed with tools, checklists, and insights.
Get the full guide for FREE HERE
Join an upcoming webinar!
Whether you’re looking to buy or sell an IT services company, join one of our upcoming events:
Come visit us!