Let the evidence speak

From proposal to proof

A signed letter of intent can make an acquisition feel close. But signing it doesn't mean the business has passed its checks.

Module Three helped decide whether to make a proposal. Now the task is to test the assumptions behind that proposal. In our fictional Cedar Workshop example, the buyer and seller have agreed to a deeper investigation.

The question is simple: does the evidence still support the deal?

This is due diligence: investigating the business and the risks behind the proposed purchase. Follow four connected areas: financial, commercial, operational and legal. The depth and sequence depend on the business and the agreed process.

Start with the questions

Start with the questions that could change your decision.

For Cedar, those include the earnings adjustment, the largest customer, the owner's responsibilities and access to the building.

Give each question a responsible reviewer, the records needed and a due date. Keep requests in the agreed confidential channel. Access and any exclusivity depend on the terms agreed, not simply on having an L O I.

A file arriving is progress. It isn't an answer. Someone still needs to review it and explain what it means.

Test the earnings

Begin with the financial review: do the records support the earnings being presented?

Remember Cedar's consulting-expense add-back: an expense the seller proposed removing from adjusted earnings.

Let's add hypothetical numbers. Cedar reports one million dollars in EBITDA. The seller adds back one hundred twenty thousand dollars, presenting one million one hundred twenty thousand.

But suppose the accountant finds that only forty thousand relates to a genuinely one-time project. The remaining eighty thousand pays for work the business still needs.

For this adjustment alone, the supported figure becomes one million forty thousand dollars, before other checks.

This is part of quality of earnings: examining the underlying earnings, what drives them and which proposed adjustments the evidence supports.

Financial due-diligence professionals carry out the review and document their findings for the buyer and advisers. The result supports decisions and further questions. It is not an audit, a valuation or a guarantee of future performance.

For Cedar, the review summary should connect the consulting-cost claim to its supporting records, the forty thousand dollar supported adjustment, and any questions still open. A conclusion without its evidence is hard to assess.

Working-capital and debt-related analyses are connected financial reviews, but they answer different questions. They are not other names for quality of earnings.

Module Five uses these earnings findings to test a proposed price. First, look at the cash needed to keep Cedar operating.

Follow the cash

Even supported earnings don't tell you when cash arrives.

Imagine Cedar pays for materials and wages today, but the customer pays thirty days later. The order may be profitable, but Cedar still needs cash to cover that gap.

That leads to working capital: short-term assets minus short-term liabilities. In an acquisition, the parties agree which items count in the deal calculation.

For Cedar, examine what customers owe, stock on hand and supplier bills. Are invoices overdue? Is some stock difficult to sell? Do busy months require more funding?

Monthly records reveal patterns that one year-end balance can hide.

The purchase price isn't the whole funding picture. The business also needs enough cash to operate.

Look behind the customer revenue

Those cash collections depend on the customers behind the sales.

Commercial diligence asks how dependable that demand is.

In Module Three, Cedar's largest customer generated thirty percent of annual revenue. Now look beyond the percentage.

Review the order history and available agreements. Is there committed work, or does the customer choose each new order? What can change at renewal or cancellation?

Historical sales aren't a promise of future sales.

Any customer discussions must follow the agreed process. The goal is to understand the relationship, not disrupt it.

Test the operating plan

Keeping that customer also depends on who does the work.

Operational diligence examines the people, processes and resources that keep the business running.

Cedar's owner handles key customers, prepares quotes and oversees production. Don't stop at a job title. Test each responsibility.

Who could take it over? What training would be needed? Would additional management cost more?

That last question connects operations back to earnings. If your plan requires a new manager, the cost belongs in your assumptions.

A replacement on an organization chart isn't yet a workable handover.

Check the rights behind the plan

A workable handover also needs the right permissions.

That's where legal diligence comes in: your lawyer reviews the documents and obligations affecting the purchase.

Cedar's proposed purchase includes machinery, but not the building. Receiving a lease doesn't automatically establish the right to keep operating there.

Counsel needs to check the arrangement, its terms and any required permissions.

Contracts, ownership, permits and disputes may also matter. Tax, technology or environmental questions need the relevant specialists when applicable.

These four areas organize the review. They aren't an exhaustive checklist.

Turn findings into decisions

Bring the findings back to one decision record.

For each important issue, capture what was reviewed, what changed, what's still missing and who owns the next action.

For Cedar, the earnings adjustment is smaller. Customer continuity needs support. Management coverage needs a realistic budget. Premises access remains open.

Ask what each finding changes: the operating plan, funding needs, or proposed terms. Does the evidence support moving forward, changing the proposal, requesting more information, or stopping?

Accepting a risk doesn't make it disappear. Record the decision and the reason.

A quick check

A quick check.

Cedar's lease has arrived. Your lawyer confirms that permission is required for the proposed arrangement, but it hasn't been obtained. Is the location secured?

No. The document was received; the issue wasn't resolved. Keep the missing permission and its consequences visible.

The next step

Diligence should leave you with clearer choices, not just fuller folders.

Before moving forward, complete one findings row for the issue that matters most.

Module Five connects those findings to the proposed payment, risk and transition arrangements.