Dr. John Psarouthakis, Executive Editor, The Business Thinker, llc.
Author of “How to Acquire the Right Business”, go to books at the home page.
This is the 7th of short articles of my thoughts about Acquisition of a business.
Letter of intent and formal due diligence
This article briefly introduces some of the basic concepts of valuation of the company. Although four basic approaches, the profitability method, the asset method, historic cash flow and discounted cash flow, are all described, the discounted cash flow method is considered the most accurate valuation of the company. However, a comparison of values from different methods can provide useful insights, especially in the early stages of valuation of the business.
This article also point out the distinction between value and price. The value is the worth of the company as will be operated by the buyer. The price is the amount you wish to pay for it. The synergy you can realize from the sale, the motivation of the seller, and the projected growth of the industry, and the type of financing are just a few of the factors you might consider in negotiating the final price.
Dr. John Psarouthakis, Founder and former CEO, JPIndusries,Inc., a Fortune 500 industrial corporation. Publisher of www.BusinessThinker.com
This article covers the letter of intent, which should be negotiated and signed prior to the start of formal due diligence and the formal due diligence process itself.
The most extensive and expensive investigation of a company lead takes place during the formal due diligence. Formal due diligence can be viewed as the fourth filter through which company leads pass. Because of its expense, you should probably plan to complete formal due diligence on a company you are fairly certain to buy. Sometimes the process of negotiating the letter of intent itself weeds out some candidates that looked good after preliminary due diligence. Or you may uncover information during the formal due diligence that you were not aware of during the preliminary due diligence phase. It is likely that during the 18 month to two year period that you scrutinize company leads, if about two dozen leads get subjected to a thorough preliminary due diligence, only four or five will actually follow through to formal due diligence. Some will drop out during the preliminary due diligence phase itself. Other company leads might drop out because buyer and seller are unable to agree on terms in the letter of intent.
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Reference: “How to Acquire the Right Business”
John Psarouthakis & Lorraine Uhlaner
Published by Xlibris, 2009