Operational & HR Due Diligence

Operational & HR Due Diligence

An image of three professionals doing operational and HR due diligence for a manufacturing business.

Key Takeaways About Operational & HR Due Diligence

This guide is designed to walk business owners through operational and human resources due diligence. We will look at the nature of this type of due diligence and explain what the buyer is trying to learn about your company. Here are some key takeaways about operational and HR due diligence:

  • From an operations standpoint, the buyer is trying to learn as much as they can about the systems and processes required to earn revenue. They will examine, products, price points, customer lists, operating procedures, etc.
  • From a human resources standpoint, the buyer is trying to learn as much as they can about the people responsible for running daily operations. They will want to see how your business recruits, onboards, trains, and retains employees.
  • This guide based on content from our free eBook Due Diligence: A Seller's Perspective. We recommend that guide as a more comprehensive resource regarding due diligence from a seller's perspective.

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Understanding Operational & HR Due Diligence:

During this part of due diligence, the buyer's team will try to learn as much as they possibly can about how your business operates.

Questions concerning operational and human resources due diligence are aimed at understanding how the business makes money, the operating procedures and business systems that support this, and the people who run those systems.

If the prospective buyer is ultimately buying the business for the future cash flows it will produce, they want to be as certain as they can be that those cash flows will be reliable moving forward. They also want to understand what it will reasonably take to grow the business. Are their growth projections realistic? What would that growth require from an operations standpoint?

Here, prospective buyers are concerned with due diligence regarding:

  • Products & Services
  • Price Points
  • Customer Lists
  • Customer Retention Rates
  • Customer Lifetime Value
  • Refund Rates
  • Supplier Relationships
  • Lead Times
  • Inventory
  • Customer Support
  • Operating Procedures
  • Organization Charts
  • Internal Recruiting Strategies
  • Employee Retention
  • The Owner's Level Of Involvement

What To Expect During Operational & HR Due Diligence:

Owners should expect the buyer's due diligence teams to make multiple on-site visits to their primary place of business. They will want to observe "business as usual." They will ask questions about everything under the sun. They will try to test and prove every answer you give them.

While they are digging into each of these areas they will also do industry and market research and compare their findings to your business. They will benchmark your company's performance against other companies in your industry.

They will also request to sit in on meetings or calls with your top customers. They will be concerned with large concentrations of revenue tied to a small number of customers. They will seek to understand the value proposition that your products/services have through the eyes of your customers. They may want to talk to your customers directly.

They will also be concerned with your level of involvement in the day-to-day operations of the business. If they determine that your involvement is necessary for the business to run, they will try and tie a larger portion of your compensation to an earnout.

They are ultimately looking to determine if they can rely on your business model, value proposition, employees, and strategy to perform going into the future.

How They Will Assess Your Workplace & Culture:

They will spend a great deal of time trying to understand your culture. One of the biggest reasons that M&A deals fail is a lack of compatibility between the cultures.

Despite the fact that culture is an abstract concept that is hard to define or measure, they will make a great effort to understand as much as they can about it. If they get this piece of the puzzle wrong, it can lead to employee dissatisfaction, and as a result massive employee turnover. This can destroy value very quickly.

However, they can't just ask the employees if they like the company and plan to stay, and reasonably expect honest answers. They need to try and measure things differently.

Here, we'll look at some of the ways they will try and understand your culture—which is your business from an employee standpoint:

  • Internal Recruiting - They will look at and assess how your business sources talent. What does your hiring process look like? Is your business actively recruiting/growing? How many new interviews are you doing every month? How many interviews are needed to hire someone? How long does it take to hire an employee that stays? Who is in charge of internal recruiting?
  • Employee Turnover - They will also look at employee turnover and they will probably assign great importance to it. What is your employee turnover rate? How long do employees stay on average? Where do employees go after they leave? What trends can they spot from this? Do a large number of your employees leave to work for a competitor? They will want to review exit interviews if you have them as well and they will look for common themes.
  • Employee Interactions - They will watch how your employees interact with one another. Do they seem happy? Stressed? Uninterested? Remember, they will be able to observe your culture in action.
  • Internal Documents - They will review your employee handbook, onboarding procedures, training systems, etc. They will sometimes assign more importance to these internal documents than is practical.
  • Human Resources Interviews - They will interview whoever is in charge of human resources and they will talk to all of your HR staff. They will bring in due diligence experts who understand HR to have conversations with HR about your business.
  • Values Alignment - They will review your business's vision, mission, and core values. Values alignment is a way for them to determine how serious you are about your workplace culture. They will stop random employees and ask them if they know your company's vision, mission, and values. They may ask them what these values mean to them.

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