There are several benefits for the EIS, or Enterprise Investment Scheme, to make this an interesting...
If you are looking for a sound investment, a UK business can be a rewarding vehicle - but only if you are shrewd about the business you choose.
On the surface, many businesses may appear to offer lucrative returns, but closer inspection reveals that they are not as profitable as they first seem.
Anyone considering a UK business should therefore ensure they carry out in-depth research before they invest any money. This is an enormous subject and professional advice is essential to be certain the results are comprehensive and accurate.
This guide provides an overview of the process and some of the most important aspects to consider.
Starting the Process
Although you might be keen to dive in and start assessing the company’s figures, you will not be entitled to receive all the information right away. Although public records can be checked by anyone, it is the private data that will be the most revealing and this will not be released until a business is sure that you are a serious investor.
It is common for heads of terms to be agreed before anything else; you can do this without needing to involve solicitors. Once in place, heads of terms will allow you to proceed to due diligence.
What you include in heads of terms is flexible; some of the terms will be legally binding, some will not. The parts which are usually included and legally binding are exclusivity provisions, confidentiality clauses, non-poaching of key employees, and sometimes penalties if one party attempts to renegotiate key aspects after the heads of terms are agreed.
The non-binding aspects may include the amount and time of payments, an anti-flipping clause and the extent of the investor’s involvement in the business.
Once the terms of head have been satisfactorily agreed by both parties, due diligence can begin. There is no formal process for due diligence which means it is possible to ask whatever questions you deem necessary to satisfy yourself about the robustness of the business.
To get things started, the investor will normally submit a due diligence questionnaire. Depending on the answers provided, this may prompt further, more targeted questions about any areas of concern.
Every due diligence questionnaire should be created for the specific investment being considered. Typical areas included are: corporate, finance, employees, legal, customers/consumers, intellectual property and physical assets.
Common Financial and Legal Checks
You can ask the business for any information you feel that you need. If they are reluctant to provide anything you have requested, you might want to reconsider your investment as withholding information is a red flag. Some information may remain protected until you are close to completing a sale, but nothing should be completely off-limits until after the sale has gone through.
Some of the most important financial and legal checks include:
The original business plan
This will allow you to check the finance which was taken out at start-up, and what remains. It will also allow you to see whether the business is on target.
Alongside the business plan, you should also check the business accounts, specifically the detailed profit and loss accounts rather than the high-level overview. Also ask the company for details of any loans or debts which are currently outstanding.
Find out whether the business has any major customers or contracts which form a significant portion of their profits. A list of the top 10 customers from the past 12 months is helpful, plus in-depth information on whether the relationship is continuing, and any contracts in place.
Ownership of assets
A large part of a company’s success may be due to certain assets. It is therefore imperative that you are able to confirm that they have legal ownership of any assets which are considered to be key. It is often advisable to get your solicitor to double-check the property deeds for any premises the business owns, or a rental agreement for leased properties. You will need to also check for plant, vehicles and equipment.
IT Infrastructure and technology
This could fall under the heading of ownership of assets but it is such an important element, it warrants scrutiny of its own. Most businesses rely on their IT systems being running efficiently in order to operate so you need to understand what infrastructure is in place.
This means knowing the value of the technology owned, whether there are any guarantees or warranties in place and whether there are any essential maintenance or service agreements which are ongoing. Understanding any reliance on other businesses will be important in assessing resilience.
As part of the IT assessment, you should also be able to see how data is protected and what plans are in place for data loss. Any breach of data could result in huge fines so understanding who has information to what data, and how it is protected is vital.
Intellectual property rights
Being able to protect intellectual property could be key in retaining a competitive advantage. Ascertain whether intellectual property has been fully protected by obtaining trademarks, for example.
Arguably the biggest asset that a company has is its employees, and when investing in a business, retention of talent should be a focus. However, you should also ascertain the monthly wage bill, pension contributions, National Insurance contributions and any other company benefits provided.
You should also arrange for your solicitor to review employee contracts. These may be different for various levels of seniority, so you should carry out comprehensive checks, rather than relying on a single one.
The green credentials of a company have become increasingly important, with the subject of climate change a priority for many. Businesses who do not have environmentally friendly processes may find themselves abandoned by customers and/or subject to new fines and penalties. Due diligence should cover their processes and include any areas of environmental concern.
Although all of this information may be requested as part of the due diligence, do not neglect public checks. You may discover information that raises further questions by doing credit checks, director searches and general background research on the internet.