Due Diligence in a Private Company Sale

Due diligence is the stage where a deal is either confirmed or quietly repriced. The letter of intent has been signed, the headline number is agreed, and for the next sixty to ninety days a buyer and their advisors work through everything you have ever done. Most sellers underestimate how much of the final outcome is decided here rather than in the negotiation that preceded it. The number in the letter of intent is an opening position. What survives diligence is the number you actually get.

What due diligence actually covers

Diligence in a Canadian private company sale runs across four or five workstreams at once. Financial diligence tests whether reported earnings are real and repeatable, which is why an independent view of what the business is worth before the process helps. Legal diligence confirms you own what you say you own and are not carrying undisclosed obligations. Commercial diligence looks at customers, competitors, and pipeline. Tax diligence checks filings, payroll remittances, and GST or PST exposure. Depending on the business there may be environmental, IT, or human resources work as well.

These streams run in parallel and feed one document: an issues list. Every item on that list is either resolved, priced, or converted into a specific indemnity. Sellers who understand this early stop treating diligence as an administrative exercise and start treating it as the second half of the negotiation, because that is what it is.

Financial diligence and the quality of earnings report

For most transactions above roughly $2 million of EBITDA, the buyer will commission a quality of earnings report from an accounting firm. This is not an audit. It is a targeted exercise to work out how much of your reported profit a new owner would actually earn.

The report will test revenue recognition, examine margin by customer and product, separate recurring from one-time items, and scrutinise every add-back you have proposed. Owner salary above or below market, personal vehicles, family members on payroll, one-off legal costs, and rent paid to a related party all get examined. Add-backs that are documented and consistent survive. Add-backs that appear for the first time in the transaction get removed, and each dollar removed costs you the multiple.

The data room and how it is judged

You will be asked to populate a virtual data room, usually with two hundred to five hundred documents. Financial statements for three to five years, monthly management accounts, tax filings, the customer contract file, supplier agreements, leases, employment agreements, insurance policies, corporate minute books, share registers, and any litigation history.

Buyers form a view of management quality from how the data room is assembled, and they form it quickly. A complete, indexed, promptly updated data room signals a business under control. A data room that dribbles out documents over six weeks with gaps and inconsistencies signals the opposite, and it invites a buyer to look harder at everything else. Small to mid-market companies that prepare the data room before signing the letter of intent consistently move through diligence faster.

Legal diligence and where problems usually surface

Corporate records are the most common early problem. Minute books that have not been updated in years, share transfers that were never documented, options or promises made verbally to employees, and unsigned amendments to material agreements all take time to fix and can hold up a closing.

Contracts are the second. Change of control clauses in customer and supplier agreements, personal guarantees given by the owner, exclusivity or territory restrictions, and automatic renewals that a buyer did not expect all show up here. Employment matters follow: misclassified contractors, unwritten bonus arrangements, and accrued vacation that was never recorded on the balance sheet.

Working capital, the peg, and post-closing adjustments

Working capital is negotiated during diligence and settled after closing, which is why it catches sellers off guard. The buyer proposes a target level based on a trailing average and expects the business to be delivered with that amount. Anything above the target is paid to you, anything below is deducted. We set out the mechanics in more detail in our note on working capital adjustments in M&A.

Two things matter. First, agree the definition and calculation method in the letter of intent, not in the purchase agreement, because leverage is highest before exclusivity. Second, understand that any receivable a buyer considers uncollectible or any inventory they consider obsolete gets excluded from the calculation, and those exclusions come straight out of your proceeds.

Customer and commercial diligence

Buyers want to know whether your revenue walks out the door with you. Expect customer calls, usually late in the process and usually with your consent and your top accounts only. Expect a review of contract terms, renewal rates, pricing history, and how much of the relationship sits with one salesperson or with the owner personally.

Concentration is the recurring theme. Where one account is a large share of gross profit, a buyer will structure around it rather than pay through it. Diversifying before you go to market is worth more than arguing about it during diligence, and it also widens the buyer pool, which is where price competition comes from. Our note on EBITDA multiples by industry in Canada shows how much that competitive dynamic can move the outcome.

The buyer’s financing runs on a parallel track

In most owner-managed transactions the buyer is borrowing part of the price, and their lender runs its own diligence at the same time. The lender will want an independent view of value, an appraisal on any real estate, confirmation of the working capital facility, and comfort on the earnings the loan is being underwritten against.

This matters to a seller for one practical reason: a financing condition is the most common way a deal dies after the letter of intent. Ask early who the lender is, whether a credit approval is in hand or merely expected, and what conditions attach to it. Where the structure involves subordinated or mezzanine and other capital sources, the timeline usually extends. Understanding an independent valuation of your business before the process starts also tells you whether the agreed price is one a lender will support.

Reps, warranties, and indemnities

Everything diligence uncovers reappears in the purchase agreement. Representations and warranties are your statements about the business as at closing. Indemnities are your promise to cover specific losses if a statement turns out to be wrong. Disclosure schedules are where you carve out the exceptions you have already told the buyer about.

Whether the deal is structured as a share sale or an asset sale changes which warranties matter most, a point we cover in our piece on the difference between an asset sale and a share sale. Disclose fully and disclose in writing. A properly disclosed issue is a known risk the buyer has priced. An undisclosed issue found after closing is a claim against your escrow. Typical structures hold back ten to fifteen percent of the price for twelve to twenty-four months, and representation and warranty insurance is increasingly used on larger Canadian transactions to reduce that holdback. The business sale proceeds calculator is a useful way to see how holdbacks and adjustments flow through to what you actually keep.

How long it takes and what delays it

Sixty to ninety days from signed letter of intent to closing is normal for an owner-managed business in Vancouver or elsewhere in British Columbia. Ninety to one hundred and twenty is common where there is real estate, multiple entities, or a corporate reorganization to complete first.

Delays almost always come from the same short list. Incomplete or late financial information. Corporate records that need reconstructing. A landlord who is slow to consent to a lease assignment. A lender who takes weeks to approve the buyer’s financing. Every week of delay increases the chance that something changes, in the business or in the buyer’s world, and momentum is genuinely an asset in a transaction.

How to prepare before a buyer ever asks

Run diligence on yourself twelve months before you go to market. Have your accountant prepare a sell-side quality of earnings analysis so you find the add-back arguments before a buyer does. Bring the minute book current. Read your material contracts and note every change of control clause. Reconcile the inventory. Confirm every employee has a written agreement.

This is exactly what the exit readiness assessment is designed to surface. Founder-led businesses that do this work in advance do not just close more reliably. They close at the price that was agreed, which is a different and better outcome than closing at all.

Frequently asked questions

How long does due diligence take in a private company sale?
Sixty to ninety days is typical for an owner-managed Canadian business, measured from signed letter of intent to closing. Add thirty days or more where there is real estate, multiple corporate entities, or a reorganization to complete.

Who pays for due diligence?
The buyer pays for their own advisors, including the quality of earnings report and legal review. The seller pays for their own accounting, legal, and advisory costs, including any sell-side preparation work. Neither side reimburses the other if the deal does not close.

Can a buyer reduce the price after due diligence?
Yes. A letter of intent is generally non-binding on price, and buyers routinely revise it if diligence surfaces something material. Preparing properly is the most reliable protection, because it removes the surprises that justify a reduction.

What is a quality of earnings report?
An independent analysis commissioned by the buyer to test whether reported EBITDA is sustainable. It examines revenue recognition, margin trends, working capital, and every proposed add-back. It is narrower than an audit but considerably more sceptical about earnings quality.

Do I have to disclose problems in the business?
Yes, and it is in your interest to. A disclosed issue is priced into the deal and carved out of your warranties. An undisclosed issue found after closing becomes an indemnity claim against your holdback, usually on worse terms than if you had raised it yourself.

Next steps

If you are preparing to sell, or have a letter of intent in hand and want an experienced advisor managing the process, the work you do now determines what you keep. Review our business sale services, see how we approach sell-side transactions, or contact us directly for a confidential conversation about where your business stands.