Understanding Due Diligence: Guidance For Smarter Business Decisions By Our Accountant
Understanding what due diligence is has become extremely essential for anyone looking to buy a business, invest in a company, or simply make smarter financial decisions. However, the term still feels technical, confusing, or buried in accounting jargon. That’s exactly why expert insights matter…..Especially from someone who has seen the process unfold across real-world scenarios.
In this interview, we sit down with Joseph Ranasinghe, an experienced accountant from our team, who breaks down the due diligence process with clarity and precision. From financial assessments to compliance checks and risk evaluation, he explains how due diligence helps businesses uncover the truth behind the numbers and avoid costly mistakes.
Whether you’re a business owner, an investor, or someone trying to understand what due diligence means in practical terms, this conversation offers valuable guidance. His step-by-step explanations, examples, and professional observations make this a must-read for anyone preparing for a major business decision.
Q. For someone new to the concept, what exactly is “due diligence,” and why is it so important when buying or investing in a business?
A. So due diligence is basically a process of investigating and validating a business before you make a purchase. It’s very important because it helps you to ensure that you are paying a fair price and that there are no hidden risks and its basically making informed decision before you make a big purchase.
Q. What are the different types of due diligence (financial, legal, commercial, operational), and how does each one help reduce risk?
A. So there are four basic types of due diligences – Financial, Operational, Commercial and Legal. For small businesses, the most relevant areas are financial and operational and that’s what we focus mostly at Zimsen Partners. So financial is going to the cash flows of the business, the liabilities of the business and analyzing the actual health of the business…..And the operational is analyzing the systems, the management of the business so that we can ensure smooth transition post acquisition.
Q. What does “financial due diligence” typically include, and why is it critical before purchasing a business?
A. So financial due diligence typically includes review of the financial performance of the business, the working capital, the depth and contingent liabilities of the business and the tax compliance of the business. This part of the due diligence is where you ensure that you are not paying too much for a purchase and that you are not inheriting any financial issues.
Q. What are some of the most critical red flags that emerge in financial DDs? Any components that businesses/individuals need to be mindful about?
A. So some red flags in financial due diligence are inconsistent or declining revenue levels, unusual or unexplained expenses, non-compliance when it comes to tax, high debt levels, or poor cash flow. If you see any of these signals in a business, it could mean that it’s a bad investment and you need to be cautious when you are taking the next steps.
