Latest / The Buyer & Seller Podcast with Fexingo: Business Brokers, Exits, and Private Sales Explained / How to Negotiate the Due Diligence Period in a Business Sale
Transcript
- Lucas: You've negotiated a price, shaken hands, maybe even popped a bottle of something sparkling. Then your buyer says the two words that can undo everything: due diligence. Luna: And suddenly the seller's stomach drops. Because due diligence feels like handing over the keys to your house and letting someone inspect every closet, every crack, every stain. Lucas: It is exactly that. And statistically, more deals die during due diligence than at any other stage — including after a letter of intent is signed. I've seen estimates that twenty to thirty percent of signed LOIs never close. Luna: That's a brutal number. So what actually happens in that period? And how does a seller not just survive it, but come out stronger? Lucas: Let's use a specific case. Earlier this year I spoke with a broker who represented an industrial distributor based in the Midwest — about twelve million dollars in revenue, very profitable, family-owned for forty years. They got a LOI at eight times EBITDA, roughly nine and a half million dollars. Luna: Nice multiple for a distributor. Lucas: It was. But the buyer was a larger strategic competitor, and they demanded a sixty-day diligence period. Now, the seller had never been through a sale before. They thought diligence meant 'check the financials and move on.' Luna: Classic first-timer mistake. What did the buyer actually dig into? Lucas: Everything. Financials, obviously — three years of tax returns, audited P&Ls, aging reports on receivables. But also customer concentration. The buyer noticed that their top three customers made up fifty-eight percent of revenue. That's a red flag for any acquirer. Luna: And if one of those customers walks after the sale, the buyer's valuation drops instantly. Lucas: Exactly. So the buyer came back and said, 'We need a price adjustment — we think the risk is worth one turn less.' That would have knocked off over a million dollars. Luna: Ouch. How did the seller respond? Lucas: They pushed back. Their broker helped them prepare a retention analysis: the three customers had been with the company for an average of fourteen years, and two of them had long-term supply agreements that didn't expire for another three years. They showed that the concentration was actually a strength, not a weakness. Luna: So they turned a potential deal killer into a value driver. Lucas: Exactly. The buyer accepted the argument, and the price held. But then came the environmental issue. The distributor leased a warehouse that had been a dry cleaner in the 1970s. The buyer's Phase I environmental assessment flagged potential soil contamination. That triggered a Phase II study. Luna: That's a classic diligence surprise. Did the seller even know about the history? Lucas: They did not. The landlord had never disclosed it. Suddenly the buyer is worried about Superfund liability, cleanup costs, reputational risk. They threatened to walk entirely. Luna: So what saved the deal? Lucas: Several things. First, the seller agreed to an indemnity clause specifically for environmental issues, capped at two hundred thousand dollars and expiring after three years. Second, they offered a small earnout — about five percent of the purchase price tied to the next two years of earnings — to bridge any remaining trust gap. Luna: So the earnout wasn't about the seller's performance, it was about risk allocation. Lucas: Exactly. The buyer wanted a mechanism that said, 'If something goes wrong, you share the pain.' And the seller was confident nothing would go wrong — they'd run the business well for decades. So the earnout was a small price to save the deal. Luna: And it worked? Lucas: It did. The deal closed in early April of this year. The seller got eight times EBITDA, just with a slightly different payout structure. But the process took almost ninety days from LOI to close, and a lot of sleepless nights. Luna: What's the main lesson for sellers listening? How do you prepare for diligence before it starts? Lucas: First, build a data room before you even go to market. Have your financials clean for at least three years. Have customer contracts, supplier agreements, leases, employee handbooks, benefit plans — everything organized in digital folders. A buyer that sees chaos in the data room will assume chaos in the business. Luna: So diligence is really a test of operational quality. Lucas: It is. And second, anticipate your weak spots. Every business has them. Maybe you have one customer that's thirty percent of revenue. Maybe your biggest supplier is a single source. Maybe your facility has an old underground storage tank. Know those things and have answers ready before the buyer asks. Luna: What about the timeline? Most small business sellers are still running the company during diligence. How do you keep the business performing while answering a hundred questions? Lucas: That's the hardest part. The best move is to designate one person — either your CFO or a trusted advisor — as the single point of contact for buyer requests. That way the CEO can stay focused on operations. I've seen deals where the seller got so distracted by diligence that revenue slipped, and the buyer used that as leverage to renegotiate. Luna: Right. So you need a diligence quarterback. Lucas: Exactly. And third, set ground rules. A typical diligence period is thirty to sixty days. The buyer should provide a list of requested items upfront, not trickle in requests every week. You can agree that all requests come through that one point person, and that the buyer will prioritize. That keeps the process manageable. Luna: Are there any red flags that buyers commonly find that are almost always deal killers? Lucas: Customer concentration is one, as we saw. Another is employee turnover — if the seller is the only person who knows how the business runs, and there's no management team, buyers get nervous. Also, any pending litigation or tax liens. Those can stop a deal cold. Luna: And on the flip side, what can a seller look for in the buyer during diligence? It's not a one-way street. Lucas: Absolutely. Sellers should ask for proof of funds or financing commitment early. If the buyer is using debt, you want to see a commitment letter from their bank. I've seen deals where the buyer ran out of money mid-diligence, and the seller had already spent fifty thousand dollars on legal and accounting fees. Luna: So due diligence is really about trust on both sides. Lucas: It is. And the best sellers use diligence to reinforce their story. A clean, transparent process builds buyer confidence. That confidence can justify the price and smooth the path to closing. Luna: That's a great point. And honestly, this kind of deep dive is exactly why we do these shows — to help owners navigate these high-stakes moments. It's also why a small group of listeners support us directly. Lucas: Yeah, we keep the show free and without ads, and that's possible because some folks chip in a few bucks each month over at buy me a coffee dot com slash fexingo. If these conversations have helped you think about your own business or a potential sale, that support goes straight into making more episodes like this one. Luna: And we genuinely appreciate it. It keeps us independent and focused on what matters to you. Lucas: Back to diligence — one more tactical point. If a buyer asks for a price reduction during diligence, don't automatically say no. Instead, ask them to specify the exact risk they're pricing. Then you can respond with data, like the customer retention example. Or you can offer a different structure — a small earnout, a holdback, a indemnity cap — that addresses the risk without changing the headline price. Luna: So negotiation continues even after the LOI. Lucas: It does. The LOI is just the opening of round two. And the seller who goes into diligence prepared, with a clean data room and a clear strategy, is the one who walks away with the deal intact. Luna: And maybe even a little respect from the buyer for being so organized. Lucas: Exactly. That respect carries into the post-close relationship, which matters more than people think. So if you're planning an exit, start building your diligence file today. You'll thank yourself later.