Investigating private companies during due diligence

Is there more going on than the financials show?


According to Harvard Business Review, 70–90 percent of all acquisitions fail. Many factors lead to this jaw-dropping data point, including a lack of insight into the company being acquired.

This problem can be compounded if the company is privately held. As a business seeks to understand the target entity’s financial health, sometimes the balance sheets are all they have to go on. Whether it’s a partnership, merger or acquisition, many clients come to us for outside confirmation of the rosy picture the other company has provided.

“With private companies, everything is really opaque. You’re kind of trusting the other side,” said Bruce Gerstman, director of investigations at Waterfront Intelligence. “Although there are rigorous approaches to due diligence, we’re often asked to try and verify the things that cannot be verified by simply examining the books.”


Going deep is essential

According to Gerstman, the top questions clients want answered include:

  • Can you verify the information we’ve been given?
  • Are there any outstanding loans or other hidden financial red flags?
  • Are there any pending legal disputes?
  • Are there any reputational issues?
  • How are sales, really?

Not only can the information uncovered help determine whether to proceed with the offer, it can help clients better understand the value of the company or partnership. It can also provide peace of mind and help establish trust between two parties. 

It can even uncover signs that the deal could fail, despite the best intentions of both parties. One Harvard Business Review case study cited red flags gleaned from several early interviews with both companies’ leadership teams and their clients.


Examples of what we find

While we’ve anonymized details surrounding specific cases, these scenarios illustrate the type of information that can be uncovered:

  • A client hired us before deciding to acquire a privately-held tire company with multiple locations. We spoke with former managers and employees from several locations to better understand how sales were going and identify any HR issues. We found operations were generally stable but the company was not making the sales described. Our client modified their offer.
  • A law firm planning to acquire a smaller firm discovered the acquisition target owned more properties than had been disclosed — all with significant mortgages. 
  • A retailer recently sold several properties, which made their balance sheet look cash-rich. While the numbers were accurate, the investor, our client, was able to determine whether they would continue their deal despite not being told about the sales.

Understanding what’s beneath the hood

Technology deals represent about one-third of all buyouts, according to Bain & Company, and yet only a small percentage of buyers perform comprehensive due diligence. They shared the ironic and cautionary tale of a large private equity firm that had hoped to acquire a fintech market leader but uncovered massive technology vulnerabilities.

“It turned out that the target’s leaky security protocols had led to a recent ransomware attack and a breach of most of the company’s customer contracts. The target was also leasing services on outdated tech infrastructure that was being discontinued within a year, raising critical questions about its ability to continue delivering results. What seemed like a sure winner suddenly appeared toxic. The buyers walked away, feeling fortunate they had dodged a bullet.”

In an age in which technology plays a fundamental role in just about every company’s viability, getting an accurate view of a company’s technological vulnerabilities is critical. And getting that perspective requires the ability to have candid conversations with key people.

“Waterfront excels in the lost art of finding and speaking with the right people to get to the bottom of the story,” says Gerstman. “We find and interview well-placed sources. We peel back the layers and verify the information our clients have been given. This gives them the additional context to make those critical business decisions with confidence.”

If you’re looking at a potential acquisition, merger or partnership, contact us today for a complimentary consultation at [email protected] or 415-905-0462.

Harvard Business Review, “Don’t Make This Common M&A Mistake,” 3/16/20
Bain & Company, “Is Your Tech Due Diligence Good Enough?” 3/7/22