Most founders approaching a sale for the first time assume financial due diligence is a review of the accounts. It is more searching than that, and the gap between what sellers expect and what a diligence team actually examines is where mid-market deals most commonly stall, reprice, or collapse.
This article covers what financial due diligence examines in sub-£100m acquisitions, what sellers should prepare, and where the process goes wrong.
What financial due diligence is not
Financial due diligence is not a statutory audit. An audit confirms that the accounts comply with the applicable accounting standards and give a true and fair view of the financial position at a point in time. Diligence asks whether the financial picture presented supports the valuation and the deal structure being proposed. A business can have clean audited accounts and still carry a diligence risk that materially affects the price.
It is also not simply a check of whether the numbers add up. The arithmetical accuracy of management accounts is typically confirmed within the first few days. The substantive work sits underneath: understanding how those numbers were generated, whether they will persist under new ownership, and what the quality of earnings actually is.
What the diligence team examines
The central focus in a sub-£100m acquisition is usually quality of earnings (QoE). This is an analysis of EBITDA (or the relevant profit metric) that separates recurring, sustainable earnings from one-off, non-recurring, or owner-specific items. Common adjustments include: owner remuneration above a market rate for the role, costs the seller has chosen not to incur (under-investment in headcount or systems that a buyer would have to reinstate), items treated as exceptional that recur in practice, and revenue recognised in a period that does not reflect the underlying trading.
Alongside QoE, the diligence scope in a deal at this size typically covers the following areas.
- Revenue quality and customer concentration. How recurring is the revenue? What percentage comes from a small number of customers, and what contracts underpin it? A business with strong revenue growth held on month-to-month arrangements with three clients carries a different risk profile from one with contracted recurring income across a broad base.
- Working capital analysis. What level of working capital is required at normalised trading? This matters to deal structure directly: the price is typically struck on a cash-free, debt-free basis with a normalised working capital level included. Where the target's working capital is seasonal or distorted, the locked-box or completion-accounts mechanism can produce a meaningful price adjustment at closing.
- Net debt and debt-like items. Buyers look beyond obvious borrowings. Deferred income, pension deficits, capital leases, earn-out liabilities, and certain tax provisions are treated as debt-like items that reduce the equity value received by the seller. These items are frequently underestimated until the diligence process surfaces them.
- Cash conversion and capex. EBITDA is a proxy for cash generation, not a substitute. A business that requires heavy ongoing capital expenditure to maintain its earnings position, or that converts poorly from profit to cash, will be valued differently from one that converts cleanly.
- Tax position. Transfer pricing, R&D tax credit claims, VAT treatment, and employer compliance are common areas of focus at this size. An adverse finding can translate directly into an escrow, a price chip, or a specific indemnity in the sale and purchase agreement.
What sellers should prepare before a process starts
The single most effective step a seller can take is to build a well-structured data room before the formal process begins, rather than assembling information in response to diligence requests under time pressure. A disorganised data room signals operational weakness and gives a buyer grounds to widen the scope of enquiries.
The materials that receive the most attention at this size include: three years of management accounts reconciled to the statutory accounts; a current-year board pack with monthly trading performance; a revenue schedule broken down by customer, contract type, and service line; a schedule of non-recurring items with supporting documentation; and a working capital bridge showing the seasonal pattern of cash conversion over the prior twelve months.
Sellers are frequently surprised by the depth of questioning on customer contracts. Where the revenue base includes material customers without written agreements, or where contracts carry change-of-control provisions, these need to be identified and addressed before diligence opens, not during it.
Where deals unravel in practice
The most common point of failure is not a dramatic discovery but a pattern of small adjustments that collectively erode the EBITDA on which the price was based. Each individual item is defensible; in aggregate, they reduce the sustainable earnings figure by enough to force a renegotiation.
A second failure mode is the working capital trap. The seller has managed working capital tightly in the months before closing, and the completion accounts show a shortfall against the agreed normalised level. This catches founders who have not modelled the seasonal pattern carefully.
A third area is undisclosed or poorly documented related-party transactions. Payments to connected individuals, property transactions between the business and the owner, or arrangements with group companies that have not been priced at arm's length will all be identified and will require explanation. Where documentation is incomplete, buyers treat the uncertainty as a risk and price it accordingly.
How diligence connects to deal structure
In a sub-£100m deal, the diligence findings feed directly into the deal mechanics: the locked-box or completion accounts approach, the level of representations and warranties, the size of any escrow or retention, and whether a specific indemnity is required for an identified risk. A clean diligence process with well-prepared materials compresses this negotiation and protects the headline price. A diligence process that surfaces surprises late produces the opposite result, regardless of the underlying business quality.
If you are preparing for a sale process and want independent financial due diligence advice, or if you are a buyer seeking a partner-led QoE review on a target, book a consultation with the Blash Advisory team.
