Navigating Legal Due Diligence: What Buyers Will Ask For

Due diligence is likely the most critical phase of the M&A process. Buyers conduct a thorough review of an agency’s legal structure, contracts, intellectual property, and compliance to ensure there are no hidden risks or liabilities. For sellers, preparing thoroughly and addressing potential issues upfront can instill buyer confidence, protect valuations, and ensure a smoother transaction.

Want to jump right in? Here you go:

Chapter 1: What is Legal Due Diligence?

Legal due diligence is the buyer’s opportunity to examine the legal foundation of your agency. This process involves verifying contracts, intellectual property ownership, compliance with regulations, and addressing potential risks. By understanding your agency’s legal landscape, buyers aim to mitigate risks and confirm the deal aligns with their expectations.

For sellers, this phase provides an opportunity to demonstrate the agency’s value and transparency. A well-prepared seller can reduce buyer concerns, avoid surprises, and maintain the integrity of the deal.

Chapter 2: Key Areas of Focus in Legal Due Diligence

Buyers focus on three critical areas during legal due diligence: contracts, intellectual property (IP), and compliance. Ensuring these elements are well-documented and in order is essential.

Contracts

  • Client Contracts: Buyers will review client agreements for exclusivity, termination clauses, and duration. They’ll also look for change of control clauses and examine whether contracts are retainer-based or one-off project revenue.
  • Vendor Agreements: Buyers ensure vendor contracts are up-to-date and transferable.
  • Employee Contracts: Retention agreements, non-compete clauses, and any undocumented arrangements with key employees are closely scrutinized to secure operational continuity.
  • Partnership Agreements: Buyers review formal partnerships or collaborations, including any revenue-sharing obligations.

Intellectual Property (IP)
IP assets, such as trademarks, copyrights, and proprietary tools, are often central to an agency’s value. Buyers will verify that these assets are registered and owned by the agency. Third-party licenses must also be documented and transferable.

Compliance
Regulatory compliance, including tax filings and employment laws, will be reviewed. Buyers also examine governance documents like shareholder agreements and board resolutions to ensure legal and operational alignment.

Chapter 3: Common Red Flags in Legal Due Diligence

Buyers use legal due diligence to identify risks that may affect the deal. Common red flags include:

Ambiguous or Missing Contracts
Contracts that are unclear, incomplete, or undocumented can raise concerns about enforceability and stability. Informal agreements with vendors or clients often require additional clarification or formalization.

Undocumented Intellectual Property Ownership
Uncertainty around IP ownership, such as unregistered trademarks or disputed copyrights, can significantly affect buyer confidence. Proper documentation is crucial to demonstrate clear ownership of these assets.

Compliance Gaps
Non-compliance with regulations, such as outstanding tax liabilities or employment law violations, can create financial and reputational risks. Buyers need evidence of adherence to all applicable laws to avoid inheriting liabilities.

Pending or Open Legal Disputes
Unresolved lawsuits or disputes with clients, vendors, or employees are major concerns for buyers. These issues must be clearly documented, with explanations of potential outcomes and mitigation strategies, to reassure buyers of manageable risks.

These red flags can lead to deal cancellations or reduced valuations if not addressed proactively.

Chapter 4: How to Prepare for Legal Due Diligence

Focusing on key preparations will help streamline the due diligence process and build buyer confidence. The most critical areas include organizing documentation, standardizing agreements, and addressing legal disputes.

Organize Your Documentation
Set up a virtual data room with clearly categorized sections for contracts, intellectual property, and compliance records. Include signed client contracts, vendor agreements, employment documents, tax filings, and governance materials like shareholder agreements. Ensure all records are current, complete, and easily accessible.

Standardize and Update Agreements
Review all contracts to ensure they are properly formatted and include necessary clauses like transferability and termination terms. Formalize informal agreements with key clients or vendors to eliminate ambiguity. Standardization helps avoid red flags during buyer reviews.

Address Pending Legal Issues
Resolve open disputes with clients, vendors, or employees wherever possible. If resolving them isn’t feasible, prepare detailed documentation explaining the nature of the disputes, potential outcomes, and steps taken to mitigate risks. Transparency about legal issues helps build trust with buyers.

Chapter 5: Strategic Tips for Managing Buyer Requests

Managing buyer requests effectively during legal due diligence is essential to keeping the process on track and avoiding unnecessary delays or misunderstandings.

Be Transparent
Disclose any known issues early, such as compliance gaps or disputes, along with your plan to address them. Transparency builds trust and reduces buyer concerns.

Clarify Ambiguities
For agreements or records that are unclear, provide supplemental documentation or explanations. For example, clarify informal arrangements with additional details to demonstrate their enforceability. Tackling ambiguities proactively minimizes questions from buyers.

Get Help
Advisors are critical during this phase. Legal and financial experts can handle complex buyer inquiries, ensuring your responses are accurate and comprehensive. They also help manage negotiations if requests become overly demanding or require detailed legal interpretations.

Feeling overwhelmed? Let me help! Get in touch and let’s have a chat!