Dealing with A Seller Reluctant To Allow Customer / Employee Diligence

June 15, 2023

by a searcher from Duke University in Westfield, NJ 07090, USA

I am working on a deal where the seller is reluctant to have me speak to any customers or employees as part of diligence. He has been extremely cooperative on all other requests and is open-book everywhere else. He has no NPS/customer sentiment tracking so all feedback is anecdotal from him. On the plus side, his customer churn is low and most have been with him for 10+ years. For context, this deal has 51% customer concentration with their largest customer who has been with the company for 12 years. He is pointing to their track record as sufficient backing for his claims of their satisfaction, and the deal is structured where he is financing 45% of it himself which is forgivable if revenue drops due to the main customer (or other large ones) leaving, which keeps him on the hook for retention.

I can empathize with his hesitation given the sensitivity of the sale to customers and employees, but want to make sure I am doing proper diligence. I even suggested using a 3rd party to conduct (e.g. Strategex) surveys but he doesn't like that idea either as he feels it is too formal/"heavy handed" and will spook customers since they have never done anything like it. His company is only 4 employees (though doing $13M in revenue) so he doesn't want to come across as "bureaucratic" to his clients.

Any advice around how to proceed? One advisor of mine suggested I threaten to walk from the deal if I can't speak with some clients, but I am not sure if that is overkill if I like the deal on all other fronts. That said, I don't want to go into this blind or be overly trusting and pay the price later. Curious to get some more opinions on it. Thanks!

Reply by an intermediary
from Boise State University in 800 W Main St, Boise, ID 83702, USA

My first reaction is that I wouldn't allow you to talk to employees or customers either. This is a small company and that is a big risk for the seller. If this was a company with 50 or more employees, then perhaps I could see how you could talk to 2 or 3 key employees. But talking to employees in a small company like this is the kiss of death. The employees could bail and cause all kinds of chaos. Why would a seller want that? I would suggest that you and the seller determine whether or not "golden handcuffs" are needed for any or all of the employees. How key are they to the business? You should know this by now. You and the seller should determine how much compensation that you jointly will pay to maintain these employees post sale. What do you hope to learn from the employees that you don't already know? Regarding talking to customers, that is also a big risk to the seller. Why would he run the risk of letting customers know he is thinking of selling? What do you expect to learn from the customers that you don't already know? Another suggestion by another individual was to find "connections of connections" and do some confidential research. Also any customer issues can be handled during the transition period. It will be incumbent upon you as buyer not to alienate the customers post sale. That means NO BIG CHANGES until you know the job and how the business works----probably at least a year down the road. Put yourself in the seller's shoes, how would you FEEL if a buyer wanted to do what you are asking? My guess is you'd be pretty uncomfortable. It sounds as if the seller has been very open with you. Also you indicate that customer churn is low - that should tell you how he takes care of business. What makes you think he is hiding something?

Reply by a searcher
from University of Pennsylvania in Miami, FL, USA

Agree with Pari about the 45% seller financing. One thing to be aware of is a successful future transition of that client post seller finance being paid back.

As far as speaking with the client, it is really up to your comfort level. It is a bit off that he would not let you speak to them as part of a survey process since the client will never know.

The other option would be to ask him to get on the phone with you + client just prior to close to notify the customer of the impending sale and as an introduction- allowing you to ask questions at that time.

You could also up the seller note and ensure the seller note is 100% tied to this customer for period that would extend beyond the current term you are contemplating.

One anecdote. I had a similar type of deal with 50% customer concentration where I was able to speak with the client and it actually ended up killing my deal bc of what I found. 2 weeks from close.

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