Consultant Peter Thomas outlines the essentials of due diligence for rental acquisitions

16 October 2009

Peter Thomas of Will Leftwich Associates.

Peter Thomas of Will Leftwich Associates.

Further consolidation of the rental sector is widely anticipated when the market emerges from recession. But has the recession changed the essentials of due diligence? It's a question for both potential buyers and sellers of businesses, writes Peter Thomas of consultancy Will Leftwich Associates.

Why talk about acquisitions when we are in the middle of a recession? There are several key reasons: the banks will increase lending, the recession will end and the economy will improve - it's just a matter of when. The recession has stalled the growth of every rental business and the best way to kick start growth is to acquire.

This issue is also of great relevance to any owners looking to sell their rental business. Quite simply, the more you understand how the recession has affected your business, the more you can do to structure the business for sale. At the very least, you can prepare your ‘sales pitch' and assist the buyer's need to assess risk.

Some companies will acquire when they judge the recession to be over. The more aggressive or opportunistic - by management style or dire need - will acquire when the need for growth becomes paramount, and availability of funds permit.

There are some other very relevant factors. The market is likely to see an increasing number of companies up for sale, with a backlog of owners who wish to retire. The recent performance and current trends of many such businesses will not justify a high sale price and buyers may well perceive that good bargains are there for the taking.

Summing up these factors - with possibly desperate sellers combining with buyers who feel they simply have to do a deal - there is opportunity for both successful business building and potential disaster. It is quite likely that the first company out of the starting blocks on the acquisition trail will pick up the best available deals.

However, it's not just a question of making a quick or good deal. The acquired business has to fit into the acquiring business to enhance their combined performance. Whatever the strategic impulse behind the acquisition, ultimately the investment has to improve profitability and return on capital employed (ROCE).

The purpose of due diligence has always been to measure and manage risk by assessing the extent to which the target business:

1. Fits with the objectives of the acquisition strategy and can be appropriately and cost effectively integrated into the business.

2. Has a sustainable income and profit stream, and

3. Requires future investment to sustain and grow its operations.

The recession has changed much about the way we approach risk in business. There is, quite rightly, a reluctance to take on new debt or liabilities with so much uncertainty about.

The key to success in acquisitions, now more than ever before, is the professionalism with which the acquiring company undertakes its due diligence investigation into the target company. In these times of rapid change, even the most experienced manager can overlook a fundamental issue in the target business, particularly if they are following a tried and tested due diligence process.

The aims of due diligence in this climate must include the achievement of a deep and thorough understanding of current performance, including the real impact of the recession on the business under investigation and on one's own business.

The essentials of due diligence

The following isn't intended to be a comprehensive list, but covers the key ‘mission critical' matters any due diligence investigation must cover in today's climate:

Income, customers and marketing

The aim is to assess the sustainability of the income stream:

• Identify to what extent the target company has diversified or changed direction in its fight against recession and assess whether this has enhanced or damaged the core business that you are interested in acquiring.

• Band customers by income range and review growth trends, identifying those which are deteriorating. Understand how the target company is addressing this issue.

• Analyse not just the trends of the top 20 or 50 customers, which are likely to generate 80%+ of income, but look into the creditworthiness of those customers, and assess which are problematic and may fall away.

• Identify any material one-off or non repeat contracts or series of contracts that may be event, customer or weather driven.

• Identify net prices being achieved and profit margins, looking for any downward trends.

• Identify any retrospective rebate deals in place and review their accounting.

As important as the numbers are, it is vital you also assess how the business manages:

• Its customer relationships and

• Its corporate social responsibilities, including Health and Safety and statutory compliance, recycling, waste disposal, use of hybrid vehicles, and the impact of environmental matters on its rental fleet.

How would these areas be managed post acquisition and what investment is required to bring the latter in particular up to speed?


The aim is to assess both collectability and sustainability

• Review bad debts suffered in at least the last six months and assess the impact on loss of turnover.

• Review the debtors' age profile and identify potential bad debts and the possible consequent impact on turnover.

• Review the payment patterns of the top 50 customers and identify any that are deteriorating and represent increased risk.

Rental stock and suppliers

If, as is likely, purchasing or replenishment has been at a low or non-existent level for some time, the rental stock may be out of balance to demand, its average age will be increasing and its income generating ability may be impaired.

The aim is to assess the sustainability of rental income generation and the cost of putting the fleet into good condition.

• It will be necessary to physically verify not just the presence of each rental asset but to assess and grade its condition, identifying all kit not currently rentable, and requiring repair or write off.

• Review the return on investment (ROI) and utilisation trends of each stock category.

• Review the gross and net prices being achieved by all core products and compare them to the acquiring business to identify where pricing issues will arise after the acquisition. The customer will expect to receive the lowest price from the combined operation.

• Plan for the integration of fleets and the rationalisation of brands and products. If this isn't done the need to carry broader stock and spares ranges will add hidden cost and resource requirements in the future.

Creditors and Contracts in place

The aims are to identify mission critical suppliers, and look for profit opportunities.

• Identify suppliers of mission critical products, particularly where sole sourced, and review their credit worthiness. Are alternatives available?

• Compare terms to those of the acquiring business, and identify opportunities to improve buying prices and terms.

• Identify all long term liabilities such as directory entries and other marketing spend.

• Pre-plan the integration and likely rationalisation of the supplier base.

The acquired business has to be run from day one of ownership. Any integration with the buyer's systems must be carefully pre-planned.

If a division or subsidiary is being purchased, consider if a transitional services agreement is required to facilitate a phased handover, and identify any services no longer being provided to the business or key staff being retained by the seller.

Other important areas to be subject to due diligence and preplanning to determine which would be retained or eliminated would include:

• Assessment of all branches

• Assessment of staff, particularly of operations management and sales staff.


Before making any radical decisions to determine which would continue, there is much to be gained from taking a closer and more detailed review once the business has been bought. It is vital, however, that a timetable is laid down and adhered to. As in any investment situation time is the enemy in achieving target returns.

The keys to successful due diligence are planning coupled with a flexible approach and the ability to shift emphasis on the key risks as they emerge from the investigation.

The due diligence investigation must be comprehensive and must identify the strengths and weaknesses of the business, how weaknesses will be addressed, how the business will be integrated and at what cost. Get it right and the acquisition will succeed.

Most importantly, the due diligence investigation is not a one-off exercise, but part of a process that continues beyond the point of acquisition, into the integration process and the ongoing measurement and monitoring of the acquired operations.

The author: Peter Thomas is a qualified accountant and an experienced rental executive. He was finance director at HSS Hire from 1992 to 2004, and since then he has worked with Chobham Consulting. He is also an associate of Will Leftwich Associates (WLA). Contact WLA at: Tel: +44 (0)121 242 5196, E-Mail: [email protected].


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