SaaS Buyer Legal Due Diligence Cheat Sheet: Six Things You Must Ask
Sourcing deals is hard. Valuations swing wildly, money is pouring into the space, and there are lots of buyers out there competing for the right businesses to buy. But you have found an appealing target company and the target company is now under an exclusive letter of intent. You have seen preliminary data, but now it is time to really dig into your target company so you can be sure you want to close the transaction. This due diligence process isn’t the most fun part of the deal, but it is important and the more you know about and are prepared in advance for the process, the less painful it will be. This guide presents you with six things you as a buyer should ask for during legal due diligence. Your business diligence is just as important, but business diligence varies more depending on the type of target company.
1. Ownership of the Assets
The single most important you must confirm during due diligence is that the seller owns what they are trying to sell you. With digital assets, this can become complicated fast. If multiple people were involved in creating the code, then the seller may not be the sole owner of that code. You will need to check each of the agreements between the seller and its software developers to make sure that the seller owns all the rights to the code. If there is a problem, you should have the seller address such issues before you close on the transaction as the buyer.
2. Open Source Licenses in Code
If you are buying software, you will want to know about all of the open-source licenses that apply to any portion of the code base. Most open-source code will use a license that allows modification, distribution, and commercialization without limitations (the MIT and Apache licenses are such examples), but there can be code with a copyleft license attached to it that requires that any software incorporating that code be distributed as freeware. Obviously, this is not what you want as a buyer. In addition to reviewing the open-source licenses, you as the buyer will want the seller to make certain representations about the open-source licenses so that if something impairs your ability to sell the software after you purchase it then you will be able to seek compensation from the seller.
3. Support Tickets
All software has bugs. If you are buying software, you will want to know what problems users have been having with the software in recent months so that you understand how serious the bugs are with the seller’s software. Since the seller knows the software better than you do, you will probably want the seller to be available for a period of time to address any necessary fixes to make the post-acquisition transition as smooth as possible. Knowing more about the service history for the software will put you in a better position to negotiate the transition services you will need to seamlessly take over the business you are purchasing.
4. Contracts to Assign
Depending on the nature of the SaaS product (i.e. enterprise SaaS products), certain customers can drive an outsized portion of revenues. If there are particular customers that provide an outsized portion of the revenue of your target business, you as the buyer will want to carefully review that contract. Make sure that the contract can be assigned to you as the buyer without requiring negotiations with the customer; if there is a problem with assigning the contracts, then you need to make sure the seller corrects this problem before closing. You may even wish to speak to the contact person at that customer as part of your business diligence. If you do so, just make sure that all parties involved are okay with such communications so that major customers aren’t surprised when you contact them.
5. Corporate Documents
Make sure that the seller has its corporate house in order. This means articles of incorporation, bylaws, and certificates of good standing to make sure the seller doesn’t have some massive tax liability that could hold up the transaction. You will also want to review financial statements during your diligence process, but the extent of that review will vary with the deal size and industry vertical so it is difficult to provide a blanket statement on how deep that review will be.
6. Ongoing Litigation
Lawsuits are expensive and time-consuming. Don’t buy into a lawsuit when you purchase a business. Make the seller represent that there is no ongoing or threatened litigation that impacts the seller or the assets you plan to purchase. If there is ongoing or threatened litigation, then you as the buyer may wish to not close on the deal or to renegotiate the price down based on the clouds of uncertainty that litigation causes.
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Armed with some knowledge and preparation, you will be able to successfully navigate the due diligence process and close on a successful purchase of a SaaS business. If you would like assistance in preparing for the due diligence process or guidance through the entire process of buying a SaaS business, contact us at info@barlowwilliams.law and we’ll be happy to meet with you to discuss your needs.