What Kills an M&A Deal in Due Diligence, and Is My Portfolio Company Exposed?

You finally have a buyer interested in acquiring one of your portfolio companies. The purchase price looks good, and the negotiations are moving forward.

But price may not be the biggest risk.

The bigger concern is what happens when the buyer’s legal team starts going through the data room. A cap table does not reconcile. An important customer contract contains a change of control clause. A contractor who worked on the core product never assigned the resulting IP to the company.

These problems may have existed for years without causing an obvious issue. During M&A diligence, they become negotiation points.

A buyer may use them to demand additional escrow, reduce the purchase price, delay closing, or in serious cases reconsider the transaction.

Founders are usually focused on building the product and growing the business. Many have never taken a company through a sale. That is why deal readiness needs to start before the buyer’s diligence team finds the problems for you.

The Cap Table Needs to Be Bulletproof

A buyer will want to reconcile the company’s ownership records.

That means checking shares, options, SAFEs, and notes against board minutes and stock ledgers. A cap table that looks correct in a spreadsheet is not enough if the underlying corporate records tell a different story.

Every option grant should have the required board approval documented. SAFE and note conversions need to be properly completed and recorded. The company’s 409A valuations and vesting schedules should also match the actual equity holdings.

A discrepancy does more than create administrative work. It can give the buyer a reason to question the company’s ownership records and potentially push for changes to the economics of the deal.

IP Assignment Gaps Can Become Deal Killers

A buyer expects the company to own the technology it is purchasing.

That assumption can fail if a founder, employee, or contractor created important technology without signing an appropriate IP assignment agreement.

Start with everyone who has worked on the codebase. Confirm that their agreements actually transfer the relevant IP to the company.

Do not overlook work created before incorporation. Founders may have built software, designs, or other valuable assets before the company legally existed.

Contractors require the same attention. An agreement that merely gives the company a license may not provide the ownership rights a buyer expects.

One unresolved IP ownership issue can create a serious diligence problem because the buyer may be paying for technology the company cannot clearly prove it owns.

Customer Contracts Can Change the Deal Economics

A company may have strong customer relationships and still have a major M&A problem hidden in its contracts.

Change of control provisions can give customers or vendors rights when ownership changes. Depending on the wording, the other party may be able to terminate the agreement, renegotiate terms, or require consent before the transaction closes.

Imagine that a major customer represents a large share of revenue and its contract gives it a walk-away right after an acquisition. The buyer now has to consider the possibility that a major revenue source could disappear immediately after closing.

That risk can affect the purchase price or lead to a larger escrow requirement.

Before a sale, pull every material customer and vendor agreement. Review assignment provisions and identify any contract that requires third-party consent.

Where consent is needed, address the issue early rather than waiting for the buyer to put the customer on a deadline.

Litigation and Compliance Problems Do Not Stay Hidden

Pending claims, employment disputes, and unpaid payroll taxes can become major diligence issues even when they are not obvious to the buyer at the start.

An unresolved issue does not disappear because the company has not discussed it.

Once discovered, it may become a representation issue in the acquisition agreement. The buyer may ask for additional protection or seek remedies after closing if the seller’s representations do not accurately disclose the problem.

This is why sell-side preparation needs to cover more than corporate records and contracts. Employment matters, tax compliance, disputes, and other known risks should be identified and documented before the buyer starts asking questions.

Common Founder Mistakes

• Waiting until the LOI to clean up the cap table: Founders often treat cap table maintenance as administrative work. Once the letter of intent is signed, however, there may be little time to find former advisers, obtain missing signatures, or resolve old equity records. Rushed cleanup creates unnecessary pressure when the founder needs negotiating leverage most.
• Assuming standard employment agreements automatically assign IP: A generic offer letter may not resolve every IP ownership issue. Problems can come from old contractor agreements, founder work completed before incorporation, or international contractor arrangements that do not provide the ownership protection the buyer expects.
• Ignoring customer contracts until the sale begins: A contract that has worked smoothly for years may contain a change of control provision buried in its terms. Finding that provision just before closing can give a major customer leverage and give the buyer a reason to renegotiate the deal.

10-Minute Self-Check

• Does the current cap table reconcile with the company’s board minutes and stock records?
• Can I confirm that every option grant received the required board approval?
• Have all founders, employees, and contractors properly transferred relevant IP ownership to the company?
• Have I reviewed every material customer and vendor contract for change of control provisions?
• Have all known or threatened lawsuits and other legal claims been identified and disclosed?
• Are payroll taxes and employment compliance matters current and properly documented?
• If a buyer opened the data room today, could the company withstand the review without unexpected issues?

If you cannot confidently answer yes to all of these, the portfolio company may not be ready for sell-side diligence.

Bottom Line

M&A deals rarely become difficult because of the headline purchase price alone.

Problems often appear when the buyer starts testing the seller’s records. A weak cap table, missing IP assignments, contract restrictions, unresolved disputes, or compliance gaps can quickly become negotiation leverage for the buyer.

The best time to address these issues is before the buyer appears.

Clean up the ownership records. Confirm IP belongs to the company. Review material contracts. Identify litigation and compliance concerns. When diligence starts, you want the data room to confirm the story you have already told the buyer.

A prepared portfolio company has more than cleaner records. It has more leverage when the economics of the deal are being negotiated.

Ready to Pressure-Test Your Portfolio Company’s Deal Readiness?

If you are considering a sale or expect buyer diligence soon, schedule a free 30-minute call with our team to discuss the company’s current readiness and potential legal gaps.

The goal is to identify problems while there is still time to fix them, rather than discovering them after the buyer has leverage.

Book here: https://calendly.com/primumlaw/30min