REPLAY: Take Your Profitability to the Next Level by Mastering Due Diligence
Mike Rispoli, CPA and leader of MHA's due diligence team, joins Paul to explain why due diligence has become more intense and how rehab owners can prepare their reports, contracts, and records before a transaction.
Full transcript
Generated from the episode audio and lightly edited for readability.
Good morning and welcome to another episode of Paul Martin's Crucial Conversations. Today we are really excited to have an extremely crucial conversation with Michael Ruspolei. Good morning Mike. Good morning. Excited to be here. Awesome. Awesome. So, Mike is a CPA and he is an analyst on our mergers and acquisitions team. And Mike plays a critical role in every deal that we do because he is currently leading our due diligence team and our due diligence efforts. And as you will hear from Mike today, as well as from our director of mergers and acquisitions, Joe Anzur, due diligence has been taken to a whole new level in this market.
So, we're going to call today's episode with Mike, mastering due diligence, protecting and maximizing your business value in today's market. So, let's jump in. So Mike, explain what due diligence is from the folks out there today, a sellers perspective, specifically private rehab owners, and why it has become intensely scrutt intensely scrutinized part of the merger and acquisition process. Yeah, sure. I mean, overall due diligence is basically a process of verification, investigation. You know, you want to determine the viability and health of the overall business. If you're a seller, you want to look at it and say, you know, what is the what is my business worth?
I've done all this analysis, some maybe pre-sale due diligence, and now I'm able to get paid the true value of my business. You know, part of that process is really being able to normalize your earnings. Look at your P&L and say, "Okay, what's a non-recurring item that really doesn't contribute to the value of my business?" and you know normalize the earnings determine okay what's my base what's the value of my business in the market if you're you know if you're growing what are your margins are they compressing are they improving if someone's you know looking at your company you know they want to be able to really gauge okay what should I be paying the seller for this business what's the actual value on the market so why has due diligence become intensely scrutinized as a part of this process us.
Well, I think you know the last two years it's been grow and you know within the last year six month period there's been labor shortages, there's been market volatility, there's been inflation and that's led to you know more robust due diligence processes. So Mike is a CPA as I said with a background in big company financial audits. What are some of the potential financial pitfalls that a rehab business owner should be aware of during a due diligence process? So, auditing and due diligence are very different.
You know, an audit, you're going to look at the financial statements and make sure they're free from material misstatements. And due diligence, it's really like I kind of said earlier is you're trying to normalize earnings to determine the true value of the business. So it can be as simple as not really having a true understanding of your business. That's going to slow down the due diligence process in general. Specifically, a pitfall can be not having the reports you need ready to go. I mean, due diligence can be overwhelming when you first get these requests.
It's it's a very long list. So, you want to be prepared prior to getting all of that. You know, we really prepare our clients. And we're able to go through that list and kind of shrink it down so they're prepared. And you know, I one of the bigger things specifically to the rehab industry is having your payer contracts, requesting them. Some of them are very old, so putting that request in prior to going to market and having a lot of those reports prepared. Yeah, absolutely. Absolutely.
So, how can potential sellers best prepare and navigate the due diligence process? Yeah, as I just kind of alluded to, I mean, the due diligence process, it's excruciating. I mean, they're going to want your QuickBooks access. They're going to want your EMR access. They're going to look at they're going to do a complete data dump from the EMR. They're going to look at, you know, charges by payer, revenue per visit, you know, units per visit, units by payer. So, organization of these reports, your company records, your contracts for the LA, you know, the historical period is what they're going to look at.
It's going to be the last three years. Having all of that in order is probably the biggest key. Just being organized and really maintaining your internal documents. So while I know these are numbers and reports, it's like going into your basement and saying someone wants to inspect each area of your basement that has been for 30 years. And in some cases, you know, these business have been going on for 20, 30 years. They want to see it organized. They want to see each cabinet. They want to know exactly what's in it.
And so, yeah, as Mike said, you know, getting organized is really important. So, if we just focus on the financial documents, what are some of the key documents and financial records that business owners should prepare in advance in order to have a smooth due diligence process? Sure. Like I said, I mean, the QuickBooks Access is going to cover a lot of that information with the monthly profit and loss statements. But also contributing, you know, to your financials is things like your employee handbook, your health care benefits, how, you know, because that determines how do you recording those things and how will that impact the buyer's financials at the end of the day?
Your employee census, is that up to date? So, making sure all of those documents are up to date that maybe aren't in QuickBooks that don't update automatically. I would say the three biggest would be the payer contract, your employee census, and your handbook. So, kind of scrubbing your internal controls and making sure your documents are up to date. That will go a long way in the due diligence process, doing that prior to getting in there because it's tough to do when you're in there. When somebody's in your basement, it's not very easy to clean, Paul.
Yeah, I know. Absolutely. You know, Mike, you mentioned something that I'm sure for those out there listening today may have, you know, been a little bit of a trigger. Access to their QuickBooks Online, giving the acquirer access to that. How does that work? And what then, you know, is imperative from a seller to make sure that when a buyer accesses those records that they're all in good order? Well, there's a couple ways it could work. It depends on the version of QuickBooks you have. You have the desktop version, you know, you can provide them a login.
You can create an admin login. You can give them your own login and they can go in and download the necessary reports they need. If you have the online version, you can also provide them a login. It typically the online version works a little better. And so I so the desktop version is really where you're going to see you're going to you're going to create a backup file and then you're going to send it over usually through Dropbox or another form and then this the buyer will have access to it through a backup file which you can create on the desk on that excuse me yeah the desktop version which is pretty easy to do.
The online version is usually easier just to provide the username and login. What was sorry ball was you the last one after? Yeah. No and I think you explained that I think you know if we keep with our basement comparison here you know when someone gets access to your QuickBooks online again you want to make sure it's all right. You know every entry it's everything is right. But I think what's also important for folks out there to understand is that it's like you're sending someone in your basement and both of their hands are tied behind their back.
They can't move anything. They can't change anything. So when they're in your QuickBooks, Mike, they're not able to edit files or change numbers, right? No, they're not able. I mean, it depends on the kind of access you give them. And obviously, you don't want to give them the access where they're going to be able to edit anything. At the same time, they they're not, you know, they don't want to edit anything. I we we've never seen that as a problem. You know, furnishing that information. The point isn't to edit the information.
They're just trying to pull the necessary reports they need, pull the data they need so they can perform their analysis, trend analysis, and determine the true value of the company. I mean, pro I would say that before providing the QuickBooks information, you maybe want to go in and do a little maintenance if they're already in there. It might be a little too late, but you know, I think I think just prep prepping is the biggest thing before giving them access. Sure. Sure. So share an example if you could of how you have helped a seller avoid a significant issue during due diligence.
I know there's many but share a share one for us. Specifically I mean I wouldn't say we prevent major issues because you more do that prior to going to due diligence. You know I think one of the biggest keys is we know what the buyers are looking for. We know the questions that they're going to ask and you know we're able to prepare our clients prior to due diligence and ask them these questions and if they don't know the answers then they can research it before we can assist them in you know to say you know to help them you know what to say and maybe what not to say so just preparation in general I think goes a long way in not really prolonging the process otherwise it can be overwhelming if you're getting asked all these questions prior and then I think specifically just assisting with the tieouts of the bank statements to the P&L to the EMR, being able to reconcile any lags with the EMR between, you know, and QuickBooks.
That's something that the physical therapist may not be able to do that we're able to do, you know, no problem. Yeah, for sure. And you're not giving yourself enough credit there, Mike. And for all of those out there, what tends to happen is that the questions that are asked go way beyond what we as physical therapists have been taught in physical therapy school and even what we as physical therapy business owners have been taught to run a physical therapy business. Very different from quality of earnings questions and how you know your current financial formatting and the numbers how they play out compared to other pieces of information within your business.
So I think that's you know a big piece where then someone who has been through this can certainly you know jump in and go directly to their financial people and talk finance to finance versus finance to rehabilitation owner. I think there's a there's a disadvantage you have when you go about it that way. Mike, what are some of the legal considerations? That rehab business sellers should be aware of during due diligence. Yeah, the biggest legal considerations that we see are usually around the payer contracts, the leases, making sure they're all up to date, having historical documentation ready to go.
As well as you know, are there any is there any outstanding debt? Are there any leans on the business? And using a competent lawyer that has M&A rehab experience is key and not prolonging the process. Yeah, absolutely. So you know, we're talking a lot and you said in the beginning, I don't think you said your job is easy because we do a good job preparing when you get to due diligence. But I think what you said is that preparation is the key because what we want to avoid are things that will come up in due diligence that we have to explain and we have to dig out of a hole.
How does a lack of preparation for due diligence potentially affect the valuation of the business? And how could a rehab business owner prevent this? We're talking value now. You know, somebody told me my business is worth $10 million. What happens? And how can we pre prevent that from going down? Well, you know, for example, if you're if you're a physical therapist and you're paying yourself a million a million dollars, and you run the company, you're most physical therapists aren't getting paid a million dollars and a buyer would look at that and you know, they would say, "Okay, we got to that needs to be normalized." and they would you would get credit for that decrease in your expense.
So that's one specific and I mean just a lack of preparation in general. If you've never had any diligence done before, like I said, it'll prolong the sale process and that leads to increased legal cost and you know, for example, if your EVA is over or understated, you're already in the legal phase at that point and you'd have to renegotiate the purchase documents and that's going to substantially increase your legal costs. Yeah. Yeah. And I think Mike, you talked about making sure that what is shown as EPIDA or the bottom line that then is multiplied that you know we want to make sure that everything that can contribute to that is in there.
What about on the other side of that where an owner may not be using someone that's going to help them prepare that EPIDA and they've overstated it and then in due diligence that comes up. What tends to happen there? Yeah, sure. I mean, these positive and negative adjustments to EBITDA are going to be highly scrutinized. So, if you overstated EBITDA by, you know, a million dollars, per se, the buyer's going to scrutinize every single adback or positive adjustment to EBITDA. And if they don't qualify as a legitimate adback to the business, then that's going to significantly impact your value.
It could increase it could decrease the multiple. So you could really look at an exponential decrease to the value of the company if prior to going in your documents your adjusted eBay number isn't accurate. So having that experience, you know, knowing what to look for is crucial, going to market and having a really good understanding of what your company is actually worth and normalizing all these items to EVA. Absolutely. Absolutely. We hear so many, you know, and they are they're horror stories of, you know, companies that thought they had a value and, you know, they're calling us because then for some reason halfway through due diligence, that value got cut in half.
And you know the way in which CPAs like yourself and the financial people with some of these large companies sometimes these business owners really don't fully grasp why that has happened and I think that's a crime that should not be happening out there. Lastly, Mike, could you share some advice for rehab business owners that are just feeling overwhelmed by the discussion we're having here today, by this due diligence process, and explain how you help to alleviate these fears? So, you got an owner, you're getting ready to go to due diligence, and they are just, you know, on edge.
How do you alleviate these fears? Well, it is an overwhelming process. I mean, initially you're getting eight to 10 pages of request. So you know, right off the bat, one of the things that we do is we look at that list. You know, we don't even want our clients to look at the list prior to us looking at the list and we'll shrink it down. We'll go through and we'll say, "Okay, this isn't not applicable." And that's, you know, 50% of those items. And so right off the bat, we're going through, we're compartmentalizing each section of due diligence.
And then, you know, data is only one side of the coin. So if you're looking at all the data, getting the information in a timely fashion is one piece, but then really understanding your business and the trend analysis and your operations and your internal controls is a whole another piece because a lot of due diligence is just having a conversation. So I think one of the big ways that we contribute here, I mean, we understand our clients business sometimes better than they understand it themselves. So if you're in due diligence right now, make sure you do understand your business and understand your financials and your operations and make sure you're organized and you maintain all of your reports and just be able to speak to your business in general.
Yeah, I think it's such a great point. In that, you know, this is a time where more than any time obviously in the history of your company where you need to know your business inside, out, upside, and backwards. Again, down to, you know, entries that are going into your financials. You know, how your bank statements are tying up to all of that. As well as you said before really understanding your payer contracts understanding you know your human resources side of the business your benefit package it's a time where you really have to dig in and know your business because the acquirers will uncover everything.
And I think I leave this with you fi the final thing as I'll leave for you Mike is that you know on our side you know manning the due diligence process for our clients your objective is to maintain and keep that [snorts] value that they had when they signed that letter of intent getting through to a closing. Right? And that is that is your 100% charge. And I think I think what gets you out of bed every morning, right? Oh, absolutely. That's that's exactly what gets me out of bed.
But yeah, I mean, like you said, Paul, I mean, one of one of the pe the clients we work with, they they're running their business and you know, in due diligence, everybody understands that they still have a business to run. So, one of the ways we really add value is we're monitoring the flow of information. We're making sure that we keep the process moving because the longer the process drags out, the less likelyhood that you're going to get the value of the letter of intent or get the done deal at all.
So, you really want to keep the flow of information moving. So, that's a great point and that's really where we do add a lot of value. Yeah. Yeah. Well, Mike, I really appreciate your time today. I know you are busy in a few due diligence processes right now as well as working on some other aspects of the deal. You know Mike really souped to nuts through a rehab M&A deal has been in every single part of it. So I really appreciate you spending time to with me today Mike.
Well thanks for having me. It's great to be here. So, for all of you out there, if you have a question for Mike or myself, you want to talk a little due diligence, click below and let's talk. Thanks for joining us today.
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