By Rayna Sparkes, Partner at Momentus Legal

Mergers and acquisitions (M&A) are often thought of as thrilling and transformative. They’re exciting, fast-paced, and full of promise. However, behind the excitement lies the stark reality – some red flags can jeopardize the entire transaction. But – more importantly, this is a good thing, you just need to know what to do about it.

Through my experience in M&A, I’ve seen many variations of red flags that have wasted time. The best way to ensure you’re pursuing the right deal is to recognize these issues as early as possible and figure out if they’re fixable or best to go your separate ways and not continue down a path wasting time, energy and resources on the wrong transaction.

Here are five red flags I’ve seen derail deals—and tips to identify them early on:

1. Vague Terms in the Letter of Intent (LOI)

The LOI sets the stage for the entire deal. If it’s too brief or loosely defined, it can lead to misaligned expectations between parties. Misalignment is often because of miscommunication, but don’t let miscommunication lead to bigger issues. Make sure the LOI is specific enough on key issues to ensure clarity on the subject.

✅ Pro Tip: Have clear terms in the LOI, discuss the main issues early in the transactions and try not to reserve too many issues for later in the transaction.

🔗 Want a deeper dive into the M&A process? Check out the article below to learn how foundational steps like the LOI can make or break a deal.

2. Unknown Liabilities

Potential and pending litigation, unrecorded debts and environmental risks often hide in due diligence. They may not surface until after the deal closes creating post-closing issues and a costly oversight. Thorough due diligence will avoid these surprises and much of this stems from ensuring the company is well-managed at the executive and board level.

✅ Pro Tip: Commit to comprehensive due diligence. Don’t hesitate to ask for clarification on anything that looks unclear.

🔗 Curious about how corporate governance impacts risks like these? Check out the article below for insights into avoiding common board-level mistakes.

3. Incomplete Due Diligence

Rushing through the due diligence process can mean missing acute risks. While speed is sometimes necessary, skipping important steps can lead to unexpected situations after closing.

✅ Pro Tip: Dig deep into financial and operational records.  Set up team due diligence meetings with the target and discuss with various teams in the company.

4. Overly Aggressive Non-Compete Clauses

Restrictive non-compete clauses can be deal-breakers. If they’re too aggressive, they may not only scare off key stakeholders but also risk being unenforceable under state or federal laws.

✅ Pro Tip: Strike a balance in non-compete clauses. They should protect the deal without alienating important players or pushing legal boundaries.

5. Cultural Misalignment

The numbers might add up perfectly, but if the two teams aren’t aligned culturally, the integration will almost certainly fail. Overlooking this aspect can make even a financially sound deal unsustainable and lead to key employees leaving the target company early.

✅ Pro Tip: Prioritize cultural fit in your evaluation process and have a post-integration plan. Conduct in-depth discussions with leadership teams to ensure alignment in values, goals, and work styles.

The Takeaway

No M&A deal is without risks, identifying red flags early can save you from costly surprises down the road. If you’re on the buy-side be aware of unknowns, and if you’re on sell-side, be proactive about issues and be clear on how these issues can be resolved prior to closing.

What red flags have you encountered in M&A deals? Let’s start a conversation!

Need help navigating your next deal? Let’s connect to make sure it’s set up for success.

Rayna Sparkes, Partner at Momentus legal