Investing in an ecommerce business is a significant financial decision, and the stakes are high.
Missing a crucial detail can lead to unforeseen challenges and potential losses.
To mitigate risks and maximize potential for success, the business acquisition process must begin with thorough due diligence. But what does that mean exactly?
Although there are dedicated due diligence services, I’ve compiled every step of the process into this handy ecommerce due diligence checklist. Just follow along and you’ll be able to make an informed decision.
What’s Up With Ecommerce in 2023?
Before doing any ecommerce due diligence, you have to know what the market landscape looks like for ecommerce businesses in 2023.
Significant Market Growth and Growth Potential
20.8% of all retail sales in 2023 were from online purchases, indicating that traditional shoppers have permanently shifted to online business since the pandemic. The global ecommerce market is projected to total $8 trillion by 2026.
Evolving Consumer Behavior
57% of online shoppers report shopping internationally, highlighting the global nature of e-commerce. However, challenges persist.
A notable 48% of online shoppers abandon their cart due to additional costs like shipping, taxes, and fees.
This indicates growth opportunities and potential pitfalls to be aware of in this business model.
Untapped Potential in Mobile Shopping
The online shopping cart abandonment rate on mobile devices is a significant 84%. Ensuring a seamless mobile shopping experience can be a game-changer.
By thoroughly understanding the ecommerce business landscape, you’ll be better positioned to evaluate the opportunities and challenges facing the specific business you’re investigating while conducting due diligence.
Now let’s begin the actual due diligence process with this 7-step due diligence checklist.
1. First Glance – Ecommerce Due Diligence Overview
As an investor or buyer, you won’t be lacking for online businesses to choose from. The first step in the due diligence checklist is to quickly rule out the duds before diving any deeper on a candidate. Here’s how you get a quick and accurate snapshot of the business:
Like Joe Mansueto (Morningstar Exec Chairman) said, start by understanding the core fundamentals of the business. What products or services does it offer? Who are its target customers? This will give you a sense of the market it operates in and its positioning.
It’s also a good time to consider whether or not your personal skillset and interests are compatible with what the business requires.
Website Traffic and Analytics
Use tools like Google Analytics or SimilarWeb to gauge the website’s traffic. Are there consistent visitors? Where are they coming from? A sudden drop or spike in traffic can indicate potential issues or opportunities.
Customer Reviews and Feedback
A quick scan of customer reviews on platforms like Trustpilot or even Google can provide insights into the business’s reputation. While no business is immune to negative reviews, a pattern of consistent complaints might be a cause for concern.
Supplier and Vendor Relationships
If the business relies on third-party suppliers or vendors, it’s essential to know who they are and the terms of their agreements. Are there any exclusive contracts or long-term commitments in place?
What about inventory management? Do they hold their own inventory, or do they rely on third party warehousing?
Ensure there are no ongoing legal disputes or potential intellectual property issues. This can include trademark disputes, patent infringements, or unresolved lawsuits.
Platform and Technology
Remember, preliminary due diligence is about identifying potential deal-breakers early on.
In this stage, if it’s not a hell yeah, just move on. There’s an endless selection of online businesses to choose from.
2. Bottom Line – Financial Due Diligence
Next on the ecommerce due diligence checklist is diving into the financial statements. This is where you’ll get a clear picture of the health, profitability, and potential risks of the target company. In this case study, the business broker consultancy Centurica illustrates how financial due diligence saved the client from a potentially catastrophic deal.
Here’s what to focus on in this stage of due diligence.
Current Revenue Streams
Does the business rely heavily on a single product or service, or is the revenue diversified across multiple offerings? A diversified revenue stream can often indicate a more stable business.
Identify and analyze the various ways the ecommerce site generates income. This can include product sales, subscription services, or advertising revenue.
Analyze how much each revenue stream contributes to the total income and determine if they are sustainable and scalable. Consider factors such as market demand, pricing, and competitors within each revenue stream.
Past and Future Revenue Projections
Examine the historical sales data and identify trends or patterns that may indicate future growth potential. Make sure to consider factors such as seasonality, customer acquisition costs, and average order value.
You can break down revenue projections into several key components:
- Monthly Sales: Review the company’s monthly sales figures and compare them against its competitors for a better understanding of its market share.
- Product/Category Breakdown: Identify the top-selling products or categories and their contribution to the overall revenue.
- Customer Lifetime Value: Estimate how much a customer is worth over their lifetime based on their purchasing habits.
Profit Margins and Revenue Analysis
Look at the difference between revenue and costs. High profit margins are great, but they should be consistent. If margins are thin, it’s essential to understand why and if there’s potential for improvement.
Pay attention to the following factors:
- Gross Margin: Calculate the gross margin by subtracting the cost of goods sold (COGS) from the total revenue and then dividing the result by the total revenue. This will give you an understanding of how the company is managing its pricing and COGS.
- Operating Margin: Calculate the operating margin by dividing the company’s operating profit by its total revenue. This will help you understand how efficiently the company is generating income from its operations.
- Net Profit Margin: Calculate the net profit margin by dividing the net profit by the total revenue. This will show you how much the company actually earns after accounting for all expenses and taxes.
Fixed and Variable Operating Expenses
Fixed operating expenses include recurring business expenses like:
- Website hosting
- Rent for a warehouse
- Salaries for employees
Variable operating expenses can include:
- Inventory purchases
- Shipping fees
- Payment processing fees
- Advertising costs
Debts and Liabilities
Does the business have outstanding loans or debts? If so, understand the terms and how they impact the bottom line. Also, check for any hidden liabilities like pending refunds or warranties.
Accounts Receivable and Payable
Check the balance of money owed to the business and money the business owes. If there’s a significant amount of unpaid invoices, this may indicate cash flow issues or problems with customer relationships.
3. The Day-to-Day – Operational Due Diligence
Due diligence on daily business operations focuses on what systems they have in place, what’s efficient and what could be better optimized. This is where you can begin to spot opportunities for adding value to your new online business. Or increase productivity with these productivity hacks.
Supply Chain and Fulfillment
For businesses dealing with physical products, delve into the supply chain. Who are the suppliers? How reliable are they? Are there backup suppliers in place?
Analyze how orders are processed, packed, and shipped. Is it in-house, or is there a third-party logistics partner? Efficiency here can greatly impact customer satisfaction.
Review the customer service process. How does the business handle inquiries, complaints, and returns? Quick and effective customer support can be a significant advantage in the e-commerce space.
Employee and Contractor Roles
If the business has employees or regular contractors, understand their roles, responsibilities, and expertise. A motivated and efficient team can be a valuable asset.
Potential For Scaling
Are there documented standard operating procedures (SOPs) in place? Are they built to handle increased demand and scaling?
4. The Web Analytics – Technical Due Diligence
The technical side of an online business is its backbone. Ensuring that the technology is robust, secure, scalable and QUICK is fundamental for success. Not just today, but for the future as well.
For this part of due diligence, you might need some of those special tools every startup should be using, like Ahrefs.
Here’s what technical due diligence is about:
Website Performance and Responsiveness
Evaluate the site’s speed and responsiveness to various devices. Slow-loading pages can deter potential customers and impact search engine rankings. A non-mobile friendly website can suffer serious penalties from search engines.
Start by reviewing the website’s uptime history. Frequent downtimes can be a red flag, indicating potential server issues or inadequate hosting solutions.
When analyzing online business website traffic, it’s essential to understand where the visitors are coming from. Use a tool like Google Analytics to identify the three primary traffic sources:
- Organic search: This refers to visitors who find your website through search engines like Google or Bing.
- Direct traffic: Direct traffic refers to when users directly type your website URL into their browsers.
- Referral traffic: Referral traffic is when users click on a link to your site from another website, blog, or social media.
Don’t be fooled by bloated vanity metrics. Unless your visitors are potential buyers, the traffic source is essentially worthless.
If necessary, hire an SEO specialist to do deeper website and traffic analysis using tools like Ahrefs.
User Engagement and Conversion Rates
Understanding how users interact with your website is essential in optimizing their experience and increasing conversion rates. Here are some key user engagement metrics to analyze:
- Pageviews per visit: This metric indicates the average number of pages viewed by a user during a single session. A high number of page views per visit suggests that users find your content engaging.
- Average time on site: This metric shows the average amount of time users spend on your site during a single session. A higher average time on site indicates that users are more engaged with your content.
- Bounce rate: Bounce rate represents the percentage of users who leave your site after viewing only one page. A low bounce rate indicates that users are finding your content engaging and are browsing through multiple pages.
Monitoring these statistics will give you a good idea of the current state of conversion rate and how much room there is for optimization.
5. Marketing and Brand Due Diligence
Marketing and brand due diligence is about ensuring that the ecommerce business stands out in a crowded online marketplace. It’s also about gauging the effectiveness of marketing efforts, client acquisition costs and the perceived value of the brand.
A brand is a voice and a product is a souvenir.
Here’s what you need to scrutinize in this stage of the due diligence process:
Marketing Strategies and Customer Acquisition Cost
Review the marketing campaigns and strategies in use. Analyze the ROI of each strategy to gauge its effectiveness.
Here’s what to focus on:
- Paid advertising: Spending and conversion rates.
- Content marketing: Conversion rates and inbound traffic from various digital assets, such as blog posts, videos, webinars, and e-books.
- Email marketing: Size of the email list, open rates, click-through rates, and conversion metrics.
- Social media efforts: Engagement rates, follower counts, and the overall quality of interactions on platforms like Facebook, Instagram, Twitter, and LinkedIn.
Using the above, you can determine the cost to acquire a new customer. This metric, when compared to the lifetime value of a customer, can provide insights into the sustainability and profitability of marketing efforts.
Brand Equity and Competitor Landscape
Assess the strength and reputation of the brand in the market. A strong brand can command higher prices, foster customer loyalty, and act as a barrier against competitors.
Identify the main competitors and understand their marketing strategies. This can provide insights into market gaps, potential threats, and opportunities for differentiation.
If the business has affiliate programs or partnerships, understand the terms, performance, and overall impact on sales and brand reach.
6. Legal and Compliance Due Diligence
This part of the due diligence checklist is to make sure that the target company is compliant with all regulations and is free from potential legal pitfalls can save you from future headaches.
Here’s what you’re looking for:
- Business Licenses and Permits: Verify that the business has all the necessary licenses and permits to operate legally. This can vary based on the nature of the business and the region it operates in.
- Intellectual Property: Check for trademarks, patents, copyrights, and domain names owned by the business. Ensure that these are registered correctly and are free from disputes.
- Contracts and Agreements: Review all contracts the business has, be it with suppliers, customers, employees, or third parties. Look for any unfavorable terms, long-term commitments, or potential liabilities.
- Employment Laws: If the business has employees, ensure it adheres to employment laws, including contracts, benefits, and workplace safety regulations.
- Regulatory Compliance: For certain niches, there might be specific regulations to adhere to. For instance, health and wellness e-commerce sites might have specific product regulations. Ensure the business is compliant.
- Domain and Hosting: Ensure that the business’s domain name is registered in its name and has a significant duration before expiry. Also, check the terms of the hosting agreement.
- Supplier and Vendor Agreements: Delve deeper into agreements with suppliers and vendors. Ensure there are no hidden clauses that might affect the business’s operations or profitability.
7. Value Adding Opportunities
Due diligence for ecommerce businesses goes slightly further than just background checks and financial documents.
The final step of the due diligence checklist is to look for growth opportunities. After all, you don’t want to invest in a business that’s already reached its full potential.
- Expand the Product Line: Consider introducing new products or services that align with the current offerings. This can cater to existing customers’ needs and attract a new customer base.
- Optimize Pricing Strategy: Review the current pricing model. There might be room to adjust prices, introduce premium offerings, or offer bundled deals to increase average order value.
- Streamline Operations: Look for inefficiencies in the supply chain, fulfillment, or customer service. Streamlining these processes can reduce costs and improve customer satisfaction.
- Expand Marketing Strategy: Marketing is usually an area offering huge potential for optimization and expansion. This includes new marketing channels, advertising methods, better content, optimizing current campaigns etc.
- Enhance Customer Retention: Focus on strategies to keep existing customers coming back. This could be through loyalty programs, exclusive deals, or improved post-purchase support.
- Strategic Partnerships: Collaborate with complementary businesses or influencers in the industry. This can lead to co-marketing opportunities, product collaborations, or even shared resources.
By focusing on these value enhancement opportunities, not only can you increase the profitability of the business, but also position it for long-term growth and success.
As you can see, thorough due diligence isn’t just a friendly recommendation.
It’s essential to the success of your investment.
This ecommerce due diligence checklist has provided you with a structured approach to evaluate an ecommerce online business venture from all angles. But let’s be honest – it’s difficult and time consuming at best. If you need assistance, don’t hesitate to ask for support from a due diligence service specialized in online businesses.