Performing due diligence prior to closing on the purchase of a business is actually the most important step in buying a business. Unfortunately, it is also a step that many small business buyers approach haphazardly--or leave out all together. Due diligence usually comes right after the buyer and seller reach a formal agreement on the sale of the business--contingent on the findings of the due diligence review.
Here are the things you should include in your due diligence when buying a business:
1.) Accounting. Small businesses are notorious for keeping poor accounting records, so it is practically mandatory that you (or preferably an accounting professional) review the accounting records of the business to ascertain their accuracy and to uncover any problems.
2.) Site Inspection. Although you have obviously visited the site of the business you are buying, now is the time to scrutinize the physical aspects of the business very closely. You need to take a close look at the equipment to make sure it is in good repair and capable of performing the tasks you are planning. You should study the building to make sure there will be no surprise repairs you will be responsible for after you take possession. And, most importantly, you need to determine the general condition of the workplace. Much can be determined by the way the business has operated in the past--is it well organized, clear of trash, and a good working environment? Don't skimp on this portion of your due diligence.
3.) Employees. If the business has employees, you likely will want to retain most of the employees that come with the business in order to maintain continuity. This can sometimes be a problem, depending on what went on prior to your involvement. You need to talk to some of the employees and make sure there is no employee revolt simmering beneath the surface just waiting to erupt.
4.) Customers. You should interview a few key customers to make sure there are no customer relations issues waiting for you when you take over. A problem in this area can signal major internal problems with the business, so do not bypass this step.
5.) Vendors. The same is true of vendors to the business. You should contact a few of the major vendors to make sure there are no open issues, and that the vendors will be happy to continue doing business with you.
6.) Government. You need to make sure that the business has all the necessary licenses and permits to operate. You need to be aware of any "grandfathering" conditions that will change when a new owner takes over. In drastic situations, you might not even be able to operate the business where it is now located, due to a change of codes or other government action that required the business to be grandfathered in. A new owner usually breaks the grandfathering consideration.
The whole point of due diligence is to discover if there is anything in the operation of the business that would cause you to not go through with the purchase...as well as to highlight areas you will likely need to address shortly after taking over.
Do not skip, or slide over, the due diligence process...it could come back to haunt you.
Reference site : http://ezinearticles.com/?How-Important-is-Due-Diligence-When-Buying-a-Business?&id=4885999