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Due Diligence - a primer for beginners

posted 6 years ago

Due diligence is the heart and soul of
any corporate merger & acquisition (M&A) transaction and very decisive
step that is often flouted by the companies due to its perception of being an
arduous task.

What is a due diligence?

In a typical corporate M&A transaction,
due diligence is the process undertaken by the acquirer to evaluate and realize
the advantages and detriments of the contemplated acquisition in terms of
legal, business and financial terms.

Why is it important to conduct
due diligence?

These days it is highly impossible to
evaluate the Business benefits and risks – legal rights, duties and obligations
of a company, just to name a few aspects, without conducting proper due
diligence on the company records by the team of legal and finance experts.

Due diligence is the only way to hit
the company records and information to absorb truthful information about the
existing state of affairs (legal, business and financial) of a company and to
yield pertinent decision to proceed with M&A transaction or not.

Check list is the heart of due
diligence

Checklist is the heart and key to pull
off a successful due diligence report. A good checklist will comfort the
acquirer to identify the central aspects that need to be reviewed and sideline
trivial matters not associated with the transaction. A checklist plays a
pivotal role in saving a lot of time and energy of the acquirer and to come up
with right plan to conduct due diligence.

Latitude / dimensions of due
diligence

Depending on the type of transaction,
scope of due diligence will vary from transaction to transaction. For
illustration purpose, if the target entity is engaged in business of IT and
telecom services and the aquirer is interested only in acquiring IT line of
business, then the due diligence will be narrowed down to all records pertinent
to target entity IT business only and no aspects of telecom business need to be
substantiated.

Advantages of due diligence

·       The
outstanding advantage of due diligence is that the acquirer will be accorded
with the prospect to vision and decide on certain key elements:

a)   Evaluation of the
authentic price to acquire the target entity;

b)   The position of
acquirer in the financial market post acquisition;

c)    Impact of
acquisition transaction on the financial market;

d)   Possibility of
exploring new avenues post acquisition previously left untouched;

e)   Acquirer ability
to emerge as industry leader taking over its contemporaries in its lines of
business etc.

·       Due
diligence will provide to the acquirer the right of entry to all the relevant
legal and business records of the target entity and in coming to the decision
to close out the M&A transactions.

·       Due
diligence involves the legal and finance audit of the target entity records to
detect the impending threats that may withhold the transaction from proceeding
further.

·       Legal
audit will encompass end to end review of contracts executed by the target
entity to uncover the legal rights owned by and duties/obligations incurred by
the target entity.

·       Legal
audit further help the acquirer to verify that whether the target entity is
complying with regulatory and other statutory requirements without fail.

·       Financial
audit will clinch the review of all financial statement and records of the
target entity to make public the existing financial position and to conclude
report about financial glitches associated with the transaction.

·       Acquirer
will be bestowed with the prospect to study each and every minute detail of the
target entity from date of incorporation to the date of due diligence process
which will compose mammoth role in deciding the fate of the transaction.

Conclusion

A thorough due diligence is actually
the architect or destroyer of a transaction. A positive outcome of due
diligence report will turn the proposal into a closed transaction and negative
outcome of due diligence report will reduce the proposal into ashes.

Therefore, it is very important not to
ignore the due diligence step in a M& A transaction as it will safeguard
the acquirer from all the unforeseen hiccups and risks prior and post
transaction or else acquirer has to face lot of unprecedented business risks,
financial hurdles and legal disputes.

Research and inputs by Paruchuri
Bawanth Mohan

 *********************************************

About the author :

Bhumesh Verma is a lawyer with over 2 decades of experience in advising domestic and international clients on corporate transactions (M&A, Venture Capital, Private Equity, Startups, corporate advisory, etc.) and features in “The A-List – India’s Top 100 Lawyers” by India Business Law Journal. He keeps writing frequently on FDI, M&A and other corporate matters and is a guest faculty as well. He can be reached at [email protected].

 

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