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The Role of Due Diligence In Merger And Acquisition Processes


Rédigé le Mercredi 7 Avril 2021 à 08:33 |




You may see large businesses changing names or even having new owners. What happened there, in simple terms, is the company being sold to a willing or convinced buyer. Before taking its reins, due diligence activities, either in a traditional way or using AI due diligence, are exercised by the buying party to gain assurances of the business’ legitimacy.

What Is The Role Of Due Diligence In M&A Transactions? 

What exactly is due diligence? The phrase is often uttered normally when someone has done extensive research or preparation before accepting a task or facing a challenge. In the corporate world, it also means the same but the processes involved are much more intricate and wide-reaching.

When a company changes ownership due to being bought by another company, that process is called ‘merger and acquisition ’ or ‘M&A’. This is where due diligence must be exercised. Before the deal is finalized, all investigations, confirmations, and turn-overs must be made legally to avoid any discrepancies and fraud.

How Important Is Due Diligence During M&A Transactions? 

Whatever the task may be, before agreeing to something, due diligence is done so that you won’t have any regrets at all or any lapses from being shortsighted. In game-changing business deals, the act of due diligence holds great importance in completing M&A transactions. 

When a company is acquired or merged with another company, the former can be transformed accordingly. This means that as a whole, the company can expand or it can sell the assets of the company bought for future use. However, that cannot be possible without the complete information. 

The role of due diligence is crucial to decide whether the deal made during the M&A process has to push through or not. Both parties will exert a significant amount of effort since it will change not only the landscape of either business but also the lives of employees and clients. Here are the things that due diligence can provide to the buying and selling parties:
For the buyer: 
 
  • Confirms and verifies the information presented during the process of negotiating 
  • Identifies potential ‘red flags’ in the transaction 
  • Uncovers all, if possible, the risks involved before closing the deal
  • Estimates the buyer’s capability to provide solutions when a related problem arises upon accepting the merger or acquisition
  • Provide a feeling of comfort for the partners and investors 
 
 For the seller:
 
  • Gains the trust of the business entities involved in the M&A process
  • Reveals the places for improvement that fuels the decision to sell the company
  • Obtains financial means for future endeavors 
 
How Is Due Diligence Done? 

Now that you’ve understood the importance of doing the due diligence and its role in the M&A process, we will be tackling how does one start doing it. Due diligence is pretty much a sensible and logical approach while having a defensive mindset and an aggressive spirit. The buying party does most of the activities but that doesn’t mean that the selling party won’t also do its part. 

During M&A transactions, the larger the company, the difficult it will be and the longer it will take to completely seal the deal. Additionally, you must note that not all M&A transactions are equal. There are situations wherein both parties threaten each other as equals and therefore during the merger, all aspects are equally shared. 

In that situation, pretty much both parties do their respective due diligence activities. However, there are situations in which a party absorbs another party and treats it as one of the companies under its umbrella. In that case, the buying party is mostly the aggressor and will examine everything as much as possible. 

After the letter of intent, or LOI, is signed, the parties are now welcomed to do their due diligence. Next, companies can now conduct their activities as planned. Here is the list of the activities that mostly the buying party will examine.
 
  • Financial Matters (such as financial statements, financial metrics, salary rates)
  • Technological / Intellectual Properties
  • Customer-Related Information (such as customer base, sales pipeline)
  • Strategic Positioning Of The Target Company 
  • Material Contracts
  • Employee / Management Issues (involving both historical and existing)
  • Litigation
  • Tax Matters
  • Antitrust & Regulatory Issues
  • Insurance
  • General Corporate Matters (such as organizational documents, corporate records) 
  • Environmental Issues (involving operations, product usage accountability)
  • Related Party Transactions (such as inside agreements between clients, employees, management, and ownership) 
  • Governmental Regulations (all things required by the law) 
  • Physical Property
  • Production-Related Matters (such as nature of supplies, production practices, union groups) 
  • Marketing Arrangements And Strategies 
  • Landscape Of Competition 
  • Virtual Data Room (involving all information shared, establish, and stored through electronic and computer media) 
  • Disclosure Schedule
 
What Are The Current Trends In Doing Due Diligence?

Manually checking the legitimacy of the seller’s information is very hard. For a small-scale business, it is possible but still very tasking. But if we are talking about corporations, then doing due diligence manually will probably take a long time and more manpower.

In short, it is impractical and that is why the automated digital way is the better solution. By this time, larger companies should have virtual data rooms. They are very crucial in the M&A process since they will serve as storage of all information during the merging or acquisition of a company, whether they are confidential or public. 

As technology keeps on evolving, 2 adjectives are the only basis for the trends used in improving due diligence activities. These words are “fast” and “secure”. The following trends aim to make your due diligence effective and efficient:
 
  • Analytics
 
Programs that can do analytics will improve data gathering, sorting, and organization. 
 
  • Data Privacy & Cybersecurity
 
Digital security has always been needed to ensure all private information stays private and the process flow keeps on flowing. 
 
  • Project Management Software
 
Due diligence activities necessary in M&A transaction needs to be on time and point and that can be managed with just a few clicks of a software.
 
  • Artificial Intelligence
 
AI capabilities improve automation of tasks and interpretation of information to such a level that can even outperform a team of experts with primitive technology. 

Conclusion

As a buyer, you can’t always expect that a product being sold is the same as what the seller is advertising. During an M&A transaction, there is a possibility that ‘red flags’ can be discovered. 

After all the necessary analysis are made and those are negative enough to be ‘deal-breakers, then it is safe to conclude that a deal cannot be materialized. By doing due diligence, you can prevent a potential disaster from happening in the first place.




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