Warning: Be Sure Your Due Diligence Is Thorough
Comprehensive due diligence is essential if your business plans to acquire or merge with another organization. Without one, complicated implications could arise that with the potential to significantly affect the profits of viability of the transaction.
A typical due diligence effort is far broader than a financial audit. The primary goal of an audit is to establish whether the financial statements accurately represent the performance of the business. Due diligence goes beyond the current financial statements and considers the company's business plan and associated forecasts. Further, due diligence can also include analysis of historical trends in the financial statements and what that information means for the accuracy and integrity of the organization's predicted performance.
Conducting due diligence of a vendor's operations not only strengthens the buyer's legal arguments in the event that a dispute arises, it may also address the following:
Risk. Acquisition risk comes in many forms. Due diligence can help uncover fraud committed by the vendor, its employees or its customers. Due diligence may also help expose operational weaknesses. If, for example, the due diligence effort uncovers information that the company's employee turnover is far higher than previously reported, the buyer can quickly take steps after taking the reins to uncover the cause and improve employee retention.
Compliance. Different businesses are subject to various laws and regulations. The due diligence process allows the buyer to assess the degree of compliance as well as become familiar with efforts taken to ensure compliance. If the business is non-compliant, due diligence may help the buyer identify what needs to be done to bring the business back into compliance. If such steps require the investment of additional funds, the buyer can propose an adjustment to the purchase price.
Documentation. In the event of a dispute, conducting due diligence provides a court with evidence that the appropriate activity took place to verify information provided by the seller and others. Conversely, the lack of due diligence can play a significant role in the court's decision to rule against a buyer.
Validation: Due diligence also may help uncover information indicating that the agreed purchase price is too high. In that case, the information gathered during the process may help convince the seller to renegotiate the price. Alternatively, if due diligence suggests that the price is below market value, the buyer can factor that information into subsequent discussions with the seller, as well as share the facts with lenders financing the acquisition to help arrange better loan terms.
Conducting due diligence can help uncover and quantify risk, confirm the sales price as appropriate and provide the basis for sales price renegotiation. In the event of a dispute between the buyer and vendor, information gathered during due diligence may provide the buyer with evidence to support its case in during litigation.
Consult with your advisers. While there is no guarantee that due diligence will uncover all of the inherent risks, it is far better to make the effort to uncover problems before the sale takes place.
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