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by Guido Schwarze, Director of Plansearch

Due diligence is critical for both buyer and seller success in mergers and acquisitions or partnerships. The investigation uncovers benefits — as well as red flags — in areas like finance, operations, strategy, risk, and even culture.

Let me tell you why due diligence is vital.

You must go beyond than just ensuring that a seller's financial information is verified. Due diligence should also consider the buyer's corporate objectives covering strategy, finances, and culture.

If you read the news, there are countless examples of what NOT to do:  from grossly overestimating growth potential ; overlooking red indicators such as declining sales, mounting account receivables, and a lost licensing agreement, hasty due diligence which overlooked mismatched cultures to many more.

Even the world's largest brands can still get it wrong, and as a result have to suffer  dire consequences including financial losses, bad publicity and lawsuits.

What I can tell is that due diligence, whilst a time-consuming and intensive procedure, is absolutely vital and you need to get it right!

What is Due Diligence and How Does It Work?

Due diligence is a term that is commonly used in a variety of fields, particularly in the legal and corporate sectors. It refers to an investigation conducted by an interested party, such as venture capital or private equity firms, into a merger or acquisition target or to evaluate companies for future investments .

Due diligence may also relate to a seller's study of a buyer, referred to as "sell-side due diligence," although it is less common.

Acquirers/Purchasers use the due diligence stage to learn more about a target company's products, prospects, value, and how it will fit into their businesses or portfolios. Failure to conduct proper due diligence could result in a lawsuit, an overvaluation, missing synergy opportunities, and integration issues down the line.

While it may appear that due diligence is solely intended to protect the buyer, it also benefits the seller. It's possible that the study could uncover a misalignment of goals, culture, or other difficulties .

Risks of Due Diligence

Both parties sometimes place too much emphasis on the due diligence process and not enough on the critical cultural fit between both parties. Other times, the target organization is required to respond to such a high number of questions and demands for documents that it neglects fundamental operational duties.

Due diligence can be costly. Lawyers, accountants, investment bankers, and other professionals are needed on both sides.

The buyer and seller commonly agree upon an "exclusivity period" to justify ample time for due diligence - sometimes known as a "no shop clause" .

Exclusivity throughout the due diligence process might be harmful to the seller. If the deal falls through, the business will have to start all over again. 

Due diligence can be time-consuming, frustrating, and demanding – all for an uncertain outcome. However, the only thing worse is going into a deal blind and regretting it later.

The Benefits of Due Diligence outweigh the Drawbacks.

Mergers and acquisitions have a notoriously high failure rate, with most research estimating up-to a 90 percent chance of a bitter ending. A longer and more in-depth engagement improves both parties' chances of success by allowing them to make an informed decision.

Before making the acquisition or investment, the acquirer can detect and assess risks, liabilities, and business problems in the target company, potentially preventing losses and negative publicity. To uncover you are not the right match after contracts are signed will put both parties in a very bad position.

When should you begin Due Diligence and how long should it take?

The first step is simple: due diligence begins when both parties agree to a deal in principle with a Letter of Intent, but have not yet signed a binding contract. 

The due diligence procedure can take anywhere from 30 to 60 days, and even 90 days in more complex cases. 

What do you think of this article? We would love to hear from you !

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