What is Due Diligence ?
Due diligence is a legal term that is mainly used in France for the law of corporate purchases. The due diligence process especially meets all the checks carried out by a potential buyer or investor before a transaction in order to project themselves more easily on the situation of a company. The term due diligence was originally an Anglo-Saxon concept of commercial and private law. It involves all the stages of risk assessment. Thus, whether for the acquisition of real estate or a company and before investments and IPOs, buyers go through this due diligence by analyzing its strengths and weaknesses in order to assess the value of the offer. Before entering into a contract, due diligence requires knowing exactly what it is.
What you need to know about the Merger-Acquisition ?
The aspects negotiated with the target fully fall into the acquisition audit process because it allows the buyer to verify that its valuation is in line with reality. Sometimes, due diligence is completed with a strategic audit in order to allow the buyer to quantify and understand the risks related to the acquisition. Due diligence involves carrying out an in-depth analysis of the strengths and weaknesses of a company targeted by a takeover or merger project. It is mainly carried out by an independent audit firm that is interested in the past, present and future of the target. Its purpose is to bring out a real retrospective of the target company in order to provide a notice. This step is essential for the M&A process in order to adjust the valuation and assess the risks that may influence the target company before commitments are made.
Why conducting a Due Diligence ?
M&A operations are very complex. On one hand, because of the number of actors taking action during these operations but who are not on the same line. But also, due to the potential risk of error. A risk that is not zero can be very complicated to manage. Today, it is considered that more than half of M&A transactions fail to create additional value because certain aspects were wrongly assessed during negotiations among the 2 parties.
This is when Due Diligence takes action. Indeed, it must conduct an upstream analysis of the accounting elements in order to obtain a fair valuation of the target company and inform the buyer of all the risks incurred in order to highlight the value creation potential of the acquisition.
An effective audit helps answering a large number of questions that the buyer may have and influences the buyer’s strong commitment following due diligence. Generally, the financial audit is conducted by all companies ready to acquire a target company.
There is not one but several due diligence. In reality, everything depends on the type of due diligence chosen by the buyer and the skills of the auditors.
To learn more about the different types of due diligence, click here
Financial and strategic audit : an efficient team
The vast majority of buyers carry out a detailed financial audit with the intention of subsequently issuing a report on the valuation of the target company and on the clauses of the liability guarantee. However, few companies choose the strategic audit, while it is essential to assess the potential of the target and understand the risks of the acquisition involved.
First of all, the acquisition audit will focus on the verification and analysis of accounting elements such as balance sheets, income statements, … This is what we call the financial audit which is carried out by the majority of buyers. The following elements are criteria to check when valuing the company: equity, net income, cash flow and operating income. If there is a gap between the two audits, we will indisputably find an impact on the valuation of the target. The financial audit will focus more on the risks with a major impact on the buyer such as the registration of patents, selected operating assets such as inventories and trade receivables, provisions for risks and charges and the position … Thanks to this financial audit, the buyer will be able to focus mainly on the following elements:
- The acquisition price, which allows to scale back the acquisition value of the target if differences are found between the results of the audit and the criteria used for the evaluation.
- Liability guarantees revealing off-balance sheet commitments or risky assets. Thus, the buyer could be more demanding in the drafting and scope of the guarantee.
The financial audit can be supplemented by a more “acquisition strategy” oriented audit of the target, but this is most of the time considered to be unhelpful and expensive, especially for SMEs. However, this audit makes it possible to analyze all the risks that could impact the target and its development over time. By not performing this audit, the entire potential for future profitability of the target allowing the success of an acquisition is questioned. The success of the investment of an acquisition mainly depends on the future profitability of the target. The strategic audit is the only one that can measure the development capacity and profitability of the target. It makes it possible to identify the risks in general and to assess these medium and long-term criteria for decision-making. Thus, it is recommended that the buyer draw up a full audit to provide him information about the actual state of the target he wants to acquire. The full audit will allow him to know the risks related to the acquisition thanks to a competent firm.
When to perform an acquisition audit ?
An acquisition audit can be considered when the agreement is signed but before the validation of the closing. Indeed, it is best to conduct it before signing the letter of intent but not too late nor rushing it.
How much does an acquisition audit cost ?
Although very important, the acquisition audit is an expensive process which obviously depends on the type of audit chosen: complete or limited audit, additional charge for an in-depth tax audit, etc. It depends on factors such as the size of the company and the elements to be analyzed. The cost of an audit can be charged up to almost 100 € per hour of work. A fairly high price which can be prohibitive for a SME. It is often offset by future savings and generally allows the buyer to reduce his acquisition costs and request an extended liability guarantee.
In 2021, due diligence is a key stage when buying a company or an equity investment. In order to address the sanitary crisis and in a difficult economic context, due diligence avoids disappointment for future buyers. To face it, buyers can count on professionals with field experience in order to make the right decision.
Our CF Henderson firm is committed to your side and supports you throughout the due diligence process to ensure a safe and reliable investment.
The acquisition audit is conducted by an accountant who identifies the strengths and weaknesses of your future investment. CF Henderson is more than a mere accounting audit, you will benefit from an effective follow-up to allow you to make the right decisions in full knowledge of the facts. For any audit or due diligence, trust CF Henderson and take advantage from our experts.