Plenty has been said of the importance of the due diligence. You may have heard the expression ‘to buy a cat in a sack’. Every buyer in a sales contract has the duty to inspect diligently the product purchased for hidden defects or non-conformity.
That being said, the main objectives include:
- identify the risks for the buyer
- manage or mitigate the risks
- evaluate the risks for purposes of determining the purchase price
- unearth and unlock post-acquisition value
There is another way to structure a due diligence exercise, shaping it into the form of a SWOT analysis.
The buyer and its advisers are to identify and assess a target business’
- strengths
- weaknesses
- opportunities
- threats
Lawyers often limit their work to the weaknesses and threats (hence, the term ‘red flag report’), although clearly a business’ value can be present in all SWOT aspects. Especially, when you analyse such business in combination with the acquirer’s own business, and think of synergies, efficiencies, balancing/compensating for weaknesses, amplifying strengths, materialising opportunities.
A SWOT due diligence will need to take into account:
- the context (e.g. the industry and the cycle, if the industry is cyclical, the timeline and structure of the acquisition, the integration plan, the potential spin offs or add-on/platform or bolt-on, serial acquisitions, the competitive landscape)
- the stakeholders: naturally the parties but also the management, (key) employees, work councils, trade unions, the key vendors/suppliers and customers, creditors/bondholders
- regulatory complexity: regulations (restrictions, authorisations, procedures) and regulators (should increased scrutiny be expected, what would be the related costs and delay)
- in a cross-border deal, which are the jurisdictions affected; many of the factors above and the SWOT aspects would require a country-specific reading and adjustment.
However, in the end of the day, the quality, depth, usefulness and value of the due diligence will depend on practical considerations like:
- the risk tolerance of the buyer
- the scope, budget and timeline of the exercise (a limited, material issues only, red flag report vs. an executive summary only vs. a full-scope report)
- the resources available to the advisor (people, technology, tools, processes, checklists)
- the volume and quality of the data, documents disclosed, data room completeness
- wide multidisciplinary roster of and effective collaboration with other advisors
The ultimate goal is valuation of the acquired business, and then buyer has the opportunity to close at the right price.
By Pavel Hristov and Dragomir Stefanov, Partners, Hristov & Partners