Due diligence is an integral part of company mergers and acquisitions.
Mergers and acquisitions (M&A) due diligence is the process of investigating the financial, legal, regulatory and operational viability of a company before buying it. Business owners are required to submit documents and provide written responses to questionnaires to satisfy the buyer’s need to exercise due care in executing a major transaction. The label of mergers and acquisitions due diligence is normally reserved for large-scale, complex corporate transactions and the investigation is carried out by law firms, but the logic behind the process is applicable to the purchase of any company, regardless of size.
M&A stands for mergers and acquisitions, which involve the buying and selling, as well as corporate financing, of companies and organizations.
In the corporate context, an acquisition occurs when one company buys another. The acquired company continues to operate under new ownership or is taken over by the buyer and ceases to exist. In a merger, two companies agree to combine operations to form an entirely new company. The individual companies cease to exist and a new company is formed to carry on with the combined assets. Due diligence in mergers and acquisitions may require the submission of information by one party in the case of an acquisition or by both parties in the case of a merger.
Due diligence includes examining whether the companies involved in a merger or acquisition have compatible cultures, leadership, strategies and competencies.
Due diligence is a legal standard that requires buyers to exercise care when transacting. This duty of care rests with the buyer to ensure that the transaction is legitimate, financially viable, of sufficient value, and legally binding. Corporate buyers, in particular, must meet this standard because officers and directors act on behalf of a variety of shareholders, to whom they have an additional duty to maximize the value of their investments. If the buyer needs to void the transaction due to fraud or any other material misrepresentation, the court will consider whether or not it has made a reasonable investigation into the feasibility of the transaction before allowing the buyer legal recourse.
M&A due diligence is carried out by attorneys in the time period between the announcement of the deal and the expected date to close the deal, which can be up to 18 months. The deal will not close unless due diligence is completed to the satisfaction of all parties. Acquisitions require a thorough financial investigation. The seller will be required to produce documents such as financial records, major contracts, and corporate filings, and answer questions on a wide range of matters, including pending legal matters, government and regulatory matters, and shareholder information.
Mergers typically require the additional step of performing organizational due diligence to determine if the cultures of the two companies are compatible. This type of research evaluates the company in terms of leadership, strategy, skills, structure, process and work philosophy. Organizational M&A due diligence tries to prevent you from realizing later that two companies have such divergent cultures that merging them would diminish the value of one or the other.