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Due Diligence is a term that business entities use very often. When is Due Diligence carried out and what information it provides?

Due Diligence means comprehensive mapping and analysis of the company prior to implementation of the upcoming economic transactions such as Investor’s entry into the company, purchase of shares in another business, merger and so forth.

The main objective of Due Diligence is to give the interested party a real and true image of the business they wish to buy and also to reduce the investor's uncertainty from such a transaction. Due Diligence acts as an investor´s form of protection and prevention from capital investments in another company, with reference to the future development of this form of business.

What is the Due Diligence procedure? On the basis of precisely specified order (what information the customer wants), an audit is carried out assessing assets, liabilities, accounting, liquidity, profitability, income statement and other indicators that the investor wishes to learn about in the business he is interested in. Based on information obtained from DD the investor may decide whether a potential transaction is profitable or not.

What is the output of Due Diligence? The final output for the party ordering due diligence is a complex voluminous report called Due Diligence Report providing all the essential information and facts that are critical for the investor and his decision.

In addition to assessing the current state of the audited company, Due Diligence Report may also contain a number of recommendations and suggestions from the company carrying out Due Diligence.

The whole process of Due Diligence is usually entrusted to professionals, mostly lawyers and specialized auditors who are required to perform Due Diligence unbiased and impartially in order to provide an objective view on the company.

When carrying out Due Diligence lawyers and auditors are responsible for damage resulting from such Due Diligence Report - the end-result of the process. The auditors are required to enter into a Liability Insurance Contract for damage that may arise during Due Diligence.

If the auditor carries out an audit on behalf of the audit company that concluded Liability Insurance Contract and such a contract covers this responsibility, the auditor does not have to enter into any additional Liability Insurance Contract.

In connection with the damage and the deficiencies relating to the purchased company detected during Due Diligence, a moment comes when the investor brings forward a series of measures and warranties which, when violated (or when the deficiencies are not removed in the near term), give rise to a claim for damages incurred.

However, the contractor should give prior notice to the investor on shortcomings he is aware of (even though he does not know the outcome of Due Diligence). This method is among other possibilities through which the investor protects or reduces the risk of the transaction in his favor.

What types of Due Diligence do we know? Different information may have a different value for a different investor. This may be affected by the investor’s willingness to accept a certain degree of risk arising from commercial transactions.

Due Diligence can be divided into several types depending on what investor thinks is the most important aspect. In practice, Due Diligence is mostly carried out as a combination of all the types listed below:

- tax Due diligence: assess the potential tax risks which could affect the value of the purchased company.

- financial Due diligence: property valuation, complex financial analysis of accounting based on the company’s accounts and so forth

- legal Due diligence: investigates whether the company is involved in litigation which could discourage the potential investor.

- technical Due diligence: it is used mainly when purchasing high-tech companies and businesses with expertise in IT

When buying a company, Due Diligence may take place either "publicly" - all employees are aware of the process and helpful throughout the process of Due Diligence, or it can be carried out in secret when employees are not aware of Due Diligence, only top executives of the company know about DD.

As any other process, Due Diligence is performed on the basis of pre-set timetable with an emphasis on the efficiency of the whole process and its smooth course.

Author: Corlonez advisory s.r.o. Date: 30.6. 2015