This document provides an overview of due diligence for mergers and acquisitions. It discusses why due diligence is important, the objectives of due diligence, common types of due diligence including financial, legal, tax and operational due diligence. It also outlines the due diligence process, key focus areas, common issues in India and case studies. The goal of due diligence is to evaluate all material aspects of a target company to identify risks and determine an appropriate purchase price, while aiming to make deals rather than kill them.
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AGENDA
Why Due Diligence is important for M&A;
Objective of Due Diligence;
Types of Due Diligence Overviews;
When Due Diligence becomes Relevant;
Key Focus Area in Due Diligence;
Due Diligence Process;
Common Due Diligence Issues in India;
Case Study;
Summary;
Conclusion .
DUE DILIGENCE : LEARN FROM
THE PAST, BUT LOOK TOWARDS
THE FUTURE
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4. To investigate into the Affairs of Business as a prudent business person
To confirm all material facts related to the Business
To assess the Risks and Opportunities of a proposed transaction.
To reduce the Risk of post-transaction unpleasant surprises
To confirm that the business is what it appears.
Why Due Diligence is Important for M&A….??
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5. To Create a Trust between two Unrelated Parties
To identify potential deal killers defects in the target and avoid a bad business
transaction.
To gain information that will be useful for
Valuing Assets
Representations & Warranties for Indemnification
Negotiating Price Concessions
Why Due Diligence is Important for M&A….Cont…
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6. To verify that the transaction complies with investment or acquisition criteria.
To Investigate & Evaluate a Business Opportunity
It Involves an analysis carried out before acquiring a controlling interest in a
company.
DUE DILIGENCE IS NOT THE JUDGEMENT MAKING IT IS JUST
BRING OUT ALL FACT TO FORE
Why Due Diligence is Important for M&A….Cont…
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8. Objective of Due Diligence
To determine compliance with
relevant laws and disclose any
regulatory restrictions on the
proposed transaction
To evaluate the condition of the
physical plant and equipment; as
well as other tangible and
intangible Assets
To ascertain the appropriate
purchase price & and the
method of payment.
To determine details that may
be relevant to the drafting of
the acquisition agreement,
To discover liabilities or risks that
may be deal-breakers
To analyze any potential antitrust
issues that may prohibit the proposed
M&A
To evaluate the legal and
financial risks of the
transaction
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10. Types of Due Diligence Overviews Cont..
Operational Due
Diligence
Operational Due Diligence aims at the assessment of the functional
operation of the Target Company.
BUSINESS DUE
DILIGENCE
Strategic Due
Diligence
Technical Due
Diligence
Strategic Due Diligence tests the strategic rationale behind a
proposed transaction and analyses whether the Deal is commercially
viable, whether the targeted value would be realized
Intellectual Property Due Diligence – Review & diligence of
Intangible Assets like Patent, Copyright, Design, Trademark , Brands
etc. getting greater importance.
Technology Due Diligence – Technology Due Diligence considers
aspects such as current level of technology, Company’s existing
technology, further investment required etc. 10
11. HR Due Diligence
BUSINESS DUE
DILIGENCE
HR Due Diligence aims at People or related issues. Key managers
and scarce talent leave unexpectedly.
Environmental Due
Diligence
Environmental Due Diligence analyses environmental risks and
liabilities associated with an organization .
Information Security
Due Diligence
It is often undertaken during the information technology
procurement to ensure that risk are uncovered.
Types of Due Diligence Overviews Cont..
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12. Legal Due Diligence
A Legal Due Diligence covers the Legal Aspects of Business
Transaction liabilities of the Target Company, potential legal
pitfalls and other related issues. Legal Due Diligence covers
intra-corporate and intercorporate transactions.
LEGAL DUE
DILIGENCE
Types of Due Diligence Overviews Cont..
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13. Financial Due Diligence provides peace of minds to the both
Corporate and Financial buyers, by analyzing and validating
all the financial, commercial, operational and strategic
assumption being made.
Financial Due Diligence includes review of accounting
policies , review of internal audit procedure, quality and
sustainability of earning and cash flow, condition and value
of Assets, potential liabilities and tax implication on Deal
Structure.
FINANCIAL DUE
DILIGENCE
Financial Due
Diligence
Types of Due Diligence Overviews Cont..
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15. Deal Strategy Validation
Value Driver Identification
Identifying black holes
Valuation
Identifying
Deals
Evaluating
Deals
Executing
Deals
Making
Deals
Successful
Harvesting
Deals
• Structuring and Negotiating issues
• Matters to be included in Shareholders /
other agreement
• Representation and warranties /
indemnities involved
• Design tax efficient structures for
acquisitions and disposals
• Planning exit strategies
When does Due Diligence become relevant?
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17. Focuses on historical results to form a view of future and confirm there are no
“black holes”;
Key outputs:
Quality of earnings
Quality of net assets and working capital
Confirms or provides business model assumptions
Identifies risks and possible mitigators, via representations & warranties,
purchase price adjustments and completion reviews
Generates negotiation points to support your offer and refute counter
arguments; Definitions / Business Conduct Issues / Indemnifications
Financial Due Diligence – Cornerstone of
Every Deal
GOAL - Analyze and validate financial, commercial, operational
and strategic assumptions underpinning a Deal;
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18. Financial Due Diligence typically focuses on….
Review of Internal Control
and MIS systems
Group company transactions and
dependence – this would highlight
Separation / Stand Alone Issues.
Trading Results – segment
wise and identification of
Extraordinary/ exceptional
items, if any.
Gross Margins and
EBITDA analysis.
Management &
Employees and their
Relationship
Specific regulation for business /
industry
Impact of Discontinued
operations.
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19. Complex tax and regulatory regime in most Asian countries;
Different legal structures and industry segments have different tax risk profiles;
Key outputs:
Identifies tax risks as well as compliance status of Target
Advise on how identified tax exposures can be mitigated
Provides optimal financial and tax structure for the proposed deal
Direct and Indirect Tax Due Diligence
GOAL - Evaluate potential tax implications of the
transaction and tax position of the Target;
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20. Tax Due Diligence Typically Focuses On..
Status of Direct and Indirect
tax assessments.
Review of audits carried out
by the respective tax
authorities
Review of the claims made by
the tax authorities and the
responses made.
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21. Typically involves a combination of desk research, interviews with target
management team, key trading partners and industry experts;
Key outputs:
Issues in respect of achievability of business plan projections
Target’s positioning and competitiveness
Target specific market and industry related issues
Identifies strategic value creating opportunities
Highlights Exit risks and opportunities
Market Due Diligence
GOAL - Assist in understanding the condition and
prospects of the market a Company wishes to enter in;
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22. Covers full scope of business operations from supply chain and logistics to
manufacturing and commercial activities;
Ensures that sufficient work is done on some of the operational assumptions that
are key to the success of a deal;
Key outputs:
Assess operational effectiveness
Identify and quantify opportunities for operational improvement and develop
action plans to deliver against these opportunities
Assess existing management structure and provide insight on personnel related
issues
Operational Due Diligence
GOAL - Gaining a coherent overview of a Target’s
operations
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23. Particularly important for M&A in the IT services sector;
Key outputs:
Assess existing IT infrastructure and future needs
Provides inputs for planning integration of systems and applications
Highlight key business process issues, such as in purchases & payables cycle,
revenues & receivables cycle
Assess security & controls to ensure data integrity, availability and confidentiality
IT Due Diligence
GOAL - Evaluation of IT security & controls and business
process issues
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24. Typically covers pension and employee liability valuation, payroll costs validation,
employment termination costs, compensation and benefit alignment costs
Key outputs:
Assess existing levels of employee proficiency against industry standards
Highlight redundancy issues
Assess potential for redeployment of staff
Analyses of industrial relations
Assess employee compensation, including retirement benefits
HR Due Diligence
GOAL - Qualitative evaluation of existing staff including
HR policies
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25. Buy Side Diligence
(For ascertain what buyer are buying )
Sell Side Diligence
(Issues on which buyers can negotiate)
v/s
Types of Due Diligence Reviews – Purpose
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26. Financial analysis to support opinions and conclusions.
Identification of hidden value in the target.
Highlighting post-acquisition / integration / separation issues.
Using expert resources in the target country to identify local risks and issues.
Identifying areas that may impact the exit strategy of the equity provider.
Analysing the sustainability of earnings and cash flows.
Buy side Due Diligence
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27. Assists the vendor by providing an upfront independent review.
Highlights sale and purchase agreement issues early that may become negotiating
points or areas for warranties/indemnities.
Ensures a level playing field by providing all potential purchasers with objective
information.
Reduces the level of due diligence procedures that potential purchasers need to
perform.
Expedites the deal timetable by avoiding lengthy negotiations and disruption to the
vendor.
Reduces the risk of last minute value erosion and avoid lengthy re-negotiations.
Sell side Due Diligence
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28. Full Access
Full access to the target management, staff, accounting, financial and legal data.
Limited Access
Limited access to the target management, staff, accounting, financial and legal
data.
No Access
Strictly controlled environment, typically based on publicly available data.
Carve Out
Strictly limited to the part of business proposed to be sold.
Types of Due Diligence Reviews – Access Levels
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29. Due
Diligence
Financial
and
Taxation
Operational
& Technical
Human
Resource
Legal and
Contingent
Obligation
What should the methodology be to Generate
following key outputs
Attain complete understanding of
the business and the assets
Identify potential risks associated
with the transaction & the
mitigating factors
Identify key deal issues and deal
breakers and determine possible
reductions in the purchase price
Assess integration and other post deal
matters
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31. Consider Preliminary
Structure
Visit Data roomReview Background
Material
Review Audit Work Paper
Assist with letter of
Intent
Visit Target Company and
Interview Management
Develop workmen and
info Request List
Review financial model of
Target Company
Preparation of Report
Finalize Structure
Support Integration Plan
Read and Comment on
Sale Agreement
Pre-Fieldwork Fieldwork Post-Fieldwork
Typical Diligence Process
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32. Cultural AspectsTaxation Aspects
Marketing Information
Litigation Aspects
Basic Information Financial Data
Environmental Impact
Internal Control System
IPR Details
Important Business
Agreement
Documents To be checked in Due Diligence
Processes
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34. Common Diligence Issues in India
Charge backs, rebates
and returns
Inappropriate revenue
recognition
Inadequate reserves and
reversal of reserves
including inventory
Improper cutoff and
rollover impact;
Financial & Restrictive
Covenants in agreements
/ legal documents
Improper cutoff and
rollover impact;
Unsophisticated financial
reporting system
Issues for representation
and warranties from the
buyer
Related party transactions
– stand alone issues
Implications of Regulations,
Taxes & Duties – based on
deal structure
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36. Some Practical cases
When Dai-Ichi bank of Japan merged with Nippon Kangyo to form the then
biggest bank in the world called Dai-Ichi Kangyo, the two company executives
found even the definition of the word, ‘loan’ differed between the banks!
They had to put out a 200-word glossary explaining the meaning of various
banking terms before they could even start!
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37. Some Practical cases Cont…
Dai Ichi Sankyo paid $4.6 B for 63% of Ranbaxy A YEAR LATER IT
WROTE DOWN the value of the acquisition by $3.6 B.
REASON: They did not know the depth and extent of Ranbaxy’s woes and full details of
the Food and Drug Administration (FDA) investigation into Ranbaxy. In fact in 2009 FDA
had shut down reviews of all pending or future drug applications from Ranbaxy’s Ponta
Sahib plant. The first-to-file atorvastatin (Generic for Lipitor world’s largest selling drug) was
the greatest attraction for Dai Ichi and that was fraught with many problems.
DAI ICHI HAVE MADE INADQUEATE DUE DILIGENCE STAGE AND RESULT THEY
EARN HUGE LOSS.
DAI ICHI AND RANBAXY DEAL
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38. Some Practical cases Cont…
HCL AND AXON DEAL
Infosys and HCL bid for Axon in Sep 08, HCL countered Infosys bid of 600 pence
with an aggressive offer of 650 pence;
INFOSYS WITHDREW AND HCL TOOK IT OVER
NOTE: HCL did make the acquisition work by doing all the right things –main one –by
eating the ego!
They reverse merged HCL teams into AXON as AXON was a high performance team and
they were better than HCL –thus HCL Axon was born.
HCL DURING HR DUE DILIGENCE UNDERSTOOD THE FACTS THAT AXON TEAM
HAS HUGE POTENTIAL AND DEAL CREATE SYNERGEY FOR HCL-AXON.
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40. Identification of “deal breakers”.
Adjustment to “pre-diligence” valuation.
Negotiation support.
Conditions in Share Purchase Agreement (SPA).
Representations and Warranties.
Inputs for post deal action points.
In Summary…Result of the Due Diligence
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41. Quality of
Assets
Quality of Earnings
& Cash Flows
Potential
Liabilities &
Commitments
Separation /
Structuring /
Integration Issues
Tax and Other
Regulatory Issues
Other stand
alone issues
Co-ordination with other advisors and issues identified by them
Industry and market issues
In Summary……Due Diligence Focuses On.
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42. PARTICULARS DUE DILIGENCE AUDIT
Scope
Includes not only Financial Analysis but also
business plan, sustainability of business plan,
future aspects, corporate and management
structure and legal issues.
Limited To Financial
Analysis
Data
Covers future growth prospects in addition to
historical data
Based on Historical data
Mandatory Mandatory based on Transaction Mandatory
Assurance
Negative assurance i.e. identification of Risks if
any
Positive assurance i.e. True
and fairness of the financial
statement
Type It is required for future decision Post mortem analysis
Nature Varies according to the nature of Transactions Always uniform
Repetitiveness Occasional event Recurring event
Due Diligence V/S Audit
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