WHAT IS DUE DILIGENCE? Below a rough overview.
Due Diligence is often performed by the potential buyer or investor on the business of the potential seller. Due Diligence could be considered an exhaustive review of all business documents and records in an effort to assess the health and viability of the business in question.
Due Diligence is permitted by the seller once one or more prospective buyers or investors have been identified. The identification of potential buyers is a roll that can be greatly enhanced by employing an Investment Banker: e.g. WEISSKNIGHT Corporate FINANCE in a JV with S&P. Due Diligence is often only permitted once the prospective buyers have signed a Non-Disclosure Agreement (NDA). The due diligence data room often contains copies of the most confidential data a company possesses.
The process of creating a Due Diligence Data Room will primarily be under the direction of your Legal Council. Your lawyer you select to assist during the transaction and will provide you with an exhaustive list of all the documents which should be included in your due diligence data room (here is an example Due Diligence Checklist). The documents in the Due Diligence data room are often arranged by topic. Below is an overview of each Due Diligence data room category."
1. IT and Intellectual Due Diligence
A IT Due Diligence data room area should include a detailed listing of all IT systems used in the normal business processes. Any use of third party software of software contracts should also be documented. Any use of “open source” software should also be included in the IT due diligence data room.
Any patents or trademarks should be included in this section of the due diligence data room. The company’s internet presence should be documented including information on ecommerce, web hosting and online customer records.
Procedure and overview documents should cover such topics as, security, backup procedures, controls, and auditing. One of the objectives of a due diligence data room is to present enough information to remove any and all concerns a prospective buyer might have. Unanswered questions translate to undefined risk which translates to lower offers. A buyer that believes he has a COMPLETE understanding of all issues of a prospective business will have lower risk concerns and thus be more willing to submit an offer that is at the top end of his valuation model."
2. Financial Due Diligence
The finance area is the most common section of the due diligence data room. This section contains not only the last two to three years historical financial records but also financial forecasts for the current year. Many companies would also include a 2-3 year financial forecast in the data room. We recommend to each of our clients being careful: not to forecast figures for sales, TCEs (total commercial expenses as well as EBIT / EBITDA.
A thoroughly designes due diligence check list (see the following examples) on our web site is a good starting point for compiling the financial records that will be required for review by the prospective buyer/investor. The financial due diligence data contained in the due diligence data room is critical in the determination as to the value of the ongoing business.
3. Operational Due Diligence
The operational due diligence should cover well documented overviews of all relevant processes in R&D, Medical Affairs, Regulatory Affairs, CM&C, Supply Chain Management, Marketing, Sales, Risk Management Plans, Interaction with health authorities and other relevant processes associated to the operation of the business. Business relationships, suppliers and distribution channels should also be clearly documented. The buyer/investor will be looking for areas of risk such as a single supplier that could affect ongoing success. Another area of concern would be an unbalanced sales distribution network where one channel has a disproportionate amount of channel sales.
The seller should also include a summary of his business plan with emphasis on the next 1-5 years business plan including how to improve efficiencies, additional products, expanded distribution, increases revenue and net profit. This business plan should also be doubled in the financial due diligence section.
Another important data point for the due customizing is web traffic and the size of not only the customer database but also the size of potential customers in the email marketing database.
A prospective buyer may look for ways to eliminate expenses once the transaction is complete. The desire will be to identify changes that will result in an increase in EBITDA. Prospective buyers will also be interested in international operations and associated agreements.
4. Legal Due Diligence
The Legal Due Diligence section is generally the largest section. It contains all the business legal documents as well as copies of all meeting minutes(supervisory board(s), executive board(s), general management, etc. The Legal Due Diligence should also contain a detailed explanation on ownership and owners of the company. Additionally, copies of all contracts and agreements should be prepared / demonstrated in this section of due diligence. If a company has intellectual property or patents, copies of all employee and company documents related to ownership of corporate intellectual property should be included in the legal due diligence data room.
Much of the content of a legal due diligence will be defined by a law firm that is assisting in reviewing the legal documents associated with the sale of the company. It is important that the legal due diligence section include any and all past legal documents that could reoccur as become issues in future.
5. Personnel Due Diligence
Documents re. the Personnel Due Diligence should include an Org Chart of all management, a CV and professional expertise for each executive, a resume on each critical employee (operating key people in R&D, Medical Affairs, Regulatory Affairs, CM&C, Supply Chain Management, Marketing, Sales, Risk Management, Compliance, Legal Affairs , Human Resources, Finance & Cotrolling, etc. This section should also contain any benefits, and compensation contracts and policies.
The Personnel Due Diligence is often where issues arise that could potentially result in deal not closing. Some examples of deal breakers might include key management who might leave if salary and benefit programs are altered.
Buyers will likely look for positions or divisions/deaprtments that could be eliminated to reduce operating costs. Care should be made to document and understand the value of each key person/department to ensure ongoing success of the business.