Due diligence comes to the limelight in the perspective of mergers and acquisitions. In this scenario, the buyer must take care to excavate all the legal and financial standpoints of the company it intends to acquire. Usually, the buyer company investigates in detail and carries out research to identify whether they can get the requisite returns on the deal. The legal due diligence procedure figures out those issues that affect the structure of the transactions, identify the risks, and disclose the weaknesses present in the deal. When it comes to financial due diligence, it predicts the profitability of the deal and also investigates whether the business numbers are true and accurate.
Issues in legal due diligence
Several companies in India do not have clear contracts when most of the business is carried out based on trust. While dealing with this situation, the top due diligence firms in India ask the seller to show the contracts or allow the buyer to pay over a longer period. On the other hand, if the company is involved in litigation with the customers, suppliers, and the staff members, the buyer needs to consider the legal advice of the firm. Keeping the worst case in mind, the buyer can slash the amount back until the settlement of the case or get an undertaking from the seller that they would pay the cost of the litigation. The business often operates from a premise which is not utilized properly, but the buyer may need to prepare a line of safety if the business shrinks or changes the location. The due diligence firm hired can try to request for a provision of sublease or sign for a shorter lease.
Red flags in the financial due diligence
If the profitability of the business is not as high, the financial due diligence suggests that the buyer must agree to a method of valuation acceptable to the seller. Thoroughly investigating the investment that the buyer intends to make through the deal of merger and acquisition helps the business make better investment decisions that are informed and profitable to the deal. With due diligence for investors, the buyer can determine the risk profile of the investment and find out whether the other party is honest and competent enough for completing the deal. Unfortunately, getting the questions answered on the investment decisions may not be easy, so it is necessary that you hire a reputed firm for better clarifications.
Overstated stocks and aged inventory
For the overstated stocks of the seller, the buyer can reduce the price of the purchase through the difference between the existing and the balance sheet stock. Apart from this, when a large portion of the inventory has not been used or sold over a period, it presents an opportunity for the buyer to reduce the price of the business based on the value of the aging stock.
Need for seller due diligence
While the buyer can investigate the deal inside out before the proposed venture comes into effect, due diligence for sale of business attempts to find out the reason for which the buyer shows interest in buying the company, the reputation and the financial stability of the buyer. This procedure not only allows the sellers to save time and expenses but rule out the proposition of buyers who are not qualified enough to complete the deal.
Value of financial and legal due diligence
With financial and legal due diligence, it is easy to ascertain the potential value of the company that acts in the interest of the buyer. Many complex and time-consuming issues may arise during the process of buying the companies. The companies also need to implement several material decisions to complete the deal successfully. To ensure that the key players benefit from the deal of merger and acquisition, due diligence can rule out the red flags.
Seema Mehra is a Chartered Accountant at Ashok Maheshwary & Associates, one of the top accounting companies in India that provide company set up India in a convenient manner. She is a specialized writer and loves to share Financial related topics