Due diligence

Due Diligence ( DD ) refers to as " due diligence " carried out risk assessment, which is usually by a buyer on the purchase of interests in companies or real estate, and takes place at an IPO. Due diligence ( loosely translated as " in traffic due diligence " ) analyze the strengths and weaknesses of the object and the corresponding risks and therefore play an important role in finding the value of the object.

Buyer and seller agree on the period and extent of the due diligence process, it can, if necessary, the payment of a fee to be agreed, if a purchase is canceled. Is supported, the buyer in the due- diligence of lawyers, accountants and professionals with specific knowledge.

  • 5.1 Planning and hiring of consultants
  • 5.2 Performance-related remuneration
  • 5.3 implementation
  • 7.1 monographs and edited volumes
  • 7.2 Papers

Term origin

The term due diligence comes from the U.S. capital market and investor protection law ( or the securities laws ) and relates to liability rules for the persons involved in the trading of securities. The Securities Act of 1933 regulates the initial listing of securities. Pursuant to sec 11 (a) SA 1933 is also liable to the testator auditor in relation to the first promoters of the security offered to the public for losses sustained by them from the securities in question, if the registration information with the Securities and Exchange Commission contained misleading information ( prospectus liability). The so-called due diligence Defense provides the auditor the opportunity to escape liability if he can prove that he has performed the test with reasonable diligence ( = due diligence).

The auditor shall be liable acc. sec 11 (b ) (3 ) SA 1933 not if "he had, after reasonable investigation, reasonable ground to believe and did believe, at the time examined part of the registration statement Became effective, did the statements Therein were true and did there what no omission to state a material fact required to be stated or Therein Necessary to make the statements not misleading Therein ... ". Regarding the question of the content of the terms "reasonable investigation" and "reasonable ground" is governed by sec 11 (c ) SA 1933: "the standard of reasonableness Shall be did required of a man prudent in the management of his own property. " the concept of due diligence in the U.S. liability law is thus comparable with the principle enshrined in the German legal concept of " necessary in the due diligence ."

Moreover, the concept of due diligence, however, has received another meaning. Generally, including the thorough analysis, testing and evaluation of an object in the context of an intended business transaction, but especially understood in the context of corporate acquisitions. It is the procurement and processing of information in terms of a purchase or acceptance test. The aim of the process is the uncovering hidden opportunities and risks in the target company to improve the quality of the decision, and to increase the accuracy of the valuation of the improved information stand.

In U.S. law, the due diligence plays a more significant meaning in connection with warranty claims. Here the order of the due diligence the buyer is considered ( caveat emptor ). From this the buyer duty of care comes from the need for careful examination of the purchased item. This view is contrary to the spirit of the contractual duty of care of the seller. The honest Seller shall be liable in the U.S. legal principle, not for defects in the goods, so that the development of specific warranty agreements for the individual sales contract requires. An Opportunity and risk analysis in the context of a due diligence review forms the basis for this. German law goes further, however, generally not of a duty of the buyer to check the contractual object from.

Practical implementation of due diligence ( Buyer 's Due Diligence )

For the actual implementation of the DD, a data space is established by the company to be sold. This data space all materials will be provided, which will provide the company selling to the buying company.

The results are summarized in a data space report for the buyer. The report pointed to the recognized strengths and weaknesses to the selling company. Quantifiable results are incorporated into the business valuation and thus the determination of the offer price of the acquirer. Non-quantifiable results, however, lead to demands for indemnities and warranties in the acquisition agreement.

Types and Causes of the due diligence

Buy Side Due Diligence

The purchaser of a company led the due diligence. He selects the appropriate professionals who examine the need to buy the company for him. The investigation result is incorporated into the purchase price proposed by the buyer or in what he called warranties.

The focus of the Buy Side Due Diligence differs from the perspective of the respective purchaser. In particular, to distinguish between strategic buyers, so buyers who want to grow in their industry or, if wishing to diversify into other industries, as well as financial investors who purchased the company from investment considerations. The difference arises mainly from the different requirements in the financing of the transaction. During the financial investor acquiring highly leveraged, as a rule, the acquisition of a strategic investor is usually mainly financed by its own funds.

Vendors Due Diligence

The seller prepares himself by a due diligence before his company or a portion thereof for a sale. He is after the due diligence in a position to identify any weaknesses of the company and eliminate them. In this way, it is relatively safe from negative surprises after a Buyers Due Diligence.

In addition, a vendor due diligence is useful if the company is to be offered more buyers, as this reduced input on the buyer side. Due to the anticipatory different interests of the potential buyer ( vs. strategist. Financial Investor ) is the vendor due diligence typically more extensive than the Buy Side Due Diligence. Due to the different analysis focuses potential acquirer types consists in performing a VDD a conflict between the focused display and the addressing -relevant information for different buyer types.

Due diligence before an IPO

Another area that are carried out in the DD tests, the IPO of the company. Case of a public offer of securities, a securities prospectus must in Germany after § 3 German Securities Prospectus Act be created which serves to provide information to investors.

For damages caused by incorrect or incomplete brochures damage liable to investors under § § 20 ff.Vorlage: § / Maintenance / buzer of investment law and § 13Vorlage: § / Maintenance / buzer VerkProspG or for non-published from 13aVorlage §: § / Maintenance / buzer VerkProspG the issuer, the emission companion (bank, banking consortium ) and certain other people.

The object of the DD at the IPO is to ensure the completeness and accuracy of the prospectus. Furthermore, particular aims of the emission companions to break free in the event of a dispute with regard to the allegation of gross negligence DD (due diligence defense ). Finally, the DD is the recourse of the bank with respect to the expert appointed, unless they are carefully chosen in testing and thus have a liability of the bank triggered.

3 reports in the United Kingdom as part of the DD in an IPO called for:

  • Long-form report: detailed analysis of the external auditor
  • Short-form report: Summary of the analysis task description and main results
  • Working Capital report: analysis of the expected liquidity situation in the next 24 months

In Germany, the scope of reporting is not legally defined as part of the DD in an IPO, but arises from the contractual relationship between the issuing bank and instruct lawyers, tax advisors and auditors. Due to the Anglo-Saxon coinage of many employees of the underwriters, however, required in the UK content in principle also in the reports for German IPOs are found again.

Outsourcing Due Diligence

Tendering especially in the IT and BPO sector providers of services may result in the party inviting tenders in many cases by a due diligence. Important aspects such as the number, profile and the content to be transferred employees, efficiency of processes, age and value of IT assets such as servers, PCs or maintenance contracts. Only after performing the job poster can usually be submitted a binding offer. However, the process of due diligence in this area is no guarantee of a successful and profitable business relationship between the job poster and the winner of the tender.

Functional forms of due diligence

  • Strategic Due Diligence: strategic view of industrial, financial and speculative investors, strategic planning, identification of potential synergies
  • Financial due diligence: evaluation and prognosis of assets, earnings, cash flow, liquidity, equity and debt application, financing structure, opportunities for Cash Pooling - a summary statement of Deal Issues and Deal Breaker
  • Commercial Due Diligence: The commercial due diligence analyzes the market and in particular the value chain of the business model. Market, competitive analysis, benchmarking, customer, product, pricing and USP. The Commercial Due Diligence answered the question of the sustainability of the business model.
  • Tax Due Diligence: tax perspective of the target, authoritative tax factors, transformation, and Group tax analysis, risk analysis, structuring of the acquisition ( depreciation of the purchase price, tax sparing financing, tax group, losses, transfer taxes )
  • Legal due diligence: legal risks and pending litigation, copyright, labor law and antitrust audit, merger control, examination of existing rental and lease conditions
  • Market Due Diligence: market conditions, internal business analysis, external analysis of the company, the plausibility of planning, data sources and success factors
  • Human Resources ( HR) and Organizational Due Diligence: structural analysis of the human capital, analysis of individual human capital as well as the organizational structure of the company
  • Cultural Due Diligence: Social norms, customs and traditions that have grown out of the human image and self-image of staff out organically. You can be depends on the industry very different. The complications that can occur here, possibly in analogy with European aid projects, for example in Africa comparable: to seek who is not ready to a true understanding of the mentalities, is the people can not help on the spot. The acquisition of this understanding is time consuming.
  • Technical Due Diligence: This experiment investigates the technical condition of equipment and buildings, mainly with the aim of evaluation of maintenance, repair and modernization potential ( high value of real estate -DD ).
  • Environmental Due Diligence: environmental quality of the location of its facilities and buildings. Here, in addition to contaminated sites ( rüstungs-/kriegsbedingte contaminated sites, soil contamination from industrial or technical pre-utilization ) are studied soil contamination from the recent use. The location of the venue with a view to future protection status ( reserve status, such as a bird sanctuary ) is assessed. Finally, building pollutants (use of asbestos products in building material, presence of other pollutants ) is given, which can cause additional costs for demolition or remodeling work ( register of hazardous substances ). Recently, the energy efficiency of an important part of the EDD. This area is processed in conjunction with the Technical Due Diligence.
  • IT Due Diligence: IT quality and security of a company. Increasingly, the future safety and cost consciousness will be considered.
  • IP Due Diligence Investigation of Intellectual Property (IP) of the company. Which patents, trademarks, designs and licenses the company, in which countries has, etc. If these rights in force, valid and enforceable, or they are subject to legal defects. Cover the rights of its own products and services sufficiently or fall from the products and services under the rights of third parties; are therefore required licenses.
  • Merger integration due diligence: to investigate the integration plans to merge and helps to make sure the integration success.

Criticisms of due diligence

Planning and hiring of consultants

Assuming that there is in principle an information asymmetry between seller and buyer, the buyer has to rely on any assumption on the object to be acquired. As part of the planning of due diligence these assumptions are often not made clear, although this would be an important approach for an efficient due diligence.

Performance-related remuneration

Consultants who are charged with the implementation of due diligence shall be paid not uncommon success-oriented, ie at a higher transaction success fee is paid as at termination of the transaction. This from the perspective of the client initially understandable desire to have in aborted transactions, no high fees and costs ( " broken deal costs" ), but this leads to a conflict of interest of the mandated consultants, as they should have no economic disadvantage from the fact that they abort a transaction advise the grounds of prudence. In Germany is a success-oriented remuneration only in exceptional cases permitted ( § 49 b paragraph 2 Bundesrechtsanwaltsordnung, § 4a RVG) and therefore not common.

Implementation

Frequently Due diligence will work on the basis of due diligence checklists performed without questioning whether this diligence on the due checklist mentioned information and analysis are actually relevant for the client and its goals. It will deliver comprehensive reports that are of limited use for the purchaser.

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