Diligence in Business Transactions: A Brief Primer

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In a competitive economy, businesses make strategic decisions regarding acquisition targets in mergerand acquisition transactions based upon projected outcomes related to post transaction operations. In order to make informed decisions, the acquirers must have accurate and verifiable data about the assets or entities involved in the transaction. This data is generally obtained through the business due diligence process. When properly conducted, the due diligence process gives all parties the opportunity to evaluate whether the proposed transaction is likely to produce the expected results. Due diligence materials (e.g., material contracts, litigation, prospective customer leads) are often the best source of key information for any business transaction.

Purpose of Due Diligence Process

A business seeking to acquire a target company will usually obtain some preliminary information regarding the business and financial performance of the target prior to executing a letter of intent. Often this information comes from publicly accessible sources, business reports, and even information obtained from the target itself. However, it is not until the due diligence process is undertaken that the acquirer may fully examine the inner workings of the target and determine the extent to which the actual performance of the target comports with such preliminary information. During the due diligence process, the acquirer will request, among other items, tax returns, financial statements (audited, if available), and other financial reports regarding accounts receivable, expenses, revenue-generating contracts, cash assets and indebtedness of the target. A review of this information helps to provide the acquirer with a detailed picture of the target’s current and projected value. Moreover, careful scrutiny of these documents can reveal deficiencies regarding the target’s internal controls, risk allocation or revenue projections. For complex transactions, acquirers may seek the assistance of forensic accountants or other financial experts to evaluate the target’s financial data.

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