Due Diligence in M&A transactions: is it really useful?

Due Diligence is a standard procedure in M&A transactions, carried out prior to acquiring a company, to examine its various business areas and identify the risks inherent in such a purchase. In this context, it is not uncommon to encounter clients who, when expressing interest in acquiring a company, question the necessity of conducting due diligence. Phrases such as, “We already know everything about the company; nothing will surprise us,” or “We’ll cover everything in the purchase agreement,” are frequently heard.

In light of such statements, one might ask: Is Due Diligence truly useful? Drawing an analogy with medical practice, when one experiences pain, a doctor typically requests to better diagnose the cause and prescribe an appropriate remedy. The same principle applies, albeit in a different sphere, when contemplating the purchase of a business. The prospective buyer must understand precisely what they are acquiring and the condition it is in before deciding whether to proceed with the transaction.

At the outset of negotiations, it is advisable for the buyer to submit a letter of intent to the seller, setting out the fundamental terms of the transaction. This letter should also regulate the due diligence process, specifically addressing:

1. The timeframe for completion (typically four to six weeks).
2. The seller’s obligation to provide the necessary information and documentation.
3. The buyer’s commitment to maintain confidentiality regarding the material received.
4. That the buyer’s decision to proceed with the acquisition is, in any event, conditional upon a satisfactory outcome of the Due Diligence.

The process commonly begins with a request for information via a checklist. Once the sellers upload the requested data to the designated portal, the buyer’s advisers review it and produce the Due Diligence report. Throughout this process, communications frequently flow between buyer and seller to clarify any queries that arise.

Regarding the scope of Due Diligence, it is prudent to examine the company’s various departments, such as legal, tax, employment, and financial aspects. Naturally, the review should be tailored to the specific circumstances: for instance, if the company has no employees, an employment analysis may be unnecessary. Moreover, in an increasingly visual and fast-paced environment, value is added when the report is concise, clear, and to the point. It is also highly beneficial for advisers to hold a call with the client once the report has been reviewed, to clarify any questions regarding its content.

Beyond identifying contingencies, due diligence is also valuable for:

1. Establishing the company’s valuation (as the presence of certain contingencies may justify a price lower than initially agreed).
2. Providing crucial information to support negotiations (for example, even minor risks may strengthen the buyer’s negotiating position).

On this basis, we can affirm the utility of Due Diligence. Our general recommendation is to conduct it in every case.

• Firstly, because it helps determine whether to proceed with the transaction based on the contingencies discovered.
• Secondly, because if the purchase proceeds, the report will indicate the measures recommended to mitigate or eliminate such contingencies.
• Thirdly, because the conclusions of the due diligence will be essential for drafting the sale and purchase agreement, informing, among other matters, the negotiation of the representations and warranties the sellers must provide.

In short, the most prudent course is to carry out Due Diligence, as the buyer will gain certainty regarding the business they intend to acquire and will be aware in advance of the steps necessary to mitigate or eliminate the risks associated with completing the transaction.

Can we assist you?

At AGM Abogados, we have agile, rigorous, and expert teams across various legal disciplines, equipped to approach due diligence processes from a comprehensive perspective. Please contact us if you require advice.