A Guide to Financial Due Diligence
30 March 2017
Financial due diligence is the procedure a potential buyer of a company undertakes to assess the financial health and stability of the assets up for sale. To provide transparency and comfort to the acquiring party, financial data is scrutinised and any mitigating circumstances or areas which could potentially pose a risk are highlighted.
Financial due diligence is a crucial part of the merger and acquisition process which enables both parties to make informed decisions relating to the purchase.
Financial Due Diligence Process
Once the acquiring party has reviewed its own business strategy in regards to instigating a merger or acquisition, the following process is initiated before negotiations on the sale begin:
- The buyer formally expresses its interest in acquiring the target company
- Both parties conduct initial discussions on purchase terms
- Investment principles are established, and following this both parties are then required to sign confidentiality agreements
- Financial due diligence work begins once the target company provides related materials to the buyer
Financial Due Diligence Benefits
The main benefit of a financial due diligence report is for the buyer to establish an understanding of historic and actual financial performance, as well as forecasting its financial solvency. The result of which allows for an informed valuation of the company.
Apart from the main objective of underlining any financial or tax risks, financial due diligence also has the advantage of providing investors with an understanding of the target company’s assets, liabilities, and operations management structure. When combined with other forms of due diligence, a solid basis is established for informing strategic investment decisions related to the acquisition.
The benefits of financial due diligence are not limited to the acquiring party. For the target company, the financial due diligence report paints a clear picture of their key strengths and weaknesses. This in turn allows them to be sufficiently equipped for probing from the buy side. In most cases, responses are put forward in advance to speed up the negotiations.
Another benefit for the sell side is raising its own value. If the target company is committed to working with the financial intermediary in charge of the due diligence, they can correct any operational or financial issues identified. This instils greater confidence in the buyer, thus increasing the value of the firm.
Financial Due Diligence Checklist
The financial due diligence report is a comprehensive document outlining the findings from the third party financial services firm. The contents vary between industry; however, these are the contents universally found in a report:
- How is the target company currently being operated?
- What financial procedures are currently in place?
- An analysis of cash flow to determine operational condition
- Questions relating to motivation of target company’s acceptance of acquisition
- Review of financial policies, asset quality and profitability
- What is the financial structure of the target company?
- What is their current credit situation?
- What is the current tax structure?
- How does the target company fulfil and withhold tax payment?
- Forecasts of earnings, cash flow and capital requirements
- Evaluation of interest and exchange rates, tax changes and industry outlook
How DueDil can help
From due diligence to deal prospecting, DueDil helps businesses make data-informed decisions.
DueDil combines comprehensive sources of company information and an intuitive set of features that allow any team to uncover opportunities and understand risks. Unlike traditional information suppliers, DueDil provides a unified platform for teams across a business to contextualise and navigate the relationships between sets of data.
DueDil takes live data from a wide range of authoritative sources, combines it and presents it clearly. On top of this foundation is an intuitive set of features that allow users to search for, segment, benchmark, monitor and export company information.
To discover how your business can enhance its due diligence processes, get started with DueDil today.