Due Diligence report

Mar, 03 2020

In a nutshell, Due Diligence is a process of:

  • Analysing various aspects to estimate an entities commercial potential
  • Assessing the financial viability of the entity in terms of its assets and liabilities
  • Examining the operations and verifying the material facts related to the entity in reference to a proposed transaction

Due Diligence report

Finding skeletons in the closet before the deal is better than finding them later is a relatable aspect when it comes to due diligence. The information collected during this process is crucial for decision making thus needs to be reported. The Due Diligence report helps one understand how the company plans to generate additional earnings (monetary as well as non-monetary). The ultimate purpose is to get a clear picture of how the business will perform in the future.

Drafting of the Due Diligence report

While drafting the due diligence report it should be answered on three main questions:

  • Who is your target audience?
  • What is your objective?
  • Which are the aspects that will be key to decision making?

The due diligence report has to be clear, well written and self-explanatory, with footnotes and cross references if need be.

The due diligence report should provide the desired level of comfort about the potential investment and also the inherent risks involved. The report should be able to provide the acquiring company with information such that no onerous contracts are signed which could potentially harm the existing return on investment.

As an example, here is a standard information checklist for a financial due diligence report.

History and commercial activities:

  • Summary of the legal structure and ownership of and any changes since the last annual return
  • Brief account of history, locations and nature of business
  • Description of products / services and any other trading activities
  • Details of main competitors and market position, including estimated market share and any recent industry surveys
  • Details of key customers including terms of trade and an analysis of turnover by customer during the review period.
  • Details of key factors including terms of trade and an analysis of purchases by supplier during the period of review
  • Particulars of any long-term agreements with customers or suppliers and any other sіgnificant agreements, contracts or arrangements with third parties
  • Summary of premises showing locations, facilities / area, tenure and purpose, premises not currently in use and the availability of any spare land or buildings
  • Details of any rent payable or receivable and sight of leases or tenancy agreements including details of any onerous lease provisions
  • Details of any intellectual property and whether the target taken steps to protect it
  • Details of any litigation
  • Copies of all contracts relating to the acquisition or disposal of companies or businesses

Organization structure and employees

  • Summary of the management structure and division of responsibilities
  • List of directors and senior executives
  • Names of former directors and senior executives who have left during the review period along with reasons for departure
  • Analysis of staff by department or function and an indication of staff turnover levels
  • Details of key employees and the strategies to retain them
  • Description of salary / wage structure, terms of employment inсluding holidays, pensions and other benefits, notice period, etc.

Assets and liabilities

  • Description of fixed asset capitalization, revaluation and depreciation policies
  • Analysis of valuation, cost, depreciation / amortization and net book value of fixed assets by major category, age and whether owned or leased for the review period
  • Details of grants received, capital commitments and any significant capital expenditure anticipated but not contracted for
  • Analysis of stock (gross and net of any provisions), including aging and method of valuation
  • Analysis of debtors (gross and net of any provisions) by nature and age
  • Analysis of creditors by nature and age and a description of their repayment bases

Cash flows

  • Cash flow statements for the review period if not included in the financial statements
  • An explanation of the major variances in the net cash position over the review period

Current trading

  • Monthly management accounts since the review period
  • Analysis of the management accounts in line with that provided for the review period, including a commentary on variances to budget

Taxation

  • Tax computations and sight of correspondence covering the review period
  • Details of current status of tax computations and disputes with tax authorities

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