Due Diligence Report: An Overview
Investors usually conduct due diligence to verify that a company consistently adheres to all relevant laws and business procedures. Prior to any transaction such as bank loan funding, business sale, or private equity investment, corporations typically undergo a due diligence process.
During this process, the company’s compliance, financial, and legal aspects are usually examined and documented. It involves evaluating all relevant facts related to a business or contract before signing a formal agreement between both parties. Due diligence is not limited to only buyers; sellers can also conduct it. The due diligence process includes factual, background, legal, and accounting checks. It is advisable to conduct due diligence on a company to avoid unpleasant surprises after a sale is closed.
Types of Due Diligence
Three types of due diligence exist –
It evaluates the caliber of an investment, its business potential, and the individuals associated with it.
Legal Matters Diligence
It scrutinizes the regulatory challenges and legal consequences of both intra- and inter-corporate transactions.
It validates the company’s operational, financial, and commercial assumptions. This process also involves a comprehensive review of the target company’s internal controls, audit procedures, accounting principles, and tax compliance.
Reasons for Due Diligence Analysis
- To scrutinize and verify the information and details provided during the investment or transaction process.
- To detect any possible drawbacks in the investment, contract, or transaction opportunity to prevent involvement in dishonest commercial practices or unethical operations.
- To collect all necessary information and particulars essential for evaluating the deal
- To verify if the investment or transaction requirements align with the investment or deal opportunity in terms of compliance.
What Elements of a Due Diligence Report of a Company Are Crucial?
Here are some critical elements that a company’s due diligence report should contain:
Monetary Facet: The due diligence report of a company should concentrate on specific ratio analysis and essential financial details to understand the target company’s overall financial position.
Sustainability: Thoroughly scrutinizing a target company’s business and financial strategies is crucial to ascertain its viability.
Staffing Considerations: The report must assess the competency and dependability of the company’s management thoroughly.
Ecological Factors: Conducting research on the environment and its impact on the organization is essential as no firm can function in isolation.
Essential Element: The due diligence process involves assessing the technology available to the organization at a given time, which can significantly aid in determining the next course of action.
Responsibilities: The due diligence report of a company should include an assessment of existing and potential liabilities (such as legal issues, regulatory challenges, etc.) that could impact the company’s operations.
What Procedures Does a Corporation Follow Throughout Its Due Diligence?
A company’s due diligence procedure typically includes the following steps:
Evaluation of MCA Documents
The due diligence process of a company commences at the Ministry of Corporate Affairs (MCA), where the company’s master information is publicly accessible on the ministry’s website.
Register of Companies for a Lesser fee
Generally, the information from the MCA website is the first to be verified. The data and documentation obtained during this stage include:
- Organizational data, such as the company’s incorporation details
- Information about authorized and paid-up capital
- Details about the most recent annual general meeting
- The date of the most recent balance sheet
- Information about the company’s current situation
- Details about the company’s directors, including the date they were appointed
- Information about any registered charges on the company
- Details about the company’s secured lenders and the number of secured loans
- Important documents such as the incorporation certificate.
Apart from the above, the company’s financial records and other filings related to different aspects of the company with the MCA can also be downloaded and analyzed. Reviewing the company’s MCA records would provide a comprehensive understanding of the business to the due diligence investigator.
Evaluation of the Articles of Association (AoA)
During the due diligence process, analyzing a company’s Articles of Association (AoA) is crucial to identify the different types of equity shares and their corresponding voting rights. The AoA may also include provisions that restrict the transfer of shares. Hence, thoroughly reviewing the AoA is important before proceeding with any share transfer procedure.
Evaluation of the Company’s Statutory Registers
Private limited companies are required by the Companies Act of 2013 to maintain several statutory registers that relate to share transfers, share allotments, board meetings, and the board of directors. Hence, reviewing a company’s statutory registers is crucial to collect and authenticate information regarding directorship and shareholding.
Evaluation of the Financial Statements and the Book of Accounts
Under the Companies Act of 2013, companies are required to maintain complete transaction records and a book of accounts. During the due diligence process, it is important to compare the company’s financial statements with the audited and verified information on specific financial transactions. The following aspects should be taken into account when preparing a due diligence report for a company:
- Verifying the accuracy of the bank statements.
- Verification and evaluation of all assets and liabilities.
- Confirming the accuracy of cash flow information.
- Comparing the accuracy of transactional data with all financial statements.
Evaluation of Taxation Issues
Throughout the due diligence process, it is critical to conduct a thorough examination of a company’s tax-related factors. This helps to prevent any unforeseen or anticipated tax liabilities from arising against the company in the future. The following factors pertaining to a company’s tax situation must be examined when creating the due diligence report:
- Income tax returns and payments made to date
- Calculation of the company’s income tax liability
- Filed returns for ESI/PF, and contributions made
- Calculation of PPF
- VAT, GST, and service tax returns filed
- Payments made for VAT, service tax, and GST
- Basis for calculating payments for GST, service tax, and VAT
- TDS returns filed
- Payment of TDS
- Calculation of TDS.
Evaluation of Legal Aspects
A comprehensive legal audit of the company should be conducted by a skilled legal professional to identify any pending or unresolved legal matters, lawsuits involving the company, and the examination of the company’s entire real estate portfolio.
- There has been no objection from any secured creditor regarding the sale of the business.
- Checking the accuracy of court filings and, if available, reviewing court records.
- Assessment of the value of operational components
It is essential to have a comprehensive understanding of the company’s operations, business model, and operational data during the due diligence process. All operational components, including site visits and employee interviews, must be thoroughly reviewed. The following items must be discussed and documented during the operational aspect review:
- Business strategy
- Number of employees
- Client portfolio
- Production details
- Vendor information
- Machinery particulars
- Utilities information
Advantages for Conducting Due Diligence Processs
Analyzing the company’s market size and volatility involves comparison and evaluation.
Industries and Business Rivals
To gain an understanding of the target company, it is important to compare and research the competitive landscape.
This helps to gain knowledge about the general risks of the industry as well as the specific risks associated with a particular company, and identifies any ongoing risks. It also predicts any potential unforeseen threats that may arise in the near future.
Checklist for Due Diligence of a Company
- A comprehensive documentation and a plan of action for a company put forth.
- Ownership of commercial enterprises.
- The adherence to rules and regulations.
- Details regarding management, financial, and accounting matters.
- Business-oriented systems aimed at tax targets.
- Examination of legal issues.
Importance of Due Diligence Report of a Company
Mergers and Acquisitions
Due diligence involves perspectives from both the client and the dealer. The seller assesses the buyer’s background, financial capacity to finalize the transaction, and their commitment to fulfilling their obligations. Meanwhile, the buyer investigates various critical factors such as financial records, legal disputes, patents, and other relevant information.
Due diligence is conducted for essential partnerships, collaborations, corporate mergers, and other similar business connections.
When a corporation merges with another, there are concerns about the dependability of the resulting entity. It’s assumed that the other company also considers whether their own resources are sufficient to address the situation.
FAQs on Get a Due Diligence Report Online
1. Can due diligence be conducted remotely?
Yes, due diligence can be conducted remotely with the help of technology and digital resources.
2.What happens if issues are discovered during the due diligence process?
If issues are discovered during the due diligence process, they are typically brought to the attention of both parties involved in the transaction. Based on the severity and impact of the issues, the parties may renegotiate the terms of the transaction, terminate the deal, or proceed with the original agreement while taking necessary measures to mitigate the risks associated with the issues.
3.What are the common areas of due diligence for a business?
The common areas of due diligence for a business include financial, legal, and operational due diligence.