Due diligence is a business practice that holds significant relevance that involves the examination of a person or a business before signing a contract. A business practice, imperative for a host of commercial approaches, it involves any instance which requires investigation of certain standards of care. In a business environment due diligence is usually carried out when a potential acquirer seeks to gain information about the target company’s assets for an upcoming acquisition or a potential business partnership.
The nature of due diligence conducted depends on the type of industries or companies that one intends to research on and can be classified into different areas. In this article we are going shed light on financial due diligence – a crucial part of the due diligence procedure, essential in any financial dealing between business houses.
A financial due diligence will essentially examine the financial standing of the company in the market including its past financial records, revenue recognitions, quality of earnings, working capital and cash flow, current financial position, future risks and opportunities, etc, so as to assess the viability of the transaction in question. Though a set of generic procedures are employed in financial due diligence proceedings, the outlook of the approach largely depends on the uniqueness of the deal in question vis-à-vis the economic conditions at the particular time, alongwith the market opportunities for sustainability and growth.
The scope of financial due diligence, is however, not limited to mergers an acquisitions and can be extended to several other sectors. The process is often used to determine how a certain division within the business unit is fairing, and subsequently if the unit needs to be disposed off. Investment research also extensively makes use of financial due diligence to ensure successful venture capital transactions.
Who can carry it out and when?
Financial due diligence can be executed by the acquirers’ own financial division or can be outsourced to external due diligence experts working independently. Companies often choose to hire professional due diligence, since experts operating outside the purview of the company enable the acquirer to obtain a fair view of the operations. Furthermore since this is their area of expertise, external advisers are often able to come up with insights and subsequent actionables that may significantly impact the outcome of the financial operation. More over, it allows the internal team to concentrate on matters regarding logistics of the merger or acquisition as well as dealing with the internal policy matters influencing the deal. The commencement of the due diligence process is recommended as soon as a particular business becomes of interest. At an early stage using the internet can serve as an effective tool for business and investment research in relation to the company’s business, industry, competition, etc. Companies attribute extensive importance to the process since data is gathered through the procedure which substantially influences the success or failure of the transaction. The official process of financial due diligence starts as soon as the deal or agreement has been drafted and adequate timelines have been set to carry out the proceedings.
What are the sources of information required?
It is important to scrutinize all the financial statements thoroughly before taking any major decisions are taken. These statements usually include annual and quarterly financial information for the past 3 years, the current capital structure, the financial projections for the next 3 years and other relevant data that is agreed upon in the scope of the target company.
Advantages of carrying out a financial due diligence
In any business environment where there is a significant financial transaction involved, a financial due diligence is indispensible. Carrying out a financial due diligence provides the acquiring company with valuable information that can actually amount to a deal breaker or a deal maker. Besides, it also provides several other useful insights like whether the information provided is reliable, the authenticity of the historical earnings, the sustainability of the future goals of the company, the immediate and future financial considerations of the company, etc. which go a long way in influencing investment decisions.
Thus carrying out a financial due diligence process accurately will not only provide clarity on operational statistics about the target company but also bring the management one step closer to deciding whether they should go ahead with the deal or not!
Bio: Altaf works for netscribes.com. He understands that financial due diligence is extremely important when it comes to investment research, as it helps in successful capital transactions by getting valuable information about making business transactions.