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Due Diligence in the case of M&A

NIRC Seminar. Due Diligence in the case of M&A. 1 April 2006. Mergers and acquisitions are at the core of corporate zeal for growth. Corporate Growth could be: Organic; or Inorganic. While Organic Growth is considered a safer bet, the process could be slow.

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Due Diligence in the case of M&A

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  1. NIRC Seminar Due Diligence in the case of M&A 1 April 2006

  2. Mergers and acquisitions are at the core of corporate zeal for growth • Corporate Growth could be: • Organic; or • Inorganic. • While Organic Growth is considered a safer bet, the process could be slow. • Inorganic Growth, driven by Mergers & Acquisitions is a quicker mode, but it could be risky.

  3. Why are corporates increasingly focusing on M&A? • Consolidate and create critical size. • Concentrate on core competencies and businesses. • Gain higher market share. • Strategic alliances to strengthen competitiveness. • Access to new, lucrative markets. • Broadening the product portfolio. • Backward / forward integration.

  4. What is the deal? • Purchase of Shares – Investment vs. Acquisition vs. Disinvestment. • Purchase of Assets – Itemized vs. Slump Sale. • Joint Ventures. • Outsourcing Arrangements. • Spin Off of a “non – core” unit.

  5. Due diligence • Systematic, structured research effort to ascertain and accumulate facts necessary to make an informed investment “decision”. • The areas a diligence may “help” are: • To make or not to make the proposed acquisition. • How much to pay • How to structure the deal • Post Acquisition Issues, relating to the operations, accounting, legal etc.,

  6. When does due diligence become relevant? • Deal Strategy Validation • Value Driver Identification • Valuation Identifying Deals Evaluating Deals Executing Deals Making Deals Successful Harvesting Deals • Structuring and Negotiating issues • Matters to be included in Shareholders / other agreement • Representation and warranties / indemnities involved • Design tax efficient structures for acquisitions and disposals • Planning exit strategies

  7. Types of due diligence reviews - functional Financial Tax Legal Ops & IT HR Market

  8. Types of due diligence reviews - functional Human Resources • Validation of payroll cost • Pension and employee liability valuation • Employment termination costs • Compensation and benefit alignment costs • Review of historical recruitment and staff turnover Operational and IT • Assessment of operational assumptions • Understanding operational systems • IT management and organisation • IT integration • Transition Planning • Review of historical recruitment and staff turnover Market • Validating the market - existence, size, potential • Assessing Target’s presence - market share, attractiveness, competitive position • Assessing future returns - whether the sales forecasts are achievable • Issues likely to impact the target’s projections

  9. Types of due diligence reviews – buy v/s sell Buy Side Diligence (Are you buying what you think you are buying) v/s Sell Side Diligence (Do you know the issues buyers may negotiate on)

  10. Buy side due diligence • Financial analysis to support opinions and conclusions. • Identification of hidden value in the target. • Highlighting post-acquisition / integration / separation issues. • Using expert resources in the target country to identify local risks and issues. • Identifying areas that may impact the exit strategy of the equity provider. • Analysing the sustainability of earnings and cash flows.

  11. Sell side due diligence • Assists the vendor by providing an upfront independent review. • Highlights sale and purchase agreement issues early that may become negotiating points or areas for warranties/indemnities. • Ensures a level playing field by providing all potential purchasers with objective information. • Reduces the level of due diligence procedures that potential purchasers need to perform. • Expedites the deal timetable by avoiding lengthy negotiations and disruption to the vendor. • Reduces the risk of last minute value erosion and avoid lengthy re-negotiations.

  12. Types of due diligence reviews – access levels • Full Access Full access to the target management, staff, accounting, financial and legal data. • Limited Access Limited access to the target management, staff, accounting, financial and legal data. • No Access Strictly controlled environment, typically based on publicly available data. • Carve Out Strictly limited to the part of business proposed to be sold.

  13. Focus of the exercise is determined by the deal Private Equity • Seller does not sell controlling stake (<25%) • Seller aims at obtaining funds for expansion / operations • Buyer aims at obtaining return on investment Strategic • Seller typically sells controlling stake (> 25%) • Buyers and sellers aim at integration of synergies, and resources Asset Acquisition • Slump sale / Asset Sale • Acquisition of part of Assets and Liabilities. The balance is retained by sellers. Equity Acquisition • Acquisition through equity acquisition (change of ownership) • No Slump sale / Asset sale

  14. Financial due diligence typically focuses on…. • Compliance with GAAP. • Review of Shareholders Agreement, shareholding pattern and liens on shares. • Nature of Reserves - restrictions on utilization. • Loans / Borrowing facilities – terms & conditions and restrictive covenants. • Cash flow reviews – monthly / annual to identify seasonality in business.

  15. Financial due diligence typically focuses on…. • Details of Assets / Liabilities and their recoverability / impairment • Fixed Assets (including leased assets and IPR’s) – Title and any encumbrances; • Inventories; • Receivables (including Credit Policy/ Collection Period) and other Assets; • Liabilities (including Retirement benefits and other employee liabilities). • Trading Results – segment wise and identification of Extraordinary/ exceptional items, if any.

  16. Financial due diligence typically focuses on…. • Gross Margins and EBITDA analysis. • Impact of Discontinued operations. • Group company transactions and dependence – this would highlight Separation / Stand Alone Issues. • Specific regulation for business / industry. • Review of Internal Control and MIS systems. • Management & Employees and their Relationship.

  17. Tax due diligence typically focuses on…. • Status of Direct and Indirect tax assessments. • Review of audits carried out by the respective tax authorities. • Review of the claims made by the tax authorities and the responses made.

  18. Result of the due diligence Potential Liabilities & Commitments Quality of Earnings & Cash Flows Quality of Assets Separation / Structuring / Integration Issues Tax and Other Regulatory Issues Other stand alone issues Co-ordination with other advisors and issues identified by themIndustry and market issues

  19. Result of the due diligence • Identification of “deal breakers”. • Adjustment to “pre-diligence” valuation. • Negotiation support. • Conditions in Share Purchase Agreement (SPA). • Representations and warranties. • Inputs for post deal action points.

  20. Past has been good…..future will only bring more opportunities for our profession

  21. Add closing statement here “In the current economic scenario, M&A is the fuel for growth engine” Thank You

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