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Due Diligence.

What is the Meaning of Due Diligence?

Whether it’s the acquisition of a company, undertaking an important sale or purchasing real estate — it’s important to have the right information before committing to a crucial deal.

Due diligence is the process of evaluating a business or individual to assess the commercial viability of a transaction or deal. The primary purpose is to appraise and value assets and to identify potential liabilities, risks or financial shortcomings. If any nasty surprises are found, the buyer can either renegotiate or cancel the deal.

Whether the process is voluntary or part of a legal obligation, both the purchaser and vendor must follow certain guidelines and procedures to ensure the outcome is fair.

Understanding the Due Diligence Process

Due diligence is typically carried out once the intent to purchase has been established, but the formal agreement is not yet signed. Before starting the investigation, the business should write a checklist of the information they need and why the information is relevant to the deal.

Throughout the process of due diligence, the purchaser should consider:

  • Spending time talking to management and staff
  • Understanding what documents are required to consider the viability of the transaction
  • Reviewing customer records to verify details and the integrity of the data
  • Questioning whether there are any potential liabilities from past or present agreements
  • Engaging an appropriately qualified practitioner to examine documents that relate to ongoing or potential lawsuits, litigation, and other legal issues

Most information collected from due diligence is highly sensitive in nature. As a means to prevent data leaks, the investigated party may put in a clause asking the other party to sign a non-disclosure agreement. Be sure to compare the information found in the documents and what the business or individual has said during negotiations. If the facts or statements are inconsistent it could be a sign of underlying problems.

What to Include in a Due Diligence Report

After collecting the information, it is often useful to summarise the details in a due diligence report. The report should answer all the burning questions raised during the process and conclude whether the current state of the deal is fair or not.

Depending on the kind of business deal, due diligence reports typically contain the following information:

  • Written profile of the company including history, business model, revenue model, customer base, industry competitors, past and current management
  • Contracts for all employees, equipment, facilities, property sales, leases, suppliers and clients or customers
  • Past, current and future status of relationships with customers, clients, suppliers, distributors and strategic partners
  • Information about the business’ financial strength and ability to grow including financial records, statements, revenue, profit margins and forecasts
  • Employment records including, but not limited to, time and pay records, contracts (and variations)

Before sending the due diligence report to team members evaluating the deal, the information should be verified by quality legal, tax and business experts.

Due Diligence Clauses

One of the most common clauses found in the contract of a property sale is due diligence.

Due diligence gives the buyer permission to conduct property searches and cancel the contract if any outstanding issues are found. Whether the property is in poor condition, infested with timber pests or the property has other liabilities – a due diligence clause allows buyers to walk away from the deal.

Some sellers dislike the sweeping rights terminating a contract without consequence. As a response, sellers may request a time limit on how long the due diligence period can last for. You should seek guidance from a qualified expert in regards to due diligence.

Due Diligence and Transfer of Business

When an entity buys or takes over a business or part of the business, it will often want to retain existing employees. Due diligence will assist in determining the financial costs of doing so.

Once this cost is quantified a business is in a position to consider whether or not it is beneficial to recognise entitlements. Of course, there are a number of non-financial factors that come in to play when doing so (eg. morale, culture etc).

If you require assistance with the transfer of business and employee entitlements, please do not hesitate to contact Employsure.

Questions? Call us on 1300 651 415 to speak with a specialist

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