An acquisition involves large sums of money, high expectations and a tight timeline. In that dynamic, due diligence is the opportunity to really understand what you are buying - or selling. Yet, in practice, due diligence is still too often underestimated: set up too narrowly, started too late or focusing too much on finances alone. That is exactly where the risks nestle.
What due diligence entails
Due diligence is the research a potential buyer conducts on a target company before the purchase agreement is signed. The aim is twofold: to understand the true value of the business and to uncover the risks that could affect the deal or future business operations. A properly conducted study covers several disciplines simultaneously. Financial, tax, legal, commercial and operational - each part can separately produce relevant findings that either reinforce or contradict each other.
In mid-market practice, things rarely go wrong on the big, visible numbers. The real risks are in the details that only surface when you dig deep enough.
Where things often go wrong
A common pitfall is underestimating legal liabilities that are not directly visible in the balance sheet. Ongoing disputes, employment law claims or warranty obligations to customers are sometimes not recorded as explicit debt, but can incur substantial costs after closing. The same applies to contractual risks: many agreements contain so-called change-of-control provisions, clauses that take effect automatically in the event of an acquisition and entitle a counterparty to terminate or renegotiate the agreement. If an important supplier or customer relationship is lost in this way, the value of the company changes fundamentally.
Intellectual property is another area that receives too little attention. Who owns the software, brand or technology at the heart of the business? In growing companies, IP rights are not always well regulated, especially when freelancers or third parties have been used in the past. If the target company does not fully own its core assets, this is a serious problem.
On the tax front, buyers are at risk due to historical tax positions taken by the seller. Think transfer pricing discussions, uncertain VAT positions or premium adjustments with the tax authorities that have not yet been settled. These risks remain with the company in a share transaction and thus pass to the buyer, unless you address them contractually.
Finally, the human side of an acquisition is underestimated. Key people tied to the company through personal relationships, informal arrangements or uncommitted knowledge pose a real operational risk. If they leave after closing, the real value of the company potentially leaves the premises.
How to turn risk into bargaining space
Due diligence is not a formality that you tick off. It is a strategic tool. Findings from the due diligence give you concrete grounds as a buyer to revise the purchase price, negotiate warranties and indemnities in the purchase agreement or even park part of the purchase price in an escrow account until certain risks have crystallised.
For the seller, good preparation for the due diligence process speeds up the transaction and strengthens the negotiating position. A vendor due diligence, carried out on behalf of the selling party, gives buyers confidence and reduces the likelihood of last-minute discussions on price or terms.
Timing plays an important role in this. A due diligence process that starts too late or lacks focus produces findings that you can no longer address adequately. It is then too late to make structural repairs and you lose negotiating room.
What you can do now
Whether you are a buyer investigating a target or a seller preparing your company for a sales process: start early and ensure that legal, tax and financial research are well aligned. Make sure the findings are not piled up in a report but translated into concrete actions in the deal documentation.
How does TK ensure you can move forward?
TK's team guides buyers and sellers through the entire due diligence process. From preparing a targeted questionnaire and filling and reviewing the data room to translating findings into conclusive warranty and indemnity provisions in the purchase agreement. So you not only know what you are buying, but also how to protect yourself from it.
Want to know how to sharpen your due diligence process, or do you have a concrete transaction where you are looking for a sparring partner or legal counsel? Contact Onno Cusell or one of the other professionals from the Corporate/M&A team. We will be happy to think with you.
