DUE DILIGENCE AND TYPES OF DUE DILIGENCE
With the growing economy of Turkey in recent years, there has been a noticeable increase in the number of company acquisitions and mergers in our country. This situation has forced us to understand and apply Due Diligence correctly, which is called the ‘must-have’ of mergers and acquisitions. In this study, Due Diligence and types of Due Diligence were examined.
1) DUE DILIGENCE IN GENERAL
Due Diligence, which is called "Detailed Review Report" in Turkish, has various definitions in many places, but in practice, it is defined as a careful and detailed examination of the target company to be merged or acquired before mergers and acquisitions.
There is no regulation about Due Diligence which is a 'decision making mechanism' in case of mergers and acquisitions in Turkish commercial code and in Turkish Code of Obligations yet. But with the increase of mergers and acquisitions, this regulation is likely to take place in Turkish Law in the near future.
Due diligence is an examination that clearly reveals the status of the target company to be merged or acquired in taxative, legal, financial, environmental, human resources and many other aspects. Although mergers and acquisitions are an economically sizeable and not an easy process, it is possible to say that Due Diligence makes this process quite easy.
Due diligence enables the buyer to make the right decision about whether to acquire and/or merge with the target company or not, while allowing the seller to identify issues that may pose a problem for the company in advance and prepare the company for the sales process.
In the Due diligence review to be made by the buyer in mergers and acquisitions, the target company's growth strategies and their position in the industry should be examined, market trends should be reviewed, important factors from their operations that have enriched the company should be analyzed, the benefits that the planned merger/acquisition will bring to the company and the shareholders in question should be considered. In addition to the opportunities that will arise as a result of mergers and acquisitions, issues that will negatively affect the company should also be identified and the way to solve these issues should be determined. After such determinations are made, a timeline should be established for the merger/acquisition.
In the Due diligence examination to be made by the buyer in mergers and acquisitions, a way to ensure the company's partners and employees avoid damage as a result of mergers and acquisitions should be identified and an amount of money that they want payed to them by the company in question should be determined.
The merger and acquisition process is a very important and critical process. Incorrect and incomplete reviews made during this process can lead to bad consequences for the parties after the merger and acquisition has taken place. Therefore, we can say that it will be beneficial for the parties to receive support from professional consultant companies in this process for a better result.
2) DATA COLLECTION IN DUE DILIGENCE
In the process of Due Diligence, data related to the target company are collected in order to conduct an efficient review. These used data are divided into internal and external data.
1- INTERNAL DATA
Internal data are information that is made available to the buyer by the seller of the target company. Those information are confidential, therefore, they can only be transmitted to the buyer in the event of a confidentiality agreement. In practice, usually the buyer informs the seller in writing what information and documents he wants from the target company. Some examples to intracompany data; balance sheets, income statements, tax returns, documents of employee salaries, wages and social rights, permits, information about customers and suppliers, environmental impact assessment reports, patents, lease and license agreements.
2- EXTERNAL DATA
External data are information that is related to the target company and information about the company's network. Some of this information is already already available to third parties due to the company's obligation to disclose it to the public. Other information is published independently of the company. Apart from these, if the target company agrees, information can also be obtained from the target company's auditors, legal advisors, banks they work with, customers and suppliers.
3) TYPES OF DUE DILIGENCE
Due Diligence is divided into types in terms of subject, time and parties. Since understanding Due Diligence correctly is extremely important in terms of the fate of mergers and acquisitions of companies, it is necessary to categorize Due Diligence types and explain these categories.
A) CATEGORIZATION OF DUE DILIGENCE IN TERMS OF SUBJECT
We can categorize Due Diligence in terms of subject as:
1- Financial Due Diligence
2- Taxative Due Diligence
3- Environmental Due Diligence
4- Human Resources and Cultural Due Diligence
5- Technical Due Diligence
6- Legal Due Diligence
1- FINANCIAL DUE DILIGENCE
The purpose of the review is to analyze the financial situation of the target company. In accordance with the information obtained as a result of this review, the company's income statement accounts, interim and year-end balance sheets and planning accounts are analyzed. Thus, the business plan and budget evaluation of the target company, whose earnings status, finances and assets have been revealed, can also be carried out. In this direction, the profit made by the target company in recent years will also be determined. This is a very important issue for the buyer to decide whether to make an acquisition/merger with the target company or not.
2- TAXATIVE DUE DILIGENCE
The purpose of the review is to identify the tax risks and analyze the legal taxative situation of the target company. In this way, the undetected tax liabilities and risks of the target company are revealed. This review is conducted by tax experts. In order to make a more accurate due diligence, what that the tax experts should do is to conduct the review with a team of lawyers and financial experts.
At the same time, a tax inspection also provides the buyer with a very large hint and perspective in determining the purchase price of the company to be purchased. If the target company is acquired with all its assets and liabilities when it is purchased, as a rule, the tax risks of the seller do not affect the buyer, that is, the acquiring company is not responsible for the tax risks. However, even in this case, taxative due diligence is important for the company that acquires the target company. In contrast, in the event of a purchase of company shares, as the buyer will also inherit the tax liabilities and risks of the target company, a comprehensive due diligence review will be vital for the buyer.
3- LEGAL DUE DILIGENCE
The purpose of the examination is to determine the legal transactions and the effects of these transactions on the target company. Thus to determine whether the company's activities are legally defective or not, and whether there are apparent or implicit liability risks. Thus, in merger or acquisition transactions, the buyer is prevented from encountering liabilities and risks that are not specified to them by the target company.
Legal due diligence will include reviews on various areas of law while dealing with the execution files of the target company, if any. As a result of the examination, which of the existing cases could be lost and how much damage will result from the loss will be revealed. Possible cases that may arise due to written warnings or unlawful acts of the target company should also be included in this review. Along with these, it is likely that there will also be files in which the target company is the plaintiff. Regarding the resolution of these cases, whether the brand(s) owned by the target company really belong to the company, whether the registrations are duly made should be considered within the scope of due diligence. In addition to this, the credit or financial contracts of the target company for the purpose of financing the company must be reviewed within the scope of due diligence as well. In this respect, particular attention should be paid to issues such as the possibility of unilateral cancellation and acceleration clause.
We mentioned above that legal due diligence contains reviews on various areas of law within its scope. In relation to this, we have seen the need to examine the most common review areas in the following topics.
a- Examinations to be Carried out in the way of Contract Law
The contractual relations between the target company and their customers, the companies they work with and its personnel are examined. It is extremely important to examine important contracts such as loan agreements made with banks and lease agreements with their consequences in mind.
b- Examinations to be Carried Out in the way of Property Law
Rights and licenses arising from movable, immovable or intellectual property rights contained in property of the target company are examined. In addition, it is examined whether limited real rights have been established on the immovable property belonging to the target company. It will be in the interests of the parties to also subject a few matters such as trademarks, patents, utility models, industrial designs, geographical indications within the scope of the intellectual property rights of the target company to legal scrutiny.
c- Examinations to be Carried Out in the way of Labor Law
Issues such as target company's employment contracts, termination notice periods, prohibition of competition, employees' productivity are examined. In particular, the examination of the target company's employees in terms of severance pay and social insurance bonuses will prevent the buyer from encountering a surprise situation.
d- Examinations to be Carried out in the way of Procedural Law
It is important to examine the existing risks in lawsuits where the target company takes part in. In existing lawsuits, it is also necessary to determine whether the way of the file's progression is in favor of the target company or against it.
4- ENVIRONMENTAL DUE DILIGENCE
The purpose of the examination is to determine the effects and harms of the target company's activities on the natural environment and ecological balance. Thus, environmental risks are identified and necessary examinations are carried out in the field of occupational health and safety measures of production facilities.
5- DUE DILIGENCE IN TERMS OF HUMAN RESOURCES
In this examination, the costs of the target company and the company's personnel are calculated. The main purpose of this examination is to determine the key personnel and their contributions to the company's performance. At this point, it is also very important to determine whether the personnel in the target company will adapt to the new company after the merger or the acquisition of the target company. Because the personnel failing to adapt will cause the company to not achieve the expected efficiency, which will cause the company to suffer.
6- TECHNICAL DUE DILIGENCE
The purpose of this review is to detect the target company's production facilities, production equipment, research and development activities and to determine their potential of expansion post-merger. In this context, issues such as the status and modernity of production vehicles, production process, production capacity, quality of products, advantages and disadvantages of the location of production facilities, professional knowledge of technical personnel compared to competitors are examined.
B) CLASSIFICATION OF DUE DILIGENCE ACCORDING TO THE TIME OF ITS EXECUTION
We can classify Due Diligence in terms of when it is executed as follows:
1- Pre-Signing Due Diligence
2- After-sale/Pre-Closing (Post-Signing) Due Diligence
3- Post Closing Due Diligence
1- PRE-SIGNING DUE DILIGENCE
It is an examination made before the sale contract is signed. The objectives of this review are to determine the sale price, the risks associated with the merger and to determine whether the buyer's goal can be achieved if the merger occurs. Due Diligence in Turkey is mainly carried out without signing a purchase contract.
2- AFTER-SALE/PRE-CLOSING (POST-SIGNING) DUE DILIGENCE
It is an examination that is carried out after the signing of the sale contract, but before the actual implementation of the contract. In this examination, the goal is to formulate the terms of the contract and determine the measures that should be taken to ensure that the integration process of the merged companies goes as smoothly as possible. After this stage, the contract can be canceled only if the buyer was mistaken, and it can only be rescinded with significant legal and material defects that justify the rescission of the contract.
3- POST CLOSING DUE DILIGENCE
It is the examination that is carried out after the signing and execution of the contract. In this review, the goal is for the buyer to control the company to be acquired and to reveal the undetected issues in the sale contract, if any. If the seller has hidden certain information from the buyer that is his responsibility in the sale contract, through this examination, the buyer can identify these hidden issues and as a result of this examination, the parties may need to meet again in accordance with the results obtained there.
C) CLASSIFICATION OF DUE DILIGENCE ACCORDING TO PARTIES
We can categorize Due Diligence in terms of the parties as:
1- Seller Due Diligence
2- Buyer Due Diligence.
1- BUYER DUE DILIGENCE
The purpose of this examination is for the buyer to determine the legal status of the documents and information belonging to the target company. In order for this examination to take place by the buyer, the seller delivers all the documents to be examined in the data room to the buyer. The buyer can use this data room within predetermined time frames.
2- SELLER DUE DILIGENCE
The purpose of this examination is to determine the information and documents that the seller will provide to the buyer about the target company. The seller conducts this review of the target company with consultants determined by themselves. The seller then submits the result of the examination to the buyer with a guarantee that the information and documents are complete and accurate.
As a result, Due Diligence is a comprehensive information collection and evaluation process of the target company in mergers and acquisitions. Moreover, in the process of Due Diligence, not only retrospective information but also the future situation is taken into account. In this regard, understanding Due Diligence and the Due Diligence process is extremely important for a successful company merger and acquisition to occur.