Nazlı Kaçar

Trainee Attorney

18.04.2022

DUE DILIGENCE IN COMPANY MERGERS AND ACQUISITIONS

The terms merger and acquisition, which can often be used interchangeably in practice, are known as “mergers and acquisitions” in international law. The term “merger” refers to a company losing itself in the other company and existing within that company; while the term “acquisition” refers to a company merging with a target company by buying that target company's assets or shares. Based on these definitions, it is seen that the concept of merger by acquisition regulated in the Turkish Commercial Code is closer to the concept of “merger”. Because in such transactions, as with mergers regulated in the Turkish Commercial Code, the assignee is shut down by being dissolved without liquidation.

Essentially, all merger and acquisition transactions serve an economic purpose. Fundamentally, these purposes may arise due to ensure cooperation and diversity between companies, gaining market control and tax advantages. Mergers and acquisitions will provide many economic advantages for the acquiring company, such as an increase in the market value of the company's shares and an increase in its competitive power.

In accordance with Article 136 of the Turkish Commercial Code, companies can be merged in two ways; Acquisition of a company by another company, technically called “merger by acquisition” or, union of two companies under a new company, technically called “merger by formation of a new company”. In accordance with the code, the company accepting the merger is called “transferee”, and the company that is joined is called “assignee”. The transferee takes over the assets of the assignee as a whole through the merger process. As a result of the merger, the company shares will be transfered to the transferee by natural acquisition in exchange for the assignee’s assets. In a merger contract, companies participating in the merger can provide shareholders with the option to choose either to have shares and partnership rights in the transferee or to receive a cash payment for withdrawal equal to the actual value of the company shares to be acquired. Companies participating in the merger can also set forth in the merger contract that only the cash payment for withdrawals is granted.

In mergers by transfer of assets, a big part of the establishment belonging to the target company universally or a large part of the assets (movable, immovable rights, know-how, intellectual-industrial rights, etc.) that belong to the establishment is transfered. The important thing here is the transferee having acquired enough assets to control the assignee. In such mergers, the assignee, as a rule, continues to maintain its own legal entity, but its legal entity may disappear if the assignee has no other assets left.

In mergers by sale of shares, the shares of the target company are transferred to the transferee by paying the determined price in return. Mergers of companies by sale of shares are not one of the types of mergers regulated in the Turkish Commercial Code. However, the payment of a price to the assignee in exchange for shares and thus the assignee's control being transfered to the transferee leads to it being characterized as a company merger. Despite this, since it does not have to be done in the procedure prescribed for mergers regulated in the Turkish Commercial Code, it appears to be a more preferred type of merger in practice.

Mergers by sale of sales consist of these stages; merger planning, research and selection of the target company, performing financial analysis, due diligence examination, obtain financing, negotiations and finalization. The question of whether the planned merger will take place or not depends largely on the due diligence examination step. Despite the fact that there are no regulations in the legislation regarding the due diligence process, it is carried out in practice as a natural outcome of mergers and acquisitions. Through due diligence, undesirable situations that the parties to the share sale agreement may face in the future will be identified and the necessary measures can be taken early.

Due diligence serves the purpose of providing the necessary transparency needed to determine the value of the target company by analyzing concrete and real information about the company correctly and to make the final decision on whether the merger will take place or not. The target company's legal status is also detected at the due diligence stage. Although the due diligence process consists of four different stages which are pre-due diligence, pre-acquisition due diligence, post-acquisition due diligence, post completion due diligence; in practice, much more importance is attached to the pre-acquisition due diligence process, which is carried out in secrecy. The final decision on the merger is largely made following the due diligence examination conducted prior to the sale.

The path to follow in the due diligence process in mergers and acquisitions consists of two different perspectives. The first of these is to examine the documents of the company in question which have been made public by means such as the Internet and the company's information obtained from external sources. The second one is to examine the information which the target company in question has voluntarily shared.

Due diligence examination is carried out by looking at the company involved in the merger or acquisition from different angles. Accordingly, the due diligence examination to be conducted about the target company is carried out in various ways, including financial, taxative, legal, commercial, human resources, technical and environmental aspects. 

In Financial due diligence examination, the target company's position and current competitors in the market in addition to the company's profit situation are examined by conducting a market analysis. The profit, loss, asset and financial position of the target company, both retrospectively and prospectively, is subject to a detailed examination. An investigation is conducted into whether all the items shown on the balance sheet of the target company actually exist.

In Legal due diligence examination, the subject is the legal transactions of the target company. Accordingly, the goods and rights owned by the company are examined in detail. All potential risks, such as whether there are rights that restrict ownership over the goods and rights owned, whether there are risks that will reduce the value of the goods and rights or give a third party the right to use them, will be analyzed in detail. In addition to these, judicial and administrative cases and follow-ups to which the company is already a party or lawsuits and follow-ups that are likely to be filed in the future will be analyzed. 

In Taxative due diligence examination, a detailed study of all the historical records of the target company regarding their taxes is conducted. Through taxative due diligence, it will be possible to determine whether the company has a tax debt and the tax risks that may arise in the future, as well as finding the most appropriate tax policy that will be implemented after the merger.

In commercial due diligence examination, the position of the target company in the market is determined in addition to carrying out an analysis of the target company's future situation and the characteristics of the market in which it operates. In commercial examination, many reasons of risks such as; market risks, market share risks, the magnitude of the operated market, the target company’s growth potential, current rivals in the market and the situations are examined. Commercial due diligence examination largely mentions risks arising from the Competition Law.

In human resources due diligence examination, research is carried out on the employees of the target company. In addition, the responsibilities arising from the provisions of the Labor Law and the full range of financial obligations are analyzed. The information obtained as a result of this analysis can be used as data in financial and legal due diligence examinations. For example, just as lawsuits filed by employees against the target company may be evaluated within this scope, related cases may be the subject of examination within the scope of legal due diligence as well.

 In technical due diligence examination, issues such as; the target company's production facilities, factories, equipments used in production, R&D centers and the state of technology used are determined and analyzed regarding the development potential of the company after the merger.

In environmental due diligence examination, it is determined whether the target company complies with the legal regulations related to the environment. Nowadays, various measures are required to be taken in accordance with the legislation in order to minimize the negative damages caused by establishments to the environment. Due to the fact that the costs of these measures are excessive, the issue of environmental costs may pose a risk to the merger or acquisition process. Through environmental due diligence examination, risk analysis is carried out by calculating the possible cost that will arise due to taking the necessary measures related to environmental protection after the merger. 

Following all due diligence examinations, by conducting a strategic due diligence examination, the contribution of the target company to the merger process and the realization of the goals contained in the strategic plans of the buyer company will be examined. 

Due diligence examinations are mainly given to financial, legal and taxative due diligence examinations when conducting company mergers and acquisitions. As the retrospective financial, legal and taxative status of the target company will also indicate whether the merger or acquisition in question will be advantageous for the buyer company in the future. If, as a result of a merger or acquisition, the buyer achieves his strategic goals and there are risks that may lead to the failure of the purchase in the future, the answer to the questions of how to make the final contract in order to minimize these risks will be revealed as a result of the due diligence review.

The main purpose of the due diligence examination by the buyer company before making the purchase is to determine whether the target company's information and documents actually reflect the truth or not. Therefore, due diligence examination on the issue of "liability arising from the defect in the sold" will be raised. As a matter of fact, the subject that is also quite controversial in the doctrine is as summarized; if the buyer reveals a defect about the sale as a result of the due diligence examination, as a rule, they will be able to give up on buying the shares of the target company. If the target company has information and documents that they have not provided to the buyer company for the purpose of hiding an existing defect, the seller's liability for the defect will be able to apply the provisions. However, according to the elements of the concrete event and in accordance with the provisions and principles of the Commercial Code, the seller may be prevented from being held accountable if there are any disadvantages that a cautious trader may have foreseen or known if he had taken the necessary care. For this reason, it is important that the due diligence examination is carried out in detail by examining the target company from all aspects by experts in their field.

RESULT

Due to the large number of risks in mergers and acquisitions, it is very important to conduct due diligence and risk analysis in a proper way. For this reason, due diligence examination is carried out in practice to determine the current state of the target company and the risks that may arise in the future before the merger or acquisition takes place. Due diligence examination aims to conduct a proper risk analysis of the company or companies that are the subject of mergers or acquisitions. In this article, the concept of due diligence on the basis of mergers and acquisitions by taking a general look at it is tired to be explained.