M&A and improving due diligence in interesting times

The first half of 2020 was exceptional in M&A markets. When market fundamentals are unclear, thorough and strategic due diligence is especially important before committing to a transaction. Based on a research report that professor Angwin, the Dean of Nottingham University Business School, prepared for Midagon on M&A success factors, there are specific opportunities to improve due diligence.

Taru Weckroth

1.10.2020

• Due diligence scope: Strategic due diligence should have a broad scope and involve key functional executives from operations, ICT and HR. Conventional prioritization of financial and legal aspects easily overlooks other business critical elements, such as cultural differences. Focus also on issues not restricted by function, such as environmental concerns and cultural issues, and understand how corporate culture underpins organizational success. Especially when face-to-face access is limited, people and culture issues require careful attention and planning.

• Avoiding fragmentation: It’s a common issue in the due diligence stage that specific pieces receive attention but are not connected together and information is not comprehensive. This leads to poor understanding of the target company. Especially in the current environment decisions should be made based on a comprehensive picture of the target.

• Consider courtship: Entering into a project, joint venture, 'toehold' or minor equity stake instead of or before full acquisition allows for better understanding of the target, faster completion of the eventual transaction, and reduces risk.

• Clean teams: Having a “clean team”, usually external consultants, who get in-depth information that is only released to the buyer on acquisition, can reduce integration risks and saves time. This setup is especially relevant if there are competition law related restrictions to information sharing. Having a clean team near target location can be an effective tactic in international acquisitions. However, if the deal is not closed, this information is lost and may not be available if the deal is pursued at a later time.

• Social and professional connections: Knowing the leadership team in the target company, socially or professionally, may offer an information advantage when travel and professional gatherings are disrupted. However, personal connections and preference can compromise impartiality.

I would also like to add one more improvement opportunity to professor Angwin's list, from practical experience.

Thorough and professional ICT due diligence

When gaps in due diligence are revealed later during implementation, the area where we often face disproportionate gaps is ICT. It seems ICT due diligence is often done relatively lightly.

A common real-life gap in due diligence is that the target may seem to have well-functioning core ICT solutions, and the initial due diligence recommendation is to keep and maintain the current solutions, avoiding the cost of a major ICT project. However, the current solution may only work effectively on the scale of a small independent company in one country, but not interface well as part of an international corporation - and this is only found out when the deal is closed. The only way to achieve the planned synergies may be to push through an emergency core solution change at a fast pace and high cost.

Another gap can be created by an outdated custom solution that is used to run the target’s core processes. The solution may seem to run reasonably well at the moment, but if it’s very different to anything available on the current market, replacing it in a few years’ time will be a costly exercise that impacts both core processes, data and systems. Identifying this kind of major ICT transformation programs just below the horizon is the key in effective ICT due diligence.

Moreover, significant deal synergies are usually enabled by ICT, while most of the implementation costs are related to it. ICT implementation also often drives the schedule of the whole implementation. Therefore, ICT implementation is critical on the path to benefit realization, and now more than ever, ICT deserves serious attention and proper expert contribution during due diligence.

Technology will also have an increasing role to play in due diligence itself. Virtual site visits and factory tours will become more common when physical access is restricted (if you are very lucky, you might get to fly a drone and call it due diligence). Collaborative integration management tools as well as virtual communication and training solutions help overcome physical distance, although some learning curve can be expected. We believe virtual and digital tools in due diligence are worth the investment and will continue to add value in future.