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Due Diligence

Due Diligence

Due diligence is the process by which confidential legal and financial information is exchanged, reviewed and appraised by the parties to a merger or substantial asset transfer. The essence of the due diligence process is an effort to make everyone on the negotiations committee, and by extension everyone on each board, as aware as a prudent board member can be of any liabilities the other party may bring to the transaction. The desire is to create a "no surprises" situation so that when, say, six months after the merger or asset transfer's effective date, a balloon payment on a loan must be met, no one can claim that the matter was hidden.

Often attorneys or consultants undertake the due diligence process on behalf of, and report their findings to, the merger negotiations committee. We recommend that the committee undertake the process itself, relying on outside experts only as necessary. In this way the negotiators become intimately familiar with the other party's operation. They can then provide more focussed questions for any consultants and/or attorneys that are retained to conduct further analysis, saving time and money.

A substantial list of documents should be exchanged early in the negotiations process, for review by each party. The list should include documents relating to the organizations' legal structure and incorporation; IRS records; insurance coverages; personnel policies and structure; finance and fund raising; contracts, licenses, agreements and affiliations; capital and real estate; marketing materials; program activities; and any current or potential legal liabilities. The exchanged documents can then either be reviewed by each organization's attorneys and consultants, or, more economically, by the negotiations committee itself. This process takes time. The document exchange should happen early in the process so that there is adequate time for the parties to digest the packages (often several inches thick) formulate their questions, and seek answers.

If the committee decides to undertake the due diligence process itself, a good way to proceed is by organizing the due diligence meetings into Financial, Legal, Regulatory and Personnel sections, and then inviting relevant outside experts (such as each organization's accountant) to provide information at the appropriate point. Each section could be scheduled for a separate meeting, or, in a simpler situation, they could be linked together in a day-long series.