In this brief guide, we take the reader through the steps involved in a typical due diligence audit, providing you with an overview of the process, outlining where value is added for your company by undertaking each activity.
What is a due diligence audit?
A due diligence audit is an internally conducted audit of a company that seeks to ensure that the company is ready for sale. It seeks to preempt the questions and issues that arise during a typical due diligence process, and ensure that the selling company is ready for whatever comes it way during due diligence.
Why is due diligence audit important?
A transaction backed up by a due diligence audit has a better chance of being successful.
If something is amiss during the transaction, the due diligence audit will likely bring everything back to light.
It enhances the quality of the information and will therefore allow you to make a good decision.
With that in mind, a due diligence audit has a different importance level, based on the perspective.
- Buyer Perspective: A due diligence audit will benefit the buyer in the sense that they will believe they made the correct transaction. They won’t feel like they were scammed when they sealed the deal, and they will have the assurance that making this purchase will come at a lower risk.
- Seller’s Perspective: A due diligence audit is important for the seller, as it will increase the buyer’s trust in them. While it may come at an extra cost at first, this due diligence audit will make it easier to seal the deal without any delays.
In the end, due diligence is an important part of making a transaction, no matter whose side you are on.
Typical steps involved in a due diligence audit
The due diligence audit mimics a buyer’s due diligence process, asking challenging questions of every layer of the company’s activities.
Thus, your due diligence audit should include:
- Financial due diligence (see checklist here)
- Legal due diligence (see checklist here)
- Operational due diligence (see checklist here)
- HR due diligence (see checklist here)
- Tax due diligence (see checklist here)
DealRoom has developed a template for each, which although designed for the buy-side, can just as easily be used for a due diligence audit.
Where a due diligence audit adds value
The explicit purpose of a due diligence audit is to prepare a company for questions that the buyer will ask during due diligence.
But there’s another, more implicit, purpose to the process: adding value for your company, regardless or whether you find a suitable buyer.
A due diligence audit can be thought of as a detailed form of internal audit for your company.
Areas where value is added include:
Area of due diligence / value added
- Identify costs which have grown faster than revenues;
- Identify seasonal or long-term trends in income;
- Make comparisons with industry peers;
- Use assembled information to budget more carefully;
- Identify and remove unnecessary costs;
- Identify potential legal problems coming down track;
- Ensure compliance and licences are up-to-date;
- Ensure company is meeting all legal obligations;
- Check status of ongoing legal issues (if applicable);
- Identify gaps that may expose the company to legal procedures.
- Identify outdated or underperforming equipment, machinery, and technology;
- Ensure that productivity is on a positive trajectory;
- Identify operational bottlenecks;
- Identify weaknesses in current operational procedures and/or those of stakeholders such as suppliers;
- Check validity of existing operational KPIs and identify which need to be addressed.
- Identify skills gaps in your company’s human capital;
- Ensure turnover is being maintained to healthy levels;
- Ensure employee incentives are still aligned with your company’s current strategy;
- Identify high performance employees that are in danger of leaving the company, and address the issue;
- Identify and deal with underperforming/soon-to-be-retired employees;
- Ensure that all tax obligations are up-to-date;
- Ensure that the companies’ obligations to its employees are all up-to-date.
- Identify tax rebates that may not yet have been claimed by the company;
In a table format:
Challenges involved in conducting a due diligence audit
The two biggest challenges involved in conducting a due diligence audit are:
- What questions should be asked?
- Being honest with yourself about the questions and what they reveal.
A good strategy is to put together a due diligence audit team - much like an internal audit team - that brings a range of perspectives to proceedings.
That is, it’s better if your HR manager isn’t the only one asking questions about HR, and your operations manager isn’t alone in probing your company’s operations.
Beyond this, the challenges involved in conducting the audit are, in many ways, opportunities.
As the section above noted, finding gaps in your company and how it operates can generate significant value if addressed properly.
Thus, you shouldn’t be afraid to find gaps, weaknesses, and even irregularities - counter-intuitively, this is key to unlocking value within your company.
DealRoom and due diligence audits
DealRoom has developed a platform that is designed especially for the due diligence process, whatever angle that you happen to be approaching a deal from (buyer, seller, or intermediary).
This differentiates us from most of the more generalist virtual data rooms on the market, and provides due diligence participants with tools that most other VDRs overlook.
Talk to us today about how we can enhance your company’s due diligence audit.