The due diligence involves checking the counterparty for good faith. At the same time, the economic entity is analyzed from various sides, including legal and financial. In this article, we will analyze the basic types of due diligence.
Due diligence – a comprehensive assessment of counterparties
In the current pre-crisis conditions for the functioning of a business, risk management issues come to the fore: first of all, forecasting the most significant risks and building a system to minimize potential damage in the event of adverse consequences. This applies to all areas of the company’s life, but the correct organization of risk management acquires particular relevance in working with counterparties.
When deciding on the possibility of cooperation with one or another counterparty, the company must form the most complete picture of a potential business partner. Moreover, it is recommended not only to obtain information about what the counterparty is at the moment but also what is the business reputation of the company, its founders, and managers.
Thus, before agreeing with a new counterparty, it is advisable to check it for reliability with the help of due diligence (DD). When using DD, the customer receives information about the expected risks in the financial, tax, legal or other areas. Here, any source of information is taken into account, regardless of its origin. When conducting due diligence, various specialists are invited to work: auditors, lawyers, appraisers, experts. All of them separately study the collected information, and then it is generalized to issue the final forecast. The main task of DD is a comprehensive assessment of the commercial attractiveness and legality of the proposed transaction or investment project, and due diligence also gives an idea of the possible risks.
The types of due diligence procedure
There are the following types of DD:
- Operational DD. An operational analysis describes the history of a company with comments on target markets and segments, products, services, customers, suppliers, competitors, and the overall business system. Among the main areas of the procedure are such as the historical development of the company, organizational structure, management, purchases, sales, personnel.
- Financial DD. This is a financial analysis that confirms the company’s ability to generate income. It is advisable to carry it out simultaneously with the audit, during which the reliability of reporting, the correctness of accounting, and the compliance of all documentation with regulations are checked.
- Tax DD. This type of analysis involves assessing the possibility of tax optimization of commercial activities. The transactions concluded by the company are analyzed taking into account tax risks and the possibility of violating legal requirements.
- Legal DD. Legal expertise determines the compliance of the company’s activities with the current standards in the field of labor, civil, corporate law. Consideration of constituent documents, certificates, licenses, property titles, patents, trademarks, verification of the execution of concluded agreements is carried out.
- Market DD. Analysis of the position on the market includes consideration of the possibilities and prospects for industrial development, comparison with market needs, assessment of the company’s activities and the main players in the market, determination of the ability to exist, and further advancement.
- Environmental DD. This is a test of the company’s impact on the natural environment. At present, due to the increased activity of international strategic investors, this type of analysis has become especially relevant.
- Technical DD. This type of analysis involves an assessment of the fundamentals of the technological process. It includes the study and examination of the technical base, applied production technologies, analysis of the rules for operating equipment, and the technological potential of the enterprise.