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A good eye for detail

PROPER due diligence is proving vital for Australia’s listed companies and their directors, as is demonstrated by reports from the Royal Commission into the collapse of insurer HIH.

Directors need to be able to show, in the case of acquisitions or floats going horribly wrong, that they made an effort to ask the right questions.

As such it is usually the directors who order due diligence be done on acquisitions.

Indeed in the realm of IPOs due diligence, particularly on forecasts, is a legal requirement.

Due diligence is largely the domain of merchant banks and the accounting and legal profession. When an acquisition is in the multi-million dollar region, all three can be drawn into the due diligence committee, usually with the merchant bank playing the lead role.

Poynton Partners managing director Mark Barnaba said due diligence was the core product and lifeblood of corporate advisory firms such as his.

Due diligence confirms there are no black holes in the figures being supplied by the vendor and seeks to uncover the reliability of the financial data presented.

Due diligence can highlight negotiating issues that are of such significance that they can change the purchasing company’s view of the purchase. These are also known as deal breakers. Forecasts are put under the microscope.

It also can uncover any unforseen post-integration issues for the purchaser.

PricewaterhouseCoopers transaction services director Michael Quinlivan, a veteran of three multi-billion dollar deals, said due diligence processes aimed to find out whether the information being provided by the vendor was accurate.

He said some companies had rigid policies on due diligence.

“But you get other companies that proceed without any due diligence being done. You’d be amazed at some large companies that don’t do any due diligence,” Mr Quinlivan said.

Minter Ellison partner Laurie Shervington said due diligence was fast becoming a large part of commercial law practices.

“You need to apply pretty vigorous due diligence programs to make sure you’re getting what you’re buying,” he said.

“Due diligence is a living process.”

Mr Quinlivan said a failure to keep due diligence up to date could pose problems, as was the case with the Coles Myer takeover of the Australian Liquor Group.

“In that case the earnings of ALG came off while the transaction was being completed. That often happens when you have a protracted deal,” he said.

Mr Quinlivan has been involved with the due diligence on the CBH-Grainpool merger. That deal has been drawn out due to legislative requirements.

“That due diligence process will be updated,” he said.

Mr Shervington said due diligence committees should go into the process with an open mind and be prepared to give unpalatable advice if need be.

He said some managers were a bit resistant to due diligence committees.

“They find these committees can be a bit intrusive into the running of the business. However, at the end of the day a due diligence committee can be beneficial to the company,” Mr Shervington said.

“It can form a bit of a third party audit. I’ve had some companies say they’ve used the findings from due diligence to improve the running of their business.”

Mr Barnaba said due diligence could also help prove up a business case for an acquisition.

“Large venture capital firms in Australia will employ firms such as ours to do corporate due diligence for them. That process often involves investigating whether it is a good investment for them,” he said.

“One of the questions we often have to ask for them is on acquiring it what business plan should be in place.

“We often do due diligence for ourselves as well. Our reputation is very important to us so when we have a deal walk through our door we have to do due diligence on it to make sure we pick a winner.”

Of course, the results from due diligence work are rarely seen by shareholders. They may see an occasional independent expert’s report, but that is about it.

Institutional adviser Corporate Governance International partner Ian Thompson said shareholders often had to take the word of directors that due diligence had been done.

“And if the shareholders don’t believe the directors then they are really saying they shouldn’t have that role,” he said.

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