Due diligence is essential during times of financial crisis

In the current climate, many mergers and acquisitions are being pushed through increasingly quickly, leaving firms vulnerable to nasty surprises if they fail to perform sufficient due diligence.

It seems large takeovers are being carried out quicker than ever, as investors hastily snap up victims of the recession. In 2008, deals worth $2 billion or more were undertaken in an average of just 80 days, compared to an average of 142 days the year before.

However, more haste means more risk for investors, with several firms being caught out recently by cutting corners on their due diligence procedure in order to hurry-through a deal.

Lloyds TSB recently had to reveal a worse-than-expected loss of $10 billion following its purchase of banking rival HBOS. It later admitted to carrying out "three-to-five" times less diligence on the firm than it normally would.

Experts claim due diligence procedures are being sacrificed in exchange for a 'seize the day' attitude, as buyers consider the potential strategic value of a buyout. However, this may prove unwise as, during these testing times, it may be more important than ever to ensure a firm has a healthy balance sheet before taking the plunge. Exceptions exist in these situations when the speed of the deal is imperative to secure a price below market value i.e. in an administrative receivership situation (see article left), where there simply is not time to.

Hostile bids, which are mainly undertaken simply with the guidance of information publicly available on the company, are particularly risky. It is relatively easy for purchasers to overpay for a business if they are unable to carry out full checks on its financial health before the deal is done.

This is a problem that is affecting the entire mergers and acquisitions field, with smaller deals carrying similar risks if investors go into them blind.

When buying a small business, it pays to remember the old mantra, 'if a deal looks too good to be true, it probably is.' Businesses are often put up for sale because there is a problem with them and there are often several signs that this may be the case.

Buyers need to look for indications that the firm they are interested in has recently cut down on non-essential spending such as training, marketing and recruitment, as this is a sign the company may be financially unstable.

Purchasers should also carry out a careful valuation of a company they are considering buying and take out comprehensive insurance to protect themselves should they overpay on the basis of an unfounded premise.

Read more:
Due diligence in a recession
The due diligence process for business buyers
Due diligence: a business seller’s perspective
Due diligence tips

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