In this article, Arunava Chakraborty pursuing Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata, discusses Due diligence in India – what every entrepreneur needs to know.
Due diligence refers to the procedure of research and investigation that is done before an acquirement, speculation, business association or bank advance in order to decide the value of the subject matter of the due perseverance or whether there are any significant issues or potential issues. The imminent acquirer/financier should get all the vital data within the predetermined time and ensure that he makes a decent arrangement and not a costly mistake.
Due Diligence has to turn out to be a complicated and complex procedure requiring very special skills on which the majority delicate business decisions are founded. As discussed above due diligence involves a complete investigation into associations and strength of a company. The jurisprudence is strongly related with the concept of Notice. A notice can be definite, productive or imputed.
Section – 3 of the Transfer of Property Act provides that “a person is said to have notice” of a fact when they actually know that fact, or when, but for willful abstention from an inquiry or search they ought to have made, or gross disregard, they would have known it.
Thus the act casts a duty to find whether the fact presented is true or not and it presumes that every prudent man before making speculation in any form of property will find whether an understandable identify to such property exists, or whether any debt or litigation is attached to it or whether it is in any form going to prove not to be a wise decision.
Now in the case of big companies and multinational corporations when one company buys or sell any company or its assets the whole canvass is very big; a lot of people, a lot of documents, lot of money is involved and it is here that need for due diligence arises.
Due Diligence is now finding deserved place in Indian Statutes. Some provisions have been introduced for the manner of due diligence under the SEBI Regulations 1996 and offshore offerings of securities by Indian companies through American or global depository receipts (ADRs/GDRs).
Due Diligence is an obligation to take care. Many Indian statutes dealing with economic matters like S. 24 SCRA, 1956, s.53 MRTP, 1969, S.27 SEBI 1992, S.278B IT Act, 1961 contain a section on offenses committed by companies.
The above section has the following proviso:
“Provided that nothing contained in this sub-section shall render any such person liable to punishment if he proves that the contravention took place without his knowledge or that he exercised all due diligence to prevent such contravention.”
It implies a specific standard of care. In the Indian context, there is neither a positive statutory duty on the part of the buyer to exercise due diligence nor a criminal liability for a breakdown to exercise due diligence.
Significance of due diligence
It is the procedure of obtaining adequate reliable information about the business body to help to expose any fact, conditions or set of situation that would have a practical possibility of influencing a business decision or the valuable making of an offer, of a consideration and of a price to complete the transaction.
Due Diligence influence decisions such as-
- Whether to make an investment, whether to choose one business partner or another,
- What revelation should be included in an propose document for issue of securities whether scheduled on a stock exchange or else, whether to lend finance to a borrower for a project,
- Whether a party to an agreement is competent of performing its contractual obligations.
Reasons for conducting due diligence
When trading with an Indian company
- Verification that the business is what it appears to be
- Identify potential “deal destroyer” defects in the target and avoid a bad business transaction
- Track records in paying bills, credit-worthiness and supplier worthiness
When partnering with an Indian company
- Same as above, but also including:
- Examination of legal scope for compatibility purposes
- Gain information that will be useful for valuing assets, defining representations and warranties, and/or negotiating price concessions
- Verification that the transaction complies with investment or acquisition criteria.
Procedures regarding due diligence
There are two ways of conducting due diligence
- Presentation of predetermined data by the seller/target company in a ‘data room’.
- Data provided in response to the acquirer’s questionnaire.
Challenges in conducting due diligence
Due diligence does have hurdles like
- Insufficiency of basic data; this makes going tough
- Road-blocks to obtaining or sharing proprietary information; and
- Confidentiality/secrecy covenants may prevent disclosure of material documents.
Benefits of professional due diligence
The benefits of a professional due diligence exercise include:
- Accuracy of warranties and representations;
- A ‘big picture’ of the vision of the target company and its future earnings;
- Complete analysis of the target company;
- Identification of deal-breaking issues and formulating business solutions to resolve them; and
- Smooth transition of the merger.
How to get the best result from due diligence exercise
To ensure best results there are certain steps that should be taken into consideration:
- Clearly, define the objective make firm and clear strategies;
- Form groups of personnel for project management, data management, core due diligence team and support team;
- Lay down the terms of reference for each group and formulate procedures for a clear allocation of responsibilities;
- Observe an integrated approach for the due diligence process and rely on technical consultants’ expertise wherever necessary;
- Use appropriate technology for the collection, analysis, indexing and retrieval of data;
- Store the data in electronic form which makes it portable, capable of being transferred to and accessed from remote locations, and providing a single point access to the entire transaction team;
- Never hesitate to ask questions or seek clarifications;
- Always insist on plant visits – the on-site conditions contain a wealth of information which would be never be available on paper;
- Due diligence should be continued until after the transaction is completed; and
- Take media reports in stride, do not value them too much nor ignore them.
In today’s perplexing business and monetary environment that has seen a few organizations, including probably the most trusted names in the business, bargain on uprightness and getting webbed with the net for fudged accounts, with the purpose to redirect cash and avoid even the best examination, it is progressively imperative for entrepreneurs to demand an intensive due diligence before making the last move.
It is basic for a purchaser or speculator to think about the monetary or legitimate soundness of the organization they are wanting to purchase or put resources into. Due diligence is a crucial apparatus, in light of which financial specialists/purchasers gauge the adequacy of corporate administration and decide on merger or securing, in the wake of approving whether the suppositions and affirmations made by the organization are valid and reasonable.
This basic stride is the thing that empowers the entrepreneurs (purchasers or speculators) go out on taking the leap of faith. It is through due diligence that they can check for any obscure issues, which ought to have been conveyed to their notice before and assess the development prospects of the organization. These essential information sources choose whether the venture or procurement will be beneficial or not. In a few cases, where issues are revealed amid the due tirelessness handle, organizations are advised to put them just before any further moves are made by the speculators.
For Investors Due Diligence to be a cakewalk, the business visionaries need self-control in keeping up the records of the venture, for example, everyday operations archives and points of interest. It is constantly great to part the obligations among the Co-authors for recordkeeping and convenient surveys. This not just helps the business person to keep the due diligence result constructive, but also, in addition, guarantees that they have day by day information on their fingertips.
To entirety up, the main 10 need errands each entrepreneur ought to religiously take after, regardless of the phase and subject of the venture, keeping in mind the end goal to guarantee finish consistence for Investors Due Diligence, are as follows –
1) Do Indexing of all the marked archives and authority records
2) Keep the records at one safe place
3) Label your records with shading codes and time stamping
4) Do standard and successive executive gatherings
5) Review all the pre-chosen agenda one by one and check if the reports are set up properly at one place.
6) Entrepreneurs ought to know the financials and record them
7) Interact with your Legal Advisor/CA or the monetary expert on general interims
8) As early stage Entrepreneurs, you would not be flawless in procedures, but rather be straightforward in your information and stay honest in your data, being transparent.
9) Never ever conceal or fudge your information from your financial specialist, since you believe it’s not worth sharing.
10) Last however not the slightest; never be ‘Impractical’ or ‘Penny Wise Pound Foolish.’