Due diligence is a process of verification, investigation, or audit of a potential deal or investment opportunity to confirm all relevant facts and financial information and to verify anything else that was brought up during a mergers and acquisitions deal or investment process. Due diligence should be completed before a deal closes to provide the buyer with an assurance of what they are getting.
Transactions that undergo a due diligence process offer higher chances of success. Due diligence contributes to making informed decisions by enhancing the quality of information available to decision-makers.
There are several reasons why due diligence is conducted:
- To confirm and verify information that was brought up during the deal or investment process
- To identify potential defects in the deal or investment opportunity and thus avoid a bad business transaction
- To obtain information that would be useful in valuing the deal
- To make sure that the deal or investment opportunity complies with the investment or deal criteria
Due diligence is an essential activity in mergers and acquisitions transactions. In the mergers and acquisitions process, due diligence allows the buyer to confirm pertinent information about the seller such as contracts, finances, and customers. This helps them determine whether to proceed with the purchase. The process also helps to gain a strong understanding of the business model; how the company conducts business, works with and services customers; vendor relationships; the talent of employees; and most importantly, how your business competes against other businesses in that industry.
In short, it is an evaluation process used by an interested investor to better understand the selling business and the risks in potentially becoming an owner of that business and to see if the information stated in a document referred to as a confidential information memorandum checks out.