Businesses merge together or outright acquire one another on a regular basis. Two companies that have enjoyed a partnership for several years may decide to fully merge so they can share resources more easily, or a company might find a smaller business that is highly innovative and purchase them to bring their new products or production methods under their brand. Regardless of the reasons, mergers and acquisitions occur often.
While they may be routine, mergers and acquisitions (M&A) are still full of risk. If your company is preparing to merge or acquire another business, you need to do your due diligence into the other company. Once the M&A is complete, your brands and reputations will be intertwined, and that may pose a variety of risks.
As with any product, you need to know what you’re buying. Do you know if the other company has been vetted in the past? Has anyone conducted executive due diligence or were only cursory background checks reviewed? Have any of the executives been part of major civil litigation? If so, have the issues been resolved or do they remain open? Are there hidden or undisclosed matters that could create serious exposures now or in the near future? Do they have vendors or subcontractors in countries that have been sanctioned? You need to be able to answer all of these questions and more before you go through with the purchase or merger. Infortal is here to help you uncover the information you need to go into any M&A with the facts you need to weigh the risks, opportunities, and rewards.
Mergers and acquisitions is a broad term that covers most of the ways two or more businesses can join together. In addition to mergers and acquisitions, it may also cover consolidations, the purchase of another company’s assets, management acquisitions, stock tender offers, and even hostile takeovers. All of these are different types of transactions, and all carry potential risks and rewards, which is why you will need to conduct due diligence regardless of what type of M&A you’re executing. In addition to legal or financial due diligence it is important to conduct due diligence on the business entity being acquired as well as the key executives involved in that business. For the purpose of this blog, we will use mergers and acquisitions or M&A to indicate the full spectrum of transactions.
When merging or acquiring another company, you’re not simply taking on their name, their intellectual property, or their assets. You’re often taking on their executives and their reputation. Do you know what these executives have done in their past? There’s always a risk that one or more of the executives involved have a checkered past that has not been disclosed. They may have had criminal charges filed against them, or they may have been involved in bribery or corruption. If you’re merging or acquiring a company based out of or that does business in foreign countries, executives could be engaged in activities that are not criminal there but may be considered illegal in the U.S. They could also be working in countries the U.S. has imposed sanctions on.
Taking on executives with a criminal past is just one of the risks you face during an M&A. Let’s take a look at some of the other risks and how doing your due diligence can help mitigate some of these issues.
There are a number of different risks you assume when buying or merging with another business beyond taking on executives who may cause embarrassment, public scandal, or reputational harm to your business after the transaction completes.
You could irreparably damage your own brand’s reputation by acquiring a company that has a history of illegal activities, including fraud and bribery. Even if it’s just one executive with a criminal past, it’s going to reflect on you and show that you failed to do your due diligence. You may lose customers, investors, and other partners. It’s possible you could lose government contracts, and your company’s stock price could plummet. Some of your own executives may even resign rather than remain with a company that has a poor reputation. There are numerous examples of this every year.
When buying or merging with a company, you expect a significant return on any investment you’re putting into the deal. No company buys out another with the expectation of losing money. For example, if you plan to buy a company for $50 million dollars, you may have projections showing you can make $100 million back within a few years.
However, if you buy a company and later find that they’re embattled in lawsuits or government inquiries, you can end up spending much more. The company may end up being fined, have to settle lawsuits, and cover legal fees. This can all add up to $millions more, which means you’ve now spent millions more on the company than originally planned. The acquisition is no longer worth it, and it may be years before you actually start to see a return on your investment. Additionally, the new management team may waste considerable time on lawsuits and unexpected PR issues which may undercut financial results for the newly combined companies.
Have you taken a long, hard look at the company’s financials? While the company you’re merging with or acquiring may have disclosed some financial information, they may not have disclosed everything. They may try to hide significant losses or payments made to less than reputable vendors or business partners. Some executives may have spent millions of dollars in bribes over the years but were able to carefully cover their tracks.
Thorough legal and financial due diligence are essential in M&A transactions. For example, when Hewlett Packard purchased Autonomy in 2011, they thought they were given solid financial documents that covered everything. HP even believed that they had done their due diligence. However, later litigation revealed that all they had done was around six hours of conference calls. That’s why they failed to realize that Autonomy’s income statements were fraudulent. They had backdated purchases, lied about buyer commitments, and more.
Few businesses operate completely in a vacuum. The company you’re buying or merging with is likely to have hundreds, if not thousands, of contracts with various vendors and other companies, many based in other countries. You may be obligated to keep these vendors on for the remainder of their contracts. Some may even be necessary to continue operations, especially if they’re a vendor for a very niche industry. They may also have subsidiaries or other companies they have acquired.
The risk you take here is that these vendors and subsidiaries may not be operating legally or may not have disclosed everything. In 2012, for example, Caterpillar purchased ERA Mining Machinery Limited. In doing so, they also purchased Siwei, one of ERA’s subsidiaries. While ERA appeared solvent, Siwei was posting losses to the tune of $2 million. Despite the red flags, Caterpillar completed the acquisition. Later, they discovered that Siwei had lied on documents. In fact, a deeper investigation found that they had been lying on financial documents for years. Despite this, Caterpillar still claimed that they had done robust due diligence prior to the purchase.
You also have to look into a company’s investors and large stockholders. One positive example of M&A due diligence working comes from Mondelez International’s aborted attempt to purchase Hershey in 2016. While Hershey did reject Mondelez’s initial offer, there were some behind-the-scenes issues with Hershey’s controlling trust. Mondelez officers took those issues into consideration and decided that the company would not pursue the purchase further.
M&A due diligence can protect your business by addressing all of the risks above and more. Here are some of the ways Infortal can help protect your company.
Infortal’s M&A due diligence process involves conducting executive due diligence on the key leadership of the company you’re merging with or acquiring. Doing a typical background check may reveal about one percent of an executive’s background concerns. Basic due diligence might bring to light around five percent of serious issues. Our executive due diligence, however, provides much more information. We make use of open source intelligence to gather information going back decades, while a background check only looks at the last seven years.
Do you know if the company you’re about to buy has been sued? If it was a major lawsuit that made headlines, you probably do. But what about a key lawsuit in a different state that was settled out of court ten years ago? This may not have been disclosed, yet may indicate other concerns about the company and even how it’s executives treat business issues. Companies may only disclose civil litigation that occurred in one state or one country. You can’t make a fully-informed decision unless you know what other litigation the company has faced. Infortal will provide you with a more complete picture, including hidden or undisclosed information on past and ongoing civil litigation and investigations.
Bribery, corruption, and other illegal activities can occur in global supply chains, especially when companies operate in countries where such things are done without consequences. When a company purchases another, it can be easy to simply leave all their supply chain contracts in place. It’s also easy to assume that the company you’re buying has vetted all of their vendors. However, it’s very risky to assume that.
There’s always the risk that a sales manager in one of a company’s supply chain vendors could be taking bribes or that managers are doing something illegal with your products. Without doing your due diligence into these vendors, you run the risk of these illegal activities causing risk to you, damaging your reputation and potentially costing you millions of dollars.
Infortal can assist you with your mergers and acquisitions by doing deep dive due diligence into the executives and history of the business you’re joining with or buying. It’s vital that you have this type of information, so you know exactly what risks you’re assuming by completing the deal. You may still find that the rewards are worth it, but you’re going into the deal with your eyes open. To learn more about how we can help, reach out to Infortal today.