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Abridgement on Legal Due Diligence

A legal due diligence is scrutiny of all, or specific parts, of the legal affairs to the target company depending on the purpose of legal due diligence which may be merger, acquisition or any major investment decision, with a view of uncovering any legal risks and provide the buyer with the extensive insight into the company's legal matter.

Legal due diligence is an art of managing a risk of undertaking a major business transaction. The documents that is to be checked during legal due diligence may be financial information, statutory information, organization matters, employee matters etc. The process of legal due diligence involves various steps such as entering of MOUs, preparation of questionnaires and checklists, interview with target company's personal, interaction with regulatory authorities, preparation and discussion of preliminary report, finalization of report and arriving of decision. The legal due diligence covers various laws such as Companies Act, Income Tax Act, other business laws etc.

Objective and Scope of Legal Due Diligence

Some of the common objectives in most of the cases would be as follow:
  1. Gathering of information from the target company.
  2. Uncovering of the risks of Target Company through SWOT analysis.
  3. Improving the bargaining position.
  4. Cost benefits analysis.
  5. Effect of risk and liability on the cost of the transaction.
  6. Mapping of compliance requirement of the target company and the actual status.
The Scope of due diligence depends on the purpose and objectives of due diligence and may vary from case to case. However, certain mandatory issues that should be covered in any type of legal due diligence are as follow:
  1. Regulatory Compliance:
    Compliance requirements of the company.
  2. Contractual Compliance:
    Compliance by the company under various material contracts by the company with suppliers, customers, employers etc.
  3. Compliance under Intra Corporate aspects:
    Compliance of MOA, AOA, Corporate Policies, Procedures, Code of Conduct etc.
  4. Financial Aspects:
    The financial obligations of the company, penalties paid for violations of laws in the past etc.
  5. Non-Financial Aspects:
    Reputation and Goodwill of the company.
  6. Cultural Aspects:
    Epically in case of cross border transactions, compatibility and adaptability of corporate cultures are to be analyzed to eliminate the problems that may arise out of cultural difference.

Legal Due Diligence Process

There is no definite process of a legal due diligence. The investigation aspects as well as Legal Due Diligence process varies depending upon the scope of work dictated by the client, the focus, special areas of weakness, the types of business etc.

In General, The Following Process Involved In Legal Due Diligence:
  1. Entering of Memorandum of Understanding between the transacting parties along with confidentiality agreement.
  2. Determination of scope of Legal Due Diligence
  3. Calculation of time frame
  4. Drafting of various questionnaire and checklist
  5. Obtaining of access to records and data room arrangement
  6. Interaction with regulatory authorities for independent check
  7. Checking of regulatory and contractual compliance.
  8. Analysis of financial and non financial information
  9. Investigation of material issues
  10. Drafting of preliminary report
  11. Discussions with the management of the target company
  12. Finalization of the report
  13. Determination of Strategy
General Documents/Aspects to be covered
The following aspects would give a rough figure on the aspects/documents to be looked into the process of legal due diligence. However, this is not an exhaustive list.
  1. Organizational and internal Aspects
  2. Financial Aspects
  3. IPR/Patent/R&D Details
  4. HR Aspects
  5. Environmental Aspects
  6. Material Contracts
  7. Other aspects- (i) Copies of any governmental licenses, permits, or consent, (ii) Any correspondence or documents relating to any proceeding of any regulatory agency, (iii) A list of all existing products or services and products or services under development, (iv) Company's purchase policy/credit policy/, (v) Details of largest customers, (vi) Details of company's competitors and (vii) Press release relating to the company.

Possible Hurdles In Carrying Out A Due Diligence:
  1. Non availability of information: On many occasions, when a person carries out due diligence, the required information may not be available or sufficient to drive a complete picture.
  2. Unwillingness of Target Company's personal in providing the complete information: Non-co-operation of Target companies personal may also prove to be a major hurdle during the due diligence process. Sometimes, the available information would be pretended as not available.
  3. Providing of incorrect information: Providing of incorrect information by the target personnel also acts as a major hurdle in the due diligence process.
  4. Complex tax policies and hidden liability: Complex tax policies and structure may create a number of hidden tax liabilities, which may not be easy to track,
  5. Multiple Regulations and their applicability: Owing to the new and emerging legislations, it is difficult to interpret whether specific legislation is applicable for business and get a legal opinion on the same.
  6. Absence of proper MIS: Due Diligence process would become difficult if there is no proper MIS in the company.

Remedial Actions:
  1. Follow up questions/actions.
  2. Ask several people the same question.
  3. Polite persistence
  4. Independent check with regulatory authorities
  5. Developing an MIS.

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