Due diligence is an investigation or examination of a
business or person prior to signing a contract, or an act with a certain
standard of care. The investigation or examination could be carried out for a
potential objective for merger, acquisition, privatization, or similar
corporate finance transaction normally by a buyer.
It can be a legal obligation, but the term will more
commonly apply to voluntary investigations. A common example of due diligence
in various industries is the process through which a potential acquirer
evaluates a company which he has targeted or its assets for an acquisition. The
theory behind due diligence holds that performing this type of investigation
contributes significantly to informed decision making by enhancing the amount
and quality of information available to decision makers and by ensuring that
this information is systematically used to deliberate in a reflexive manner on
the decision at hand and all its costs, benefits, and risks.
Due diligence takes different forms depending on its
purpose:
·
This can include self-due diligence or “reverse
due diligence”, i.e. an assessment of a company, usually by a third party on
behalf of the company, prior to taking the company to market.
·
A reasonable investigation focusing on material
future matters.
·
An examination being achieved by asking certain
key questions, including, how do we buy, how do we structure an acquisition,
and how much do we pay?
·
An investigation of current practices of process
and policies.
The due diligence process (framework) can be divided into
nine distinct areas.
Compatibility audit – which deals with the strategic
components of the transaction and which links/consolidates other audit areas
together via a formal valuation to test whether shareholder value will be added.
Financial audit – where due diligence is required to
validate financial statements. The goal of the process is to ensure that all
stakeholders associated with a financial endeavor have the information they
need to assess risk accurately.
Macro-environment audit- major external and
uncontrollable factors that influence an organization’s decision making and
affect its performance and strategies.
Legal/environmental audit – evaluations intended to
identify environmental compliance and management system implementation gaps,
along with related corrective actions
Marketing audit – is a fundamental part of the
marketing planning process. It is conducted at various points during the
implementation of the plan. The marketing audit considers both internal and
external influences on marketing planning, as well as a review of the plan
itself.
Production audit – Verify the production records such
as production slips / memos to ensure that the records are properly maintained.
Also verify the logbooks of machinery to check the details of production.
Management audit. – is a systematic examination of
decisions and actions of the management to analyze the performance. Management
audit involves the review of managerial aspects like organizational objective,
policies, procedures, structure, control and system in order to check the
efficiency or performance of the management over the activities of the Company
Information systems audit – is an examination of the
management controls within an Information technology (IT) infrastructure. The
evaluation of obtained evidence determines if the information systems are
safeguarding assets, maintaining data integrity, and operating effectively to
achieve the organization’s goals or objectives. These reviews may be performed
in conjunction with a financial statement audit, internal audit, or other form
of attestation engagement.
Reconciliation audit – relates to audit of various
types of reconciliations which includes mainly bank reconciliation. In addition,
audit of other reconciliations like debtors and creditors reconciliations are
also performed in conjunction with a financial statement audit, internal audit,
etc.
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