Increasing value of legal due diligence in a transaction
Legal due diligence is a thorough exercise of reviewing legal aspects of a company or assets due to proposed transaction relate to that company or asset. During M&A transaction for examle, legal consideration is as important as technical and financial consideration to the sucess of your transaction. So, the readers of the LDD report will expect to have a final and full understanding of the following aspects:
- Full assestment of legal risk, along with its consequence and proposed action. The risk will should relate the assets, establisment, compliance, contracts, potential default under contracts, financing agreement, employment etc
- Quantified value of legal finding. It is not always easy to quantify legal risks. But in the boardroom, the decision makers are looking for how much is the value of a legal risk. For example, during LDD, you find that the target company has a facility agreement with a local bank. One of the positive covenants in the financing agreement is that the company must maintain the EV/EBITDA ratio below 12. From the felows who do financial audit, you understand that the current EV/EBITDA ratio of the company is 15. Given that fact, you will raise an issue that the company is technically in default under the financing agreement, and as its consequence, the bank is entitled to asking the company to decrease the ratio to 12 or asking for immidiate prepayment. Both consequences can be quantitatively measured: for consequence A, the owners or investor must inject fresh cash as equity in XX amount to achived the targeted ratio. For consequence B, prepayment will costs additional USD[YY] to the acquisition costs. So by doing this, the commercial persons will be able to calculate in a more accurate way as to how much is the total acquisition costs of the transaction.
- What should be the conditions of transaction. You have to show in the LDD report what are the legal aspect that must be done before closing, at closing or after closing. For example, you do a LDD for a mining company, and during the LDD exercise it comes out that the company is not listed as a clean and clear IUP company, and bacause of this issue, the export permit is not issued. By identifying this, you can conclude that the value of the company will be compromised if the CnC is not cleared up, and therefore you put CnC listing as one condition to closing.