Due Diligence report - WIRC reports.pdf · Assisting through the transaction process Assisting with...

Due Diligence report

November 2011

Assisting through the transaction process

� Assisting with carve-outs, information memoranda, data rooms

� Vendor due diligence

� Supporting the negotiation and completion phases of the

� Assessing the key issues facing the business and the

� Pre deal evaluation - initial assessment without access to the relevant business

� Bid support on public transactions

PRE DEAL EVALUATION PRE DEAL EVALUATION PRE DEAL EVALUATION PRE DEAL EVALUATION AND BID SERVICES AND BID SERVICES AND BID SERVICES AND BID SERVICES

TRANSACTION EVALUATION TRANSACTION EVALUATION TRANSACTION EVALUATION TRANSACTION EVALUATION

VENDOR ASSISTANCE VENDOR ASSISTANCE VENDOR ASSISTANCE VENDOR ASSISTANCE

CONTRACT ASSISTANCECONTRACT ASSISTANCECONTRACT ASSISTANCECONTRACT ASSISTANCE

Transaction Transaction Transaction Transaction IdentificationIdentificationIdentificationIdentification EvaluationEvaluationEvaluationEvaluation ProjectProjectProjectProject

ExecutionExecutionExecutionExecutionIntegration/ Integration/ Integration/ Integration/ SeparationSeparationSeparationSeparation

ValueValueValueValueRealisationRealisationRealisationRealisation

Vendor assistance

Transaction evaluation

Pre deal evaluation andbid services

1KPMG India Private Ltd. - © 2006 KPMG India Private Ltd, the sub-licensee of KPMG MESA Ltd. a Cayman Islands, Guarantee Company. All rights reserved.

and completion phases of the deal, advising on:− scope of warranties and

indemnities− price adjustment

mechanisms− contract drafting

facing the business and the drivers behind maintainable profits and cash flows by:− commercial analysis of

relationships and operations

− market studies� An investigative analysis of a

business, typically including:– balance sheet, results,

projections– tax– cash flows– commercial issues– management information– systems and controls– pensions, compensation,

benefits– legal issues– environmental matters

� Assisting with the creation of efficient deal structures and optimising the tax, accounting, commercial and legal position

STRUCTURING ADVICESTRUCTURING ADVICESTRUCTURING ADVICESTRUCTURING ADVICE

� Identifying and assessing synergies and separation issues

INTEGRATION/SEPARATIONINTEGRATION/SEPARATIONINTEGRATION/SEPARATIONINTEGRATION/SEPARATION

Contract assistance

Vendor assistance

Transaction structuring

Integration/Separation

BUSINESS / TRANSACTION ISSUE BUSINESS / TRANSACTION ISSUE BUSINESS / TRANSACTION ISSUE BUSINESS / TRANSACTION ISSUE

COMMENTS ON BUSINESS / TRANSACTION ISSUE COMMENTS ON BUSINESS / TRANSACTION ISSUE COMMENTS ON BUSINESS / TRANSACTION ISSUE COMMENTS ON BUSINESS / TRANSACTION ISSUE APPROACHAPPROACHAPPROACHAPPROACH

� Revenues, billing rates and margins Revenues, billing rates and margins Revenues, billing rates and margins Revenues, billing rates and margins � There could be pressure on the billing rates either due to competition or specific domain characteristic

and these rates could be on a declining trend. Accordingly, future margins could be under pressure

due to declining billing rates.

� Complex customer contracts with onerous clauses may have an impact on revenue recognition and future

obligations of the Target.

� Employee costs could be rising which would reduce future margins. Also, inefficient use of leased line

connectivity and bandwidth would increase communication costs and would reduce margins.

� Analyze the quality of earnings of the Target and highlight and comment

on key underlying historical trends in primary drivers such as billings rates,

utilization levels, mar\gins.

� Read significant onerous clauses in customer contracts and analyze

revenue recognition.

� Analyze trends in employee costs and telecommunication costs and assess

future implications.

In assessing existing value it is advisable to be able to assess Business Issues


� Quality of customers Quality of customers Quality of customers Quality of customers � What is the customer profile – are there any indirect customers. What is the % of indirect business

revenues as % of total revenues.

� There could be risk of customer concentration with a significant revenues being derived from a small

customer base. Hence, loss of key customers can adversely impact revenues and profitability of the

Target.

� Which employees manage the key customer relationships and how is the quality of the customer

relationships ? Are there any customer litigations, outstanding disputes and complaints?

� \Who are the “value deflators” ie customers with low margins?

� Analyze historical trends of revenues by the key customers, with focus on

repeat business from customers, trends in billing rates, significant accounts

won and lost in the past.

� Obtain sales pipeline and evaluate committed revenues.

� Analyze % of indirect customer revenues as % to total revenues.

� Meet with key customers and understand the quality of relationships, future

revenue potential and any concerns on target’s service delivery model.

� Identify the key employees and senior management who manage the key

customer relationships and design and implement compensation packages

that will retain these employees. Execute non compete agreements with

employees not retained post acquisition.

In assessing value we compare the total cost of your investment with potential value creation opportunitiesIn assessing value we compare the total cost of your investment with potential value creation opportunitiesIn assessing value we compare the total cost of your investment with potential value creation opportunitiesIn assessing value we compare the total cost of your investment with potential value creation opportunities

CONSIDERATIONCONSIDERATIONCONSIDERATIONCONSIDERATION VALUE CREATIONVALUE CREATIONVALUE CREATIONVALUE CREATIONversusversusversusversus

Can value be conservedCan value be conservedCan value be conservedCan value be conserved

or created?or created?or created?or created?

Does the Does the Does the Does the

value support value support value support value support

the price?the price?the price?the price?

What are the risks?What are the risks?What are the risks?What are the risks?

Identification Identification Identification Identification –––– understanding the transaction understanding the transaction understanding the transaction understanding the transaction

The approach to assessing value


Destroy

shareholder

value

Val

ue $

mVal

ue $

mVal

ue $

mVal

ue $

m

Create

shareholder

value

Target

risk

SynergiesSynergiesSynergiesSynergies

New strategiesNew strategiesNew strategiesNew strategies

Sta

ndSta

ndSta

ndSta

nd-- --al

one

alon

eal

one

alon

e

valu

e

va

lue

va

lue

va

lue

Sta

ndSta

ndSta

ndSta

nd-- --al

one

alon

eal

one

alon

e

valu

e va

lue

valu

e va

lue

Dea

l co

sts

Dea

l co

sts

Dea

l co

sts

Dea

l co

sts

Tota

l co

st o

f To

tal

cost

of

Tota

l co

st o

f To

tal

cost

of

tran

sact

ion

tran

sact

ion

tran

sact

ion

tran

sact

ion

Integration

risk

Reporting to reflect overall approach

� Refine our understanding of key risks and opportunities

� Challenge the target’s assumptions

� Challenge and test our client’s overlays (eg.

synergies) � Quantify impact of issues in isolation and in

3. INTERPRETATION3. INTERPRETATION3. INTERPRETATION3. INTERPRETATION

2. EVALUATION2. EVALUATION2. EVALUATION2. EVALUATION� Understand transaction rationale and critical success

factors

� Understand the target business – identify key value

drivers

� Quantify the key value drivers and risks

� Scope the assignment (with you)

1. IDENTIFICATION1. IDENTIFICATION1. IDENTIFICATION1. IDENTIFICATION

Overview Overview Overview Overview –––– a “typical” acquisitiona “typical” acquisitiona “typical” acquisitiona “typical” acquisition


synergies)

� Consider implementation risk

� Start to identify key sensitivities

� Quantify impact of issues in isolation and in

combination

� Establish whether base case is pessimistic, realistic or

optimistic

� Prioritise issues in terms of impact on value

4. REPORTING4. REPORTING4. REPORTING4. REPORTING

Note: the above assumes an acquisition

Our fieldwork conclusions are drawn together by focusing on the issues critical : deal breakers, valuation issues, contract iOur fieldwork conclusions are drawn together by focusing on the issues critical : deal breakers, valuation issues, contract iOur fieldwork conclusions are drawn together by focusing on the issues critical : deal breakers, valuation issues, contract iOur fieldwork conclusions are drawn together by focusing on the issues critical : deal breakers, valuation issues, contract issussussussues and integration issueses and integration issueses and integration issueses and integration issues

Phase Issue identification, for example: Evaluation

Cost base and

margins

Market size and

geography

Environmental and

regulatory

Breadth of

offeringDeal structuring Staffing levels Brand perception

KEY FINDINGS AND ADVICE:KEY FINDINGS AND ADVICE:KEY FINDINGS AND ADVICE:KEY FINDINGS AND ADVICE:

INITIAL VALUE Deal Deal Deal Deal

Our transaction approach Our transaction approach Our transaction approach Our transaction approach ---- focusing on the issues criticalfocusing on the issues criticalfocusing on the issues criticalfocusing on the issues critical

Timing of Conclusions


INITIAL VALUE

ASSESSMENT

PRELIMINARY

INVESTIGATION

DETAILED INVESTIGATION

Integration Integration Integration Integration

issuesissuesissuesissues

Contract Contract Contract Contract

termstermstermsterms

Valuation Valuation Valuation Valuation

issuesissuesissuesissues

Deal Deal Deal Deal

breakersbreakersbreakersbreakers

SuccessfulSuccessfulSuccessfulSuccessful transactiontransactiontransactiontransaction

Oral reporting

A written report is not the only report

IssuesIssuesIssuesIssues

Concerns/ RisksConcerns/ RisksConcerns/ RisksConcerns/ Risks

Key assumptionsKey assumptionsKey assumptionsKey assumptions

Key value driversKey value driversKey value driversKey value drivers

Focus on what’s

important

KPMG

Scope

Client’s key Client’s key Client’s key Client’s key

questionsquestionsquestionsquestions(Specific & Generic)(Specific & Generic)(Specific & Generic)(Specific & Generic)

Info requestDatabooks

(Grill the numbers/

working papers)

OUTPUTSOUTPUTSOUTPUTSOUTPUTS

StrategyStrategyStrategyStrategy

PrePrePrePre----deal evaluationdeal evaluationdeal evaluationdeal evaluation



Business advice & Business advice & Business advice & Business advice &

Oral reportingOral reportingOral reportingOral reporting

Written Written Written Written

reportsreportsreportsreports

DatabooksDatabooksDatabooksDatabooks


Trusted Adviser behaviourTrusted Adviser behaviourTrusted Adviser behaviourTrusted Adviser behaviour

NegotiationNegotiationNegotiationNegotiation

Assistance/ SPAAssistance/ SPAAssistance/ SPAAssistance/ SPA

Post Deal Support Completion accounts

Vital elements in a report

DUE DILIGENCE REPORTDUE DILIGENCE REPORTDUE DILIGENCE REPORTDUE DILIGENCE REPORT


STORYSTORYSTORYSTORY

BOARDINGBOARDINGBOARDINGBOARDING

BUSINESS BUSINESS BUSINESS BUSINESS

ISSUES FRAMEWORKISSUES FRAMEWORKISSUES FRAMEWORKISSUES FRAMEWORKVALUE DRIVER ANALYSISVALUE DRIVER ANALYSISVALUE DRIVER ANALYSISVALUE DRIVER ANALYSIS HYPOTHESIS TESTINGHYPOTHESIS TESTINGHYPOTHESIS TESTINGHYPOTHESIS TESTING

Oral reporting

Oral Reporting – use the continuous reporting approach

Issues BoardIssues BoardIssues BoardIssues Board

Risk barometerRisk barometerRisk barometerRisk barometer IssueIssueIssueIssue ImplicationImplicationImplicationImplication ResponseResponseResponseResponse ActionActionActionAction StatusStatusStatusStatus

HHHH • Impact of economic

downturn

• Industry outlook shows

deteriorating volumes over

medium term

• Margin Erosion, Lower

Volumes will negatively

impact target’s overall

profitability

• Margin and volume

analysis to be undertaken

• Commercial Due

Diligence (CDD) Team,

Client‘s Valuation Team

HHHH • Defined benefit pension • How do we assign • Perform Pension Due • Pension Team


scheme, liabilities doubled

in last year due to

deterioration of financial

markets.

valuation to this liability? Diligence

HHHH • Foreign currency risks due

to high fluctuations in

strength of sterling

(exposure resulting from

foreign sales)

• The forecast results will

be impacted by recent

foreign exchange

movement

• Consider impact on the

model

• CDD Team, Client‘s

Valuation Team

Oral reporting

Who gives oral advice?

Who gives the advice?Who gives the advice?Who gives the advice?Who gives the advice?

� Proportional to complexity and risk

− Partner

− Associate Director

� Reporting facts

− Manager and Assistant Manager

− Subject to approval from team leader

Risk managementRisk managementRisk managementRisk management

� Same evidence required as report

� Don’t go beyond scope of our report/Engagement letter

� Keep copy of presentation and minutes

� Caveats at front of presentation and in handouts

� Clearly source all information


− Subject to approval from team leader

� What can we say?

− Same as report

− Must be supported with databook/working papers

� Records must be kept of key oral meetings

Report planning

Know your reader

Different readers of a report have different requirements:Different readers of a report have different requirements:Different readers of a report have different requirements:Different readers of a report have different requirements:

Acquisition due diligenceAcquisition due diligenceAcquisition due diligenceAcquisition due diligence

� May be possible to produce a shorter report focussing on key hypothesis

rather than a detailed report

� More likely to be asked to report on specific areas e.g. value creation

Vendor due diligenceVendor due diligenceVendor due diligenceVendor due diligence

� May not know the type of buyer and therefore needs to appeal to all

� May generally be more detailed covering all aspects of the business

� Need to show more detailed financial data:

− tables more effective than charts


Corporate clientCorporate clientCorporate clientCorporate client

� Already has a good understanding and hence more issues-focussed

� Will often require information on integration, synergy issues

� Will often be interested in internal control procedures

� Emphasis on monthly cash flows, sustainable EBITDA, capex

requirements and net debt

� Reports are required for bank lending approval

� Scope of report must focus on assumptions underlying the indicative offer

letter

� Requirement to consider “base case” and “upside” planning scenarios

Private equity clientPrivate equity clientPrivate equity clientPrivate equity client

Report planning

A written report is not our only deliverable

IssuesIssuesIssuesIssues

Concerns/ RisksConcerns/ RisksConcerns/ RisksConcerns/ Risks

Key assumptionsKey assumptionsKey assumptionsKey assumptions


Focus on what’s

importantScope

Client’s key Client’s key Client’s key Client’s key

questionsquestionsquestionsquestions(Specific & Generic)(Specific & Generic)(Specific & Generic)(Specific & Generic)

Info requestDatabooks

(Grill the numbers/

working papers)


StrategyStrategyStrategyStrategy

PrePrePrePre----deal evaluationdeal evaluationdeal evaluationdeal evaluation



Business advice & Business advice & Business advice & Business advice &

Oral reportingOral reportingOral reportingOral reporting

Written Written Written Written

reportsreportsreportsreports

DatabooksDatabooksDatabooksDatabooks


Trusted Adviser behaviourTrusted Adviser behaviourTrusted Adviser behaviourTrusted Adviser behaviour

NegotiationNegotiationNegotiationNegotiation

Assistance/ SPAAssistance/ SPAAssistance/ SPAAssistance/ SPA

Post Deal Support Completion accounts

Reporting risk management

Risk management - What one can and cannot say?

No definitive list exists of “good” or “bad” No definitive list exists of “good” or “bad” No definitive list exists of “good” or “bad” No definitive list exists of “good” or “bad”

existsexistsexistsexistsRisk framework and principles applyRisk framework and principles applyRisk framework and principles applyRisk framework and principles apply

Key areas of riskKey areas of riskKey areas of riskKey areas of risk

� Business advice

� Underlying performance

� Projections

� Commentary on accounting estimates

� Avoid assurance type opinions

� Give clients options, don’t provide instructions

� Explain basis of conclusions and provide

supporting evidence


� Commentary on accounting estimatessupporting evidence

Everything we do!Everything we do!Everything we do!Everything we do!

� Recognise the risk and manage it

Report planning

What do clients want? Or not want?

What clients want:What clients want:What clients want:What clients want:

1.1.1.1. Recommendations and business adviceRecommendations and business adviceRecommendations and business adviceRecommendations and business advice

2.2.2.2. Well supported conclusionsWell supported conclusionsWell supported conclusionsWell supported conclusions

3.3.3.3. Issues and findings linked to SPA and valuationIssues and findings linked to SPA and valuationIssues and findings linked to SPA and valuationIssues and findings linked to SPA and valuation

4.4.4.4. Balanced views: both positive and negativeBalanced views: both positive and negativeBalanced views: both positive and negativeBalanced views: both positive and negative

5.5.5.5. Areas of comfort Areas of comfort Areas of comfort Areas of comfort –––– if there is something positive to say then say it!if there is something positive to say then say it!if there is something positive to say then say it!if there is something positive to say then say it!


What clients don’t wantWhat clients don’t wantWhat clients don’t wantWhat clients don’t want

1.1.1.1. Hanging issues Hanging issues Hanging issues Hanging issues –––– no quantificationsno quantificationsno quantificationsno quantifications

2.2.2.2. More work to doMore work to doMore work to doMore work to do

3.3.3.3. SurprisesSurprisesSurprisesSurprises

4.4.4.4. Issues which are not issuesIssues which are not issuesIssues which are not issuesIssues which are not issues

Abizer DiwanjiAbizer DiwanjiAbizer DiwanjiAbizer Diwanji

PartnerPartnerPartnerPartner

KPMG India Private Limited ,

Lodha Excelus, 3rd floor,

Apollo Mills Compound,

N.M. Joshi Marg,

Mahalakshmi,

Mumbai 400011.

Thank you and questions


© 2011 KPMG India Private Limited, an Indian private limited company and a member firm of the KPMG network of independent mem© 2011 KPMG India Private Limited, an Indian private limited company and a member firm of the KPMG network of independent mem© 2011 KPMG India Private Limited, an Indian private limited company and a member firm of the KPMG network of independent mem© 2011 KPMG India Private Limited, an Indian private limited company and a member firm of the KPMG network of independent memberberberber firms affiliated with KPMG International firms affiliated with KPMG International firms affiliated with KPMG International firms affiliated with KPMG International

Cooperative ("KPMG International"), a Swiss entity. Cooperative ("KPMG International"), a Swiss entity. Cooperative ("KPMG International"), a Swiss entity. Cooperative ("KPMG International"), a Swiss entity.

The KPMG name, logo and "cutting through complexity" are registered trademarks or trademarks of KPMG International CooperativThe KPMG name, logo and "cutting through complexity" are registered trademarks or trademarks of KPMG International CooperativThe KPMG name, logo and "cutting through complexity" are registered trademarks or trademarks of KPMG International CooperativThe KPMG name, logo and "cutting through complexity" are registered trademarks or trademarks of KPMG International Cooperative (e (e (e ("KPMG International")."KPMG International")."KPMG International")."KPMG International").

Mumbai 400011.

India.

Tel: +91 22 3090 2380 (Direct)

Mobile: +91 98923 33370

Fax: +91 22 3090 2166

E-mail: [email protected].

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