What is Due Diligence?

Learn about Due Diligence with Batman
YouTube video
Dark Knight

Case breakdown: Movie Dark Knight

The scene that you saw shows Coleman Reese, an employee at Wayne Enterprises having a discussion with Lucius Fox. Reese has been assigned to conduct due diligence on the LSI Holdings deal. Reese finds financial irregularities due to the Applied Sciences division’s sudden disappearance. He looks into corporate archives and suspects financial foul play.

He finally discovers that Bruce Wayne is Batman himself. He makes an offer to Lucius demanding the US $ 10 million every year to maintain his silence. Lucius reminds him of Bruce Wayne’s considerable wealth and influence, as well as his fighting prowess as Batman.

This blog, Learning Perspectives, explores the meaning of Due Diligence.

What is Due Diligence?

Due diligence refers to an investigation that is undertaken for a product or a service. In an organization, such investigation is conducted by reviewing financial records, past trends, and source material. Due diligence is generally conducted during a potential investment.

Simply stated, due diligence is being aware and cautious before making an investment. This is similar to when a customer purchases a product or a service. A customer checks the durability of the product, the effectiveness of the service through reviews, and the expiration date of the product. These are normal investigations and checks that all customers conduct. Similarly, due diligence is conducted to check the risks associated with any investment or stock, or company.

Due diligence is also conducted during mergers and acquisitions. Due diligence checks how the other company is non-compliant on various grounds.

Mergers and Acquisitions Check-List:

1. Involvement of the Owner in the business:

The owner runs the business and is one of the driving forces for business. Understanding his/her drive and involvement makes a difference in the company’s future. This is an essential part to undertake while doing due diligence on the business.

2. Customer Concentration:

The company’s top line is the revenue or sales generated. Check if the company’s revenue generation is spread over many customers or just through one or two big clients. One or two big clients can be a red flag. This is because if the client decides to take its business to a competitor, then the company’s revenue will be hit.

3. Financial Scrutiny:

The last 3 year’s Income tax returns are checked along with the last three years’ balance sheet, P&L’s and cash flows. Checking for the stability of the company is important. Deeply understanding the financials helps to gauge the health of the company.

4. Industry & Competitors:

Understanding the industry and the competitors is crucial. Every company is partially defined by its competitors. One can understand how big is the market by analyzing the competitors. Also, analyzing whether the industry is contracting or growing is an important consideration.

Due diligence is used in financial arena, mergers & acquisitions, human resources and in regulatory compliance. After an investment, merger, or acquisition, forensic accountants perform compliance reviews to verify whether all parties are honoring the terms of their agreements and abiding by regulations.These forensic professionals take a holistic approach while conducting due diligence.

References:

https://www.toptal.com/finance/due-diligence-consultants/forensic-accounting

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