In the current economic climate reeling from the effects of COVID-19, not all is doom and gloom. Where there is a crisis, there is an opportunity. Many companies will fold, many companies are looking for suitable buyers, and those with plenty in their coffers are more than willing to examine possible companies to buy over.
If you are looking to buy a business, we have prepared a convenient checklist of matters which should be looked at for you to arrive at the right decision on whether or not to buy the said business. Although the due diligence process is usually undertaken by professional lawyers and accountants, it is useful to keep this checklist in mind.
We shall also discuss legal due diligence in detail for you to gain a better understanding of what your lawyers can do for you when you are planning to take over or buy a business.
Even if you are a business owner looking to sell it off as soon as possible, this article would be useful for you to keep in mind so that you know exactly what potential buyers of your business would be looking out for.
The topics covered in this article are as follows:
- The Process of Buying a Business in Singapore
- What is Due Diligence?
- What is Due Diligence Used For?
- Due Diligence Checklist
- What is Legal Due Diligence?
- Why is Legal Due Diligence Important?
- The Legal Due Diligence Process
- What is Normally Covered in Legal Due Diligence?
The Process of Buying a Business in Singapore
The general outline of the process of buying a business in Singapore is as follows:
- Entering into a Non-Disclosure or Confidentiality Agreement
- Entering into a Memorandum of Understanding or Term Sheet to set out the key terms of the transaction
- Due Diligence is carried out
- Entering into a Sales and Purchase Agreement
- Completion of the transaction
Please take note that the timing of the due diligence may differ from transaction to transaction. Some companies prefer doing most of the due diligence only when terms of the investment or buyout have been agreed (but before completing the transaction by signing off on the Sales and Purchase Agreement).
What is Due Diligence?
Due diligence may be loosely defined as an investigative process to allow the potential buyer of a business an opportunity to obtain as much information as possible about the business. With such information, he can weigh the risks and benefits of buying over the business, assess the appropriate price for the transaction, and decide what else needs to be done in terms of documentation, regulation, internal restructuring and finances for the deal to be completed.
Practically, due diligence means the examination and scrutiny of important business documents to ensure that vital legal, financial and business documents exist and that the contents and provisions of these documents are favourable to the buyer and do not disclose any deal-breakers.
Although due diligence comes in many forms, it normally concerns itself with legal due diligence, business due diligence, and financial due diligence.
In this article, we shall present a comprehensive general checklist for due diligence in brief, for your ease of use or reference. Then, we shall discuss legal due diligence in further detail.
What is Due Diligence Used For?
Although the focus of this article is the purchase of a company (acquisition), do take note that due diligence is also used in mergers of companies and businesses, and the following:
- General risk management
- Major bank financing
- Preparing an audited financial statement or annual report
- A public or private financing transaction
- A joint venture
- An initial public offering (IPO)
Due Diligence Checklist
Please note that this checklist is just a sample of the most common issues and things you need to look at if you’re buying (or looking to sell) a company in Singapore. We hope it will prove to be of use to you in your business.
I. Financial Information
A. Annual and quarterly financial information for the past three years
- Income statements, balance sheets, cash flows, and footnotes
- Planned versus actual results
- Management financial reports
- Breakdown of sales and gross profits by:
- Product/Service Type
- Accounts receivable aging schedule
B. Financial Projections
- Quarterly financial projections for the next three fiscal years
- Revenue by product type, customers, and channel
- Full income statements, balance sheets, cash
- Major growth drivers and prospects
- Predictability of business
- Risks attendant to foreign operations, if any (e.g., exchange rate fluctuation, government instability)
- Industry and company pricing policies
- Economic assumptions underlying projections
- Explanation of projected capital expenditures, depreciation, and working capital arrangements
C. Capital Structure
- Current shares outstanding
- List of all stockholders with shareholdings, options, warrants, or notes
- Schedule of all options, warrants, rights, and any other potentially dilutive securities with exercise
- prices and vesting provisions.
- Summary of all debt instruments/bank lines with key terms and conditions
- Off-balance sheet liabilities
D. Other financial information
- Summary of applicable tax positions
- General accounting policies
- Schedule of financing history for equity, warrants, and debt
A. Each product or service
- Major customers and applications
- Historical and projected growth rates
- Market share
- Speed and nature of technological change
- New products/services, product enhancements
- Cost structure and profitability
III. Customer Information
A. List of top customers for past fiscal years and current year-to-date by application
B. List of strategic relationships
C. Revenue by customer
D. Brief description of any significant relationships severed within the last two years.
E. List of top suppliers for the past fiscal years and current year-to-date
A. Description of the competitive landscape within each market segment including:
- Market position and related strengths and weaknesses
- Basis of competition (e.g., price, service, technology, distribution)
V. Marketing, Sales, and Distribution
A. Strategy and implementation
- Discussion of domestic and international distribution channels
- Positioning of the Company and its products/services
- Marketing opportunities/marketing risks
- Description of marketing programs and examples of recent marketing/product/public
- relations/media information on the Company
B. Major Customers
- Status and trends of relationships
- Prospects for future growth and development
- Pipeline analysis
C. Principal avenues for generating new business
D. Sales force productivity model
- Quotas, incentives, targets
- Sales Cycle
- Plan for New Hires
E. Ability to implement marketing plan with current and projected budgets
VI. Research and Development
A. Description of R&D organization
- Key Personnel
- 3 Major Activities
B. New Product Pipeline
- Status and Timing
- Cost of Development
- Critical Technology Necessary for Implementation
VII. Management and Personnel
A. Organization Chart
B. Historical and projected headcount by function and location
C. Summary biographies of senior management
D. Compensation arrangements
E. Discussion of incentive stock plans
F. Significant employee relations problems, past or present
G. Personnel Turnover
VIII. Legal and Related Matters (This will be discussed in detail below)
B. Intellectual Property
D. Regulatory Matters
E. Insurance Coverage
F. Corporate Documents
G. Business Agreements
H. Share Issuance
IX. Other Matters
A. Information Technology (IT)
C. Outsourced/Independent Professionals
D. Environmental Issues
E. Real Estate
Let us now discuss legal due diligence in more detail.
What is Legal Due Diligence?
A legal due diligence investigation is the process of seeking information about the business to make sure that the purchase is beneficial. The investigation seeks to reveal all important facts and potential liabilities. Once the facts are collected and analyzed, an informed decision can be made.
Why is Legal Due Diligence Important?
Legal due diligence is important because it allows the potential buyer of the company to make an informed business decisions on whether or not to buy the company based on the unbiased and professional views of a lawyer.
Legal due diligence allows the potential buyer of the business to:
- Understand the new business,
- Place a monetary value on the new business,
- Gather information to use in negotiations with the seller,
- Gather information to be included in the Sales and Purchase Agreement,
- Identify deal-breakers and major problems which may make the transaction a bad idea, and
- Rely on professional and unbiased advice.
Legal Due Diligence Process
A legal due diligence investigation takes place in three stages.
- Preparation – setting goals and priorities against time and cost pressures.
- Investigation – collection of facts and documents, conducting of interviews
- Results – your lawyer will present his findings and summaries as a formal legal opinion. This may be written and/or verbal.
What is Normally Covered in Legal Due Diligence?
The seller usually furnishes the buyer of the company with a list of current and pending litigation mounted by and against the company. These include criminal proceedings, tax proceedings, civil suits, civil claims and liabilities, potential litigation in the future, etc. In most cases, the buyer also undertakes additional investigation to assess the litigation history of the company. The assessment of litigation matters plays an important and direct role in assisting the buyer to gauge whether he is entering into a good deal or not.
Intellectual property comes in several forms, namely, copyrights, trademarks, trade secrets and patents. Such property offers strategic benefits to the company, especially when intellectual property is protected by official filing and registration with the relevant authorities. The buyer needs to ensure that such protection is sufficiently robust to ensure the long-term success of the company. If the company is using others’ intellectual property, the buyer would want to confirm that licences to use the intellectual property are in place and lucrative enough. If the company is using certain law firms or patent firms for its intellectual property needs, the buyer would also want to vet them for their efficacy.
The buyer would normally scrutinise all existing staff employment agreements, confidentiality agreements/NDAs and trade restraint agreements to ensure that these agreements are watertight and drafted in the best interests of the company. After all, these staff will become the staff of the new owners very soon. Special attention will normally be paid to the agreements in respect of senior staff of the company, especially whether they are in breach of any confidentiality or restraint of trade agreements with their previous employers or are violating any intellectual property rights of their previous employers. The buyer would also look into the loans taken from or given to employees and directors.
Insurance coverage is an important part of any business in the modern age. The buyer of a company should examine all insurance policies and assess them for the sufficiency of their respective coverage. These could include policies relating to general liability, workmen’s compensation, professional liability, personal and property insurance, directors and officers insurance, product/service liability, litigation liability, vehicles, buildings and intellectual property.
The buyer must ensure that all documents relating to the company’s incorporation exist and are in place. In addition, there should be an examination of the company’s Memorandum and Articles of Association, previous minutes of meetings, board resolutions and key decisions.
The buyer needs to ensure that all contracts entered into by the company are reasonable, advantageous to the company and disclose manageable risks and duties. This would mean a close examination of agreements and contracts with dealers, vendors, suppliers, banks, joint venture partners, IT partners, IP partners, clients and distributors. This exercise would also help the buyer ascertain when renewals of such agreements or contracts should be negotiated in the future.
The buyer needs to know without a doubt exactly what rights have been bestowed upon previous investors. Such rights may prevent the shareholders and/or the board from undertaking certain actions or from entering into certain transactions. If there were such rights, the buyer needs to ensure that such rights are waived, cancelled, subsumed or recognised in the Sales and Purchase Agreement.
We hope that this article has been useful, and that it has given you a better idea of what to look out for when buying over a business (or even if you want to know what potential buyers may look at).
At the end of the day, most major business decisions are best undertaken with the assistance and advice of trained professionals. Here at IRB Law, we have experienced and skilled corporate lawyers who are able to advise you on your business needs. Do give us a call today to discuss how we may work together to our mutual benefit.