Due diligence is a critical process for any business considering a merger, acquisition, private equity investment, or capital raise. It involves assessing a target company to identify potential risks and opportunities before any further action is taken. By conducting a comprehensive analysis of a company’s operational, commercial, technical, and ESG (environmental, social, and governance) components, stakeholders can reap the rewards of better investment decisions and more effective post-transaction integration strategies.
While the benefits of financial due diligence for sellers are well known, this article will instead uncover the broader advantages of conducting operational, commercial, technical, and ESG due diligence for all stakeholders.
The benefits of commercial due diligence
Commercial due diligence focuses on assessing a target company’s market position, competitive landscape, and growth potential. It involves a detailed analysis of the targets’ market size, growth potential, customer base, sales and marketing processes and product/service lines.
This type of due diligence provides buyers with a comprehensive understanding of the target company’s commercial viability and long-term potential. It can also help leadership and management teams identify potential market risks, competitive threats, and opportunities for growth. But critically, commercial due diligence inherently encourages acquirers to consider the long-term growth potential of a venture and evaluate the target company’s strategic fit with the buyer’s overall business objectives. This provides insights into potential synergies, efficiency gains and integration challenges that may arise post-acquisition. By identifying these factors early, buyers can make more informed investment decisions and develop actionable strategies to maximize value creation post-deal.
For sellers, a well-prepared due diligence process can expedite the sales process and elevate valuations. Sellers who perform rigorous sell-side due diligence are 30% more likely to negotiate valuations aligned with their initial expectations. By clearly presenting a well-substantiated valuation – supported by accurate financials, market data, and growth forecasts – sellers can set and defend pricing expectations. This increases the likelihood of reaching a better deal more quickly. In fact over 50% of buyers are more inclined to provide favourable valuation or terms when the seller has already completed a thorough internal due diligence assessment. Sell-side due diligence can also help sellers to identify potential red flags or issues (such as financial discrepancies) within their business that can be resolved prior to market. Ultimately, this shortens the negotiation period and facilitate a smoother transaction.
The benefits of operational due diligence
Although rarely given the same level of attention as financial due diligence, operational due diligence has arguably a greater impact on deal success. Incredibly, more than 60% of failed mergers and acquisitions can be attributed to insufficient integration planning and operational due diligence.
Operational due diligence involves a deep dive into a target company’s systems, structure, and processes to evaluate their efficiency and effectiveness, as well as its alignment with the buyer’s goals. It typically includes an assessment the organisational structure, human resources, management capabilities, operational processes, strategy, risk management, and compliance
Operational due diligence provides buyers with a comprehensive understanding of the target company’s operations, processes and leadership dynamics enabling them to assess the venture’s potential risks and rewards before committing capital. Armed with this understanding, buyers can proceed with confidence and a greater negotiating leverage. If the due diligence red flag report uncovers significant issues, buyers can reevaluate the transaction, negotiate new terms, or decide to withdraw from the deal entirely.
Identifying potential operational risks and hazards early also helps senior executives and management buyers to mitigate future problems and develop effective post-acquisition strategies. This is critically important as research has shown that acquirers who rigorously assess the scalability of a target’s business model and processes during due diligence are 35% more likely to meet revenue growth targets post-deal.
Similarly, at the employee level, operational due diligence can help ensure a smooth transition for workers post merger or acquisition. This is significant as deals that include culture and people-focused operational reviews see up to 30% lower workforce attrition and higher post-merger productivity. By identifying potential issues such as the compatibility of company cultures, work practices, and renumeration packages and addressing them proactively, business leaders can minimise disruptions and uncertainty for employees. This can be crucial to future success, as 47% of key employees typically leave within the first year of a merger or acquisition if cultural and operational compatibility is not adequately addressed.
The benefits of technical due diligence
Technical due diligence involves a comprehensive assessment of a company’s technology, machinery, infrastructure, and technical capabilities. The increasing complexity and prominence of food and agtech has made technical due diligence more critical than ever. Investors need to ensure that the target’s technology is reliable, scalable, and serviceable. Technical due diligence helps achieve this goal, providing an insight into how acquired technologies can hinder or accelerate the execution of the business plan and how they align with the strategic objectives and operational goals of the acquiring business.
Technical due diligence typically includes an evaluation of the following areas: technical infrastructure, software and systems, intellectual property, and scalability and performance. In addition to providing a comprehensive valuation of the company’s technological and mechanical assets, it provides several benefits to stakeholders, including identifying risks and inefficiencies and ensuring a smooth integration process. This is particularly important when we consider that, on average, 40% of the value created from mergers is dependent on machinery, systems, and IT.
Furthermore, technical due diligence helps acquirers proactively address challenges related to outdated equipment, insufficient system integration, or limited scalability. By uncovering potential obstacles, buyers can develop targeted strategies to modernise operations, streamline workflows, and optimise technological investments. This is key as almost 60% of executives indicate that unaddressed mechanical or technological risks discovered after closing a deal led to lower-than-projected returns or delayed synergies.
The benefits of ESG due diligence
ESG performance is increasingly recognised as a key driver of long-term value creation, with almost 80% of investors considering effective ESG management crucial when evaluating investment opportunities.
ESG due diligence includes evaluating a business’ compliance with environmental and labour regulations, assessing potential environmental liabilities, social controversies, and governance issues. By doing this, ESG due diligence helps leadership and management teams understand the target company’s relationships with key stakeholders such as employees, suppliers, local communities, customers, and regulatory bodies.
Moreover, ESG due diligence provides insights into the company’s ability to manage and mitigate these risks. This is particularly important considering that on average 45 % of investors have encountered a significant deal implication as a result of a material ESG due diligence finding.
ESG due diligence can also prove beneficial for sellers as more than 50% of investors are willing to pay a premium of between 1-10% for assets with a demonstrably high ESG maturity. This premium reflects the growing recognition that companies with strong ESG practices are better positioned to manage risks, and ensure long-term financial performance.
Risk mitigation in due diligence
While each type of due diligence has its own focus, thorough due diligence creates value and confidence for all parties involved; buyers, sellers, management, employees, and even the broader community. For buyers, due diligence shines a light on both short- and long-term risks and opportunities, guiding more informed investment decisions. Sellers benefit by proactively identifying and resolving red flags and leveraging valuations to expedite negotiations and command higher valuations. Management teams gain insights into operational efficiencies, cultural alignment, technical readiness and ESG performance which ultimately benefits employees, regulators and local communities.
At Farrelly Mitchell, we provide tailored investment services that go beyond the figures. Our services include technical, commercial, operational, and ESG due diligence, as well risk analysis & management and feasibility and financial modelling. Our due diligence experts provide independent, unbiased red flag reports with clear go/no-go recommendations, while our ESG team can help clients tackle environmental challenges, and embrace sustainable practices. To find out more about the benefits of due diligence, contact us today.
