1. just don’t work out. However, a subsequent search of local newspapers revealed
allegations of conspiracy and political campaign fraud. Further research revealed
that the seemingly innocuous, successful attorney had been charged with 18
counts of fraud, among them allegations of money laundering and making false
statements to federal investigators. Ultimately, these charges had resulted in
several criminal convictions and a jail sentence.
After additional investigation turned up more negative information, the local
business declined to pursue a corporate relationship. Their small investment in
due diligence services saved them a large amount of damage to their reputation.
Buy and Sell with Confidence
Even though corporate mergers are common, it’s surprising how frequently one or
both merging parties don’t share all the facts. This all-too-real risk is why due
diligence investigations are so important to merger and acquisition efforts.
“I cannot imagine a serious merger negotiation without due diligence,” says
Edward Dupke, principal and practice director for business valuation, litigation
support and merger and acquisition services for The Rehmann Group. “It is just
an integral part of the whole concept. Someone once said, ‘Trust everybody, but
cut the cards.’ Due diligence is the work you do in cutting the cards to make sure
your side is getting a fair shake.”
There are two sides to a due diligence investigation on any potential merging
partner. The financial side looks at the numbers as presented, the processes that
create those numbers (internal controls) and any unrecorded liabilities. The non-
financial side focuses on background information on both the principals of the
company and the company itself. Specific examples include investigations of any
criminal, civil or federal charges the principals might have, bankruptcy records of
the principals and the firm, property and tax holdings of the firm, other business
connections the principals might have and searches of local newspapers to
determine the firm’s and the principals’ standing within their local community.
Due diligence is not just for buyers. Sellers need to ensure that potential
purchasers have the financial resources to make the agreed-upon payments. Due
16 THE REHMANN GROUP
C A S E S T U D Y
Why Due Diligence
Investigations Are Crucial
to Mergers and Acquisitions
The Unethical Attorney
A local business became interested in establishing
corporate relations with a successful attorney
who managed a healthcare system and several
companies in addition to his practicing law.
Although managers at the business had no
reason to suspect the attorney of any crimes,
they believed an investigation of the attorney’s
background would be a wise final step before
committing themselves to a business relationship.
They contacted Kerby, Bailey and Associates,
a subsidiary of The Rehmann Group, to conduct
a due diligence investigation on the attorney’s
business history.
Background investigators discovered that
the attorney had several canceled and revoked
business licenses. Not an ideal past, but not
unusual either — sometimes start-up businesses
By Ryan Richards

2. diligence services can also help sellers get the most money for their
businesses. “A buyer might look to pay a certain price based on the
documented history of the business,” Dupke says. “The seller has
often gone through blood, sweat and tears to improve the business
over and above what the history indicates, so we do calculations to
show [a more accurate] value.”
Due diligence investigations on merging companies happen
between the time a non-binding letter of intent is signed and the time
both parties formalize the merger with a binding purchase agreement,
usually about six months. The investigation often proceeds while both
sides are working on the purchase agreement.
In general, due diligence is covered by one or more paragraphs in
the letter of intent, and its specific provisions are usually explained in
the purchase agreement. In these cases, companies have to consent to
the due diligence process and agree to provide access. “Sometimes a
[merging] firm has reasons for keeping the due diligence process
hidden from the other firm, but usually it’s a formal process and both
parties are aware it’s going on,” says Thomas Murphy, manager of
background investigations for Kerby, Bailey and Associates.
There are good reasons to keep everyone aware of the due diligence
process, explains Heidi Bolger, managing principal at the Saginaw
office of The Rehmann Group. “In some cases you will need the
seller’s assistance and/or authorization to adequately complete the
process,” she says. “For example, executives need to provide a written
authorization for background checks.” Being “up front” about the
process, however, does not necessarily mean detailing all the steps
involved, since that could prove counterproductive.
The Risks are Real
The due diligence process is not designed to be threatening for either
party. Negative information found during an investigation is very
often shared with the firm in question to give them an opportunity to
explain what happened. “They may have been sued by another firm,
for example,” Murphy says, “but maybe the other firm was just overly
litigious. This gives them a chance to say, ‘No, there was no basis to
that.’” A bad finding in a due diligence investigation, he says, doesn’t
necessarily mean the merger won’t take place.
On the other hand, sometimes due diligence results can change the
entire outcome of a merger. Dupke recalled a merger effort where he
was asked to do a due diligence investigation on a potential acquisi-
tion. His investigations revealed that the customer was in financial
trouble and in serious risk of going bankrupt. “As a result of our due
diligence work, management not only did not buy the customer, they
put them on COD.” The company collected half a million dollars
more than they would have before the customer ultimately filed for
bankruptcy.
In light of such risks, the value of due diligence services cannot
be overstated. “The cost of a due diligence investigation varies, but
generally it’s about $1,000 per subject,” Murphy says. “That’s pennies
on the dollar compared to the risks you run without it.”
Bolger sees due diligence as an essential part of every merger.
“It’s a very unhappy event to be surprised after the fact and very
expensive to undo a deal,” she says. “Although due diligence can
seem expensive on the front end, it can really impact the negotiation
process and price paid. It’s just good business and well worth the
investment to use professionals who know what to look for and get
the right answers.”
BW D Fall/Winter 2004 17
The due diligence process
is not designed to be
threatening for either party.
Negative information
found during an investigation
is very often shared with
the firm in question to give
them an opportunity to
explain what happened.
For more information about involving due diligence services in the sale
or purchase of a business, contact Thomas Murphy at 989.790.0450 or
Edward Dupke at 616.975.4100. Or, visit our website at www.rehmann.com.