DUE DILIGENCE procedure

The Due Diligence procedure in case of the fund raising to investment projects is mandatory, since it is one of the tools of the parties’ risk mitigation and interest protection in the course of making investment transactions. Due Diligence is an exhaustive investigation and audit of a company and its position in the market. This procedure allows for identifying all legal, commercial, financial and production risks in business. Due Diligence is based on examination of the actual data obtained as a result of examination of the internal documents, the day-to-day and financial reporting data, the sectoral features and the legislative environment. Fro the originator it is an opportunity for identifying the risk zones and increasing the project attractiveness. For the investor – it is an opportunity for looking at a project of interest with distant eyes – the eyes of independent experts. This is quite complicated and laborious procedure which requires the attraction of independent experts from various areas, therefore, a kind of expensive.

Apart from the requirements to the level of professional execution and the depth of conduct of the Due Diligence procedure, the factor of independence and impartiality of the one who carries out such procedure is very important. It is very important that the reputation and reliability of a company leave no room to doubt in its competence and impartiality, and the Due Diligence findings obtained satisfies all parties and requires no re-conduct of the procedure. My office is the best choice for the conduct of the Due Diligence procedure, because:

• My partners and I, in fact, are a professional association of independent companies in multiple countries each of which has a great professional experience and business reputation;
• My partners and I are the professional investment market participants;
• My office professionally carries out its activity both on fund raising and the generation of the projects for investing and their subsequent support;
• I perform work on a plenty of diversified investment projects of the real economy in multiple countries;
• My work is finished with the successful investment project implementation (return on investment and calculated/estimated profit-making).

My office carries out the project Due Diligence by the following components:

Legal Due Diligence: To the extent of this part the legal basis of the company activities is examined, the core company business processes (both internal and external) are described from the point of view of the civil law relations, the clean title to a property is checked and the existing encumbrances are identified, the legal risks are analyzed and the ways of their mitigation are formulated. The legal risk analysis is traditionally the most significant and laborious component of the Due Diligence procedure and includes the following:

• Project originator’s corporate history verification:
  — full documentary recovery of the company history based on the constituent document analysis;
  — property structure effectiveness and cleanness analysis;
  — verification of the period and procedure of the charter capital payment;
  — verification of authority of those persons who make the decisions on making alterations to constituent documents;
  — verification of the periods of execution of the events related to the registration of alterations to constituent documents;
  — assessment of correctness and timeliness of the registration of branches, representation offices and separate subdivisions.
• Verification of the clean title to the transactions with shares:
  — examination of the documents evidencing of the transfer of titles to shares;
  — verification of the documents confirming the fact of payment, the making of corresponding alterations to the register of shareholders;
  — analysis of the statements of claim from the former owners;
  — assessment of correctness and timeliness of the registration of the placement memorandum;
  — analysis of the possibility for the share transaction invalidation.
• Corporate management system verification:
  — analysis of the structure of management of the company, the companies being the group members, the project;
  — determination of legitimacy of the establishment and existence of the management authorities;
  — estimation of the authority and the procedure of decision-making by the management bodies;
  — determination of the continuity of accounting of the holding of general meetings of shareholders, meetings of the boards of directors, meetings of other bodies;
  — verification of compliance with the periods of holding ordinary general meetings of shareholders, meetings of the boards of directors, meetings of other bodies;
  — verification of the management bodies’ decisions for the competence on the decisions made.
• Examination of the special government regulation issues:
  — antitrust regulation (inclusion of the natural monopoly entities in the lists, registration as ‘a group of entities’);
  — licensing of the activity (the availability of licenses, period of validity, the necessity for the period prolongation, the necessity for obtaining new licenses);
  — compliance with the environmental legislation (meeting the Sanitary Rules and Regulations (SANPIN) – for Russia), the necessity for the obtaining/prolongation of permissions;
  — compliance with the special sectoral requirements of the legislation.
• Verification and analysis of the grounds for the emergence of title to fixed assets, assets under construction, intangible assets and financial investment:
  — analysis of the transactions on acquisition of title to fixed assets, assets under construction, financial investment;
  — verification of the transaction-making legitimacy (significant transactions, interest-party transactions), the authority of the bodies that make a decision on making a transaction, the confirmation of the contractual payment;
  — verification of the history of titles to property units (the identification of the risk of potential claims from the former owners or third parties);
• Verification of the intellectual property rights and the titles to other intangible assets:
  — analysis of the transactions on acquisition of the titles to intangible assets;
  — assessment of the level of protection of the titles to intangible assets (necessary patents, registered trademarks, etc.);
  — assessment of the risk of potential claims on the inventions used from their authors.
• Analysis and verification of the structure of payables and receivables:
  — analysis of the structure of the material receivables (the legal ground for the incurring of debt, the period, the payment/recovery probability);
  — analysis of the structure of payables (the legal ground for the incurring of debt, the acceleration probability estimate);
  — verification of the transaction-making legitimacy (significant transactions, interest-party transactions), verification of the authority of the bodies that makes a decision on making a transaction.
• Collateral verification and analysis:
  — identification and analysis of security interest agreements (pledges, mortgages, sureties for third parties);
  — verification of the transaction-making legitimacy (significant transactions, interest-party transactions), the authority of the bodies that make a decision on making a transaction, the confirmation of the contractual payment;
  — estimate of the probability of enforcement of the pledges, mortgages, satisfaction of liabilities for third parties.
• Analysis of the personnel management system, including the relations with trade union bodies:
  — evaluation of compliance with the labor legislation as for the company employees (contractual relations, working hours, compliance with leave schedules, system of remuneration, pension provision, equity options);
  — examination of the personnel development programs, the personnel motivation systems;
  — the availability of a collective agreement/contract, the measurement of liabilities of the company to its employees;
  — the availability of a trade union organization, the procedure of its interaction with the company;
  — analysis of the employees’/former employees’ legal claims against the companies.
• Analysis of the counteragents’ legal disputes and claims, including the analysis of a potential bringing to responsibility:
  — analysis of the existing legal claims from counteragents and public authorities (the evaluation of the degree of materiality of the impact on the financial performance);
  — analysis of the material claims against counteragents and public authorities (the estimate of the recovery probability and periods).
• Tax optimization scheme security analysis:

— identification of the facts of tax optimization (the artificial cost supplement at the expense of the standards of manufacturing, pricing, subcontracts, customs operations, etc.);
— determination of the applied tax optimization scheme effectiveness;
— assessment of the clean title to the aforesaid operations;
— assessment of the risks of collection of the debt on the identified operations.

Tax Due Diligence: The verification of the tax computation, declaration and payment. The assessment of correctness of the tax legislation application by reference to the trends of law enforcement, the risks of the appearance of tax claims and the options for their mitigation:

• Compliance of the systems of bookkeeping and tax accounting with the current legislation requirements;
• Correctness of the formation of the tax base on each type of taxes, the computation and payment of taxes and levies for a certain period of time;
• Status of the payments to the national budget and non-budgetary funds;
• Justification of the use of tax benefits;
• Analysis of the legal constituent – the quality of contacts/agreements and other documents, the related organizational risks able to lead to tax claims, the company readiness for its protection from claims;
• Tax risk assessment (the consequences of the unremedied breaches);
• Recommendations on the remedy of breaches.

Financial Due Diligence: The verification of reliability of the data on the company profitability, financial sustainability and commercial prospects, the commercial activity result evaluation. If the Due Diligence is performed towards a company seeking for the project financing, a detailed examination of the budget and the financial planning system is performed and an analysis of the stated commercial benefit is conducted.

Financial and economic analysis:

— dynamic and structural analysis of the statement items;
— analysis of payables and receivables;
— analysis of the revenue mix;
— analysis of the cost and structure of operational expenditure;
— marginal analysis;
— ratio analysis.

• Verification of credits, loans (credit history) and off-balance sheet liabilities (sureties, guarantees/warranties, pledges, lease contracts, cash cover-free letters of credit, avalized bills);
• Analysis of the movement on accounts;
• Analysis of the standard register of payments;
• Determination of compliance of the official financial reporting with the legislation.

Technical Due Diligence: The assessment of the principles of the process, including the examination of the company technical basis, applied technologies and production potential.

• Production process examination, the bottleneck analysis:

— analysis of the process chain;
— analysis of the nominal and actual capacities of the machinery and equipment used in production;
— identification of the processes impeding the total periods of the (technological) process or requiring material additional resources to the extent of production;
— commencement of a meaningful technical examination for the additional evaluation of the process efficiency and the possibilities for the future expansion of production.

• Process equipment evaluation:

— verification of the core process equipment to exclude the technological obsolescence, the verification of the possibility of the production unit maintenance and replacement;
— analysis of the equipment operation reporting;
— assessment of the necessity for the structural modernization of equipment on the closest horizon of planning;
— determination of the excess equipment, the pre-estimate of the potential cost and number of the vacated areas;
— analysis of the possibility of a quick reorientation of the production capacities for the change in the product mix.

Management Due Diligence: The HR audit, the company organizational and management system data reliability analysis, the risk, efficiency and potential assessment.

• HR audit:

— analysis of the management team’s professional qualities (education, work experience, a successful experience in the project implementation, the references from previous employers, the availability of judicial decisions against the managers);
— personal interviewing of the management team’s managers;
— personnel appraisal (education, work experience).

• Organizational structure analysis:

— Assessment of the real functional duties and the degree of loading the top and middle managers;
— analysis of the management personnel motivation systems (outcome orientation).

Market Due Diligence:

• Analysis of the occupied market sector and its competitiveness;
• Assessment of the company position and the market condition, in general. Opportunity and prospect analysis.
• Market analysis:

— assessment of the market condition (growth zone), the degree of segmentation, the availability of the significant players;
— analysis of the competitive environment, market share, product range and strategic customers;
— estimate of the ‘payment’ for the entrance to the market (the necessity for the obtaining of licenses, the availability of some or other facilities in the ownership, the favorable decisions of public or municipal authorities);
— examination of the competitive advantages of the business and/or the core product;
— determination of the possibility of a quick company/business reorientation.

• Marketing and sales:

— product/service description (the essential product/service characteristics, the selling process, the seasonal influence);
— pricing policy and process;
— selling process (the methodology of attraction of new customers, the customer database maintenance, the availability of a dealership network, the dealer reward procedure);
— customer’s portrait (with distinguishing of the key customers);
— Working with a customer (the initiation of communication, the signing of contracts/agreements, the control over execution and the customer’s satisfaction degree);
— sales analysis (Is any analysis on the results of working with customers is conducted? To what extent is the analysis conducted? What are the decisions made on the analysis results? To what extent this work is formalized?).

Thus, to the extent of Due Diligence a comprehensive assessment of the business risks is made, their monetary valuation is performed and, based on this, the total transaction price can be determined. In the course of inquiry for the documents and their assessment, a set of the material documents required for the transaction structuring is finally determined.