Due diligence requirements
What due diligence is necessary for buyers?
The scope and intensity of the due diligence exercise for a purchaser and its advisers typically depend on the nature of the target business, the investment approach of the purchaser (eg, whether it is a private equity or strategic investor) and its ‘boldness’. Due diligence is implemented to mitigate, or at least minimise, risks for the purchaser and the M&A process itself (whether structured through an auction process or not).
The due diligence process typically begins with the potential purchaser’s initial review of the target, followed by the purchaser’s decision on whether to continue with a more extensive main phase of due diligence conducted with its advisers. During the main phase of due diligence, the purchaser typically reviews legal information in relation to the following areas, with varying degrees of emphasis:
- real estate and leases;
- human resources and employment;
- intellectual property and information technology;
- litigation; and
In addition to the legal review, it is customary to conduct a separate financial and tax due diligence and – depending on the target’s business – environmental, technical, pensions or insurance due diligence. The respective advisers present the findings of the due diligence to the purchaser in a more or less detailed due diligence report, depending on whether the purchaser finances (part of) the purchase price (in which case a bank-suitable report is required) or representations and warranties insurance is part of the transaction (in which case the insurer is also likely to request a full report).
What information is available to buyers?
The purchaser typically has limited access to company information in the first phase of the due diligence, during which information is often accessible only through public sources. These public sources include the commercial register excerpt of the target providing basic information on:
- the target’s business purpose;
- potential mergers in the past;
- managing directors; and
- accompanying documents such as financial statements, the shareholders’ list and the articles of association.
The seller often prepares a management presentation or an information memorandum, which provides a basic overview on the target and its business operations, including a business plan/forecast of future developments. In an auction process, a vendor due diligence report is customary.
In the main phase of the due diligence, the seller typically provides information on the target through a (virtual or physical) data room. Depending on the detail of the due diligence information requested by the purchaser (normally in a due diligence request list delivered to the seller after preliminary agreements have been concluded) and the scope of the due diligence, the documents available through the data room may fully cover all documents and information on the target, or be limited to the essential information on the main topics of interest for the purchaser.
In addition to its initial due diligence request list, the purchaser typically submits a Q&A list to the seller with all questions and further document requests which may have arisen when reviewing the documents in the data room.
In an auction process, but in other due diligences as well, information is typically shared through the data room in a two-step approach, with sensitive information and documents (eg, employee data) being disclosed only at a later stage (with a limited number of bidders) and often with restricted access on a strictly ‘as needed’ basis (eg, the purchaser’s employment lawyers only).
What information can and cannot be disclosed when dealing with a public company?
Under German law, the management board of a stock corporation is generally prevented from disclosing confidential or business-sensitive information. In practice, the management board can formally resolve that a potential offer would be in the best interests of the company and that the disclosure of information to a potential bidder is required to increase the chances of success for the transaction.
However, if the information disclosed to the potential bidder constitutes insider information about the target, the bidder may be prevented from proceeding with the offer unless the relevant information is made public or ceases to be considered insider information. Therefore, the management team of a public company is usually reluctant to provide commercially sensitive information to a bidder, especially if the bidder is a competitor.
Disclosure of sensitive information is a delicate issue for both the target’s management and the bidder. Careful planning of a public transaction is therefore advisable to avoid triggering public disclosure requirements based on insider trading rules or a prohibition against the bidder pursuing the offer.
How is stake building regulated?
Stake building in a German public company is regulated by the Securities Trading Act. Any person or legal entity whose direct or indirect shareholding reaches, exceeds or falls below the thresholds of 3%, 5%, 10%, 15%, 20%, 25%, 30%, 50% or 75% is obliged to notify the Financial Supervisory Authority thereof in writing. In determining the voting rights, any shares for which the person or entity has a call option right or shares held by subsidiaries or third parties acting in concert with such person must be included.
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