Due diligence in the acquisition of a company in Germany
Risk assessment for the purchase of german companies or participations
In german practice, the purchase of a company or the acquisition of an interest in a company is regularly preceded by a more or less comprehensive review of the target company. This review, also known as due diligence, is intended to enable the buyer to know the risks associated with the company purchase in Germany and to avoid surprises later on. In addition, the results of the due diligence allow the buyer to verify whether his previous purchase price calculation is correct or whether he will insist on certain purchase price adjustment clauses or guarantees in the company purchase agreement.
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Legal expertise in the performance of due diligence in Germany
At ROSE & PARTNER, our team of lawyers, certified specialists for german corporate law and tax advisors will assist you in all stages of the transaction. Our services in the area of due diligence include the following issues in particular
- Planning and structuring of due diligence
- Preparation of due diligence checklists to request documents for the buyer
- Preparation and compilation of relevant documentation in the legal, financial and tax areas, as well as in other areas, such as environmental and real estate issues
- Preparation of the data room
- Conducting due diligence in the legal and tax areas on either the seller or buyer side,
- Involvement and coordination of other necessary expert advisors
- Identification of possible risks concerning the target company, preparation of a due diligence report on the result of the audit services
- Elimination of identified risks if advising the seller or development of a strategy to deal with these risks if advising the buyer
- Conducting or supporting a post M&A due diligence to examine claims arising from the company purchase agreement and enforcing such claims.
What does due diligence cover in german practice?
In the course of a due diligence, the german company is thus put through its paces, whereby the scope and duration strongly depend on the actual scope of the company's activities. It is not uncommon for the scope of the due diligence to be narrowed down by the buyer for reasons of time and / or cost, so that certain subjects of the audit are excluded entirely or up to a limit of risk defined in terms of amount.
Each due diligence should cover the core areas of legal, financial, tax and commercial. In german practice, it is advisable to consult appropriate experts, in particular lawyers, tax advisors and financial advisors, for such a comprehensive review. Depending on the business activities of the german company to be acquired, it may be advisable to include other areas in the due diligence. For example, in the case of possible environmental risks, a so-called environmental due diligence may be considered, which should then be carried out by technical experts.
Buyer due diligence before acquisition in Germany
In the majority of cases, a due diligence is carried out by the buyer side prior to the acquisition of the company or an interest in the company. The primary purpose of due diligence in german practice is to identify risks that could materialize after the company is acquired and end in a financial fiasco for the buyer.
In german practice, due diligence and the identification of possible risks is an important building block for the company valuationas well as the purchase price determination based on it, for example by reconciling enterprise value to equity value.
The type and quality of risks are varied. For example
- the fundamentals of german company law,
- the finances,
- the tax situation and
- the operating business of the german target company.
If the acquirer identifies certain risks, he will try to reduce the purchase price and / or negotiate contractual arrangements to hedge them. The latter is regularly done by means of a corresponding catalog of representations and warranties, which is included in the company purchase agreement.
However, the risks can also be so weighty that they constitute a deal-breaker. The prospective buyer will then generally discontinue negotiations on the acquisition of the german company.
A second important reason for conducting due diligence is for the management of the prospective buyer to limit its own liability. The management does not want to be accused later of not having examined the risks of the acquired company sufficiently or even at all.
Buyer due diligence after the acquisition under german law
The acquiring company can also conduct an additional review of the target company after the acquisition process has been completed in Germany. This review, also known as post M&A due diligence, has so far been less common than a review of the company prior to the execution of the acquisition of the company or shareholding.
The purpose of post M&A due diligence is to examine whether the acquirer is entitled to claims, in particular for damages, against the seller under the company purchase agreement or under statutory provisions. This examination should begin as soon as possible after the company purchase because company purchase agreements regularly contain limitation periods that are shorter than the periods provided for by german law.
When conducting post M&A due diligence in Germany, the acquirer is no longer limited to selecting the documents previously provided to him by the seller in the data room. Instead, he can now draw on all documents and other information within the target company and also question the responsible persons.
The management of the buyer of the company or investment will usually also carry out a post M&A due diligence to avoid its own liability. This is because the failure to verify and, if necessary, enforce claims against the seller may result in the buyer's management incurring its own liability.
Confidentiality agreement under german law
Since the buyer or its advisors need to gain insight into the heart of the company during due diligence in Germany, and thus possibly also into its trade and business secrets, every due diligence will be preceded by the conclusion of a corresponding non-disclosure agreement (NDA). This is because the information obtained in the course of due diligence may only be used for the purpose of evaluating the company to be acquired, and not for the company's own operational business.
Setting up the data room in german practice
The buyer and his advisors often define in advance those core areas and specific documents that are to be viewed and evaluated during the subsequent due diligence process in Germany. The seller is then provided with a due diligence checklist containing information and documents that the buyer considers necessary for a review of the german company.
The seller himself or a service provider commissioned by him will prepare the relevant documents and make them available via a data room. Whereas in the past a physical data room with countless folders awaited a visit from the advisors, today virtual data rooms are used almost without exception. In these, the requested documents are uploaded and can then be viewed by selected persons via password-secured access.
Typical subjects of german due diligence
The first step in legal due diligence in Germany is to examine the company's history. The correct status quo of the company is traced through:
- Incorporation documents,
- excerpts from the german commercial register,
- shareholder resolutions,
- as far as relevant in the specific case, also the german labor law situation,
- possible real estate ownership or lease agreements,
- industrial property rights,
- insurance policies,
- financing agreements and
- customer and supplier contracts and
- other documents.
In this context, the focus is on the detection of so-called change of control clauses, which grant a contractual partner the right to terminate the contractual relationship extraordinarily if a change in the shareholder structure of the company alters the possibilities of control over the company.
Financial due diligence in Germany involves analyzing the economic, balance sheet and financial situation of the company. To this end, the annual financial statements and any corporate plans are examined in particular. In addition, it may be appropriate to scrutinize the market environment and / or the competitive situation of the company, also in order to define the requirement of any non-competition clauses in the company purchase agreement.
Tax due diligence is intended to identify tax risks under german law that may only materialize at a later point in time. In addition, the company's tax situation can influence the decision between an asset or share deal.
A human resources due diligence focuses on the analysis of the workforce, the cost structure and possible key personnel in the company.
Q&A - Questions and Answers
In the course of german due diligence, a so-called Questions and Answers (Q&A) process is often initiated. As part of this process, the buyer can ask the seller specific questions on certain topics that are unclear from his point of view, based on the results of his due diligence to date, which the seller then answers. Existing ambiguities on the part of the purchaser can therefore already be eliminated during due diligence. Furthermore, supplementary documents can be requested from the purchaser.
For reasons of documentation, the questions and answers are recorded in corresponding lists and stored in the data room. This prevents every question being asked ad hoc or identical requests being made, as it is clear to everyone which questions have already been asked and which answers have been given.
In the case of larger company acquisitions in Germany, it is a good idea to collect the questions by topic or to repeat the question and answer process several times.
Due diligence report in german practice
Due diligence regularly ends with the preparation of a so-called due diligence report. This report contains a summary of the audit services performed.
In german practice, the presentation and scope of the report vary from a short report (red flag report), in which only the main results are presented, to a comprehensive report with detailed descriptions of the individual audit areas. To facilitate reading, the main audit results are also presented in a so-called executive summary at the beginning of the comprehensive report.