An extensive due diligence investigation: necessary or unnecessary?
The mergers & acquisitions market is booming again. The value of the transactions in 2018 has risen considerably compared to the year 2017. Inherent in this development is the fact that generally sellers are in a better position during the acquisition process. The more choices a seller has, the more he can demand from interested parties. Potential buyers are therefore inclined to act faster and to proceed sooner. In the event that a potential buyer feels that he is under pressure, such a potential buyer may decide to carry out a due diligence limited in scope or no due diligence investigation on the target company at all. What are the consequences thereof?
In the acquisition process, the buyer has the duty to investigate and the seller has the duty to provide information to the buyer. It is generally assumed that the duty of disclosure takes precedence over the duty to investigate. However, from case law it appears that if the buyer fails in its duty to investigate, this can have far-reaching consequences for the buyer. For example, in its judgment of 16 December 2016 (ECLI:NL:HR:2016:2885), the Dutch Supreme Court ruled that the seller's obligation to pay compensation as a result of a violation of the obligation to provide information can be reduced on the basis of section 6:101 paragraph 1 of the Dutch Civil Code (own fault) if the misrepresentation of the facts can also be attributed to the buyer itself, for example due to a lack of investigation on the part of the buyer.
Can a buyer rely on the warranties provided by the seller regarding the company as included in the purchase agreement regardless the scope of his due diligence investigation? The Court of Appeal of Arnhem-Leeuwarden answered in the negative in a ruling in 2013. The Court of Appeal ruled that the buyer could not claim damages because the buyer had failed in his duty of investigation. During the due diligence investigation, the buyer had asked the seller to provide figures for the first quarter of the current financial year in which the acquisition took place. The seller agreed to provide this information. The parties remained in contact about where and when the figures would be provided to the buyer. After the acquisition, it appeared that although the buyer had not seen the requested figures, the buyer had still entered into the purchase agreement. The purchase agreement included a warranty that the seller had provided all relevant information and that no adverse (financial) changes had occurred since the balance sheet date. After the acquisition, the buyer observed that the results in the first quarter were considerably lower than in previous years. According to the buyer, the purchase agreement was concluded under the influence of error and the buyer would not have entered into the purchase agreement if the facts had been correctly presented. During the proceedings it did not become clear whether the buyer had chosen not to review the figures or whether the seller had not made the interim figures available to the buyer for his review. The Court of Appeal ruled that it is a fact that the buyer did not examine the interim figures and is of the opinion that this is at the buyer's risk. The Court of Appeal therefore rejected the buyer's claim. According to the Court of Appeal, the buyer failed in his duty of investigation and could therefore not rely on the literal text of the warranty that all information had been provided. According to the Court of Appeal, the buyer would have been able to identify the risks prior to the transaction if the buyer had carried out a full scope due diligence investigation.
Perhaps needless to say, but it is in any event advisable to obtain information about the target prior to the transaction rather than afterwards. This is the main reason for conducting a full scope due diligence investigation. In addition to the fact that failure to comply with your duty of investigation can have legally unpleasant consequences, it is important to have a clear picture of the risks in advance. Claims arising post-acquisition always result in extra work and costs and it is not always easy to prove the damages actually suffered. Consequently, as a potential buyer, you should make sure that a complete and efficient due diligence investigation is carried out in which all potential issues are investigated and in which the issues that may be important for the integration post-acquisition are also clearly identified.