How audit committees help keep the transaction journey on track.
Corporate acquisition remains a common growth strategy for Canadian businesses. Both public and private companies continue to engage in M&A activity in industries as wide-ranging as automotive, food & beverage, financial services, telecom and aerospace. While the board and audit committee (AC) are typically involved in M&A transaction approval, it’s becoming more critical for the AC—given its expanding risk role—to go beyond simply endorsing deals. Rather, AC oversight should span the transaction lifecycle, from transaction identification and planning, through to execution of transaction (including due diligence and contract negotiation) to the post-acquisition integration activities so critical to realizing M&A.
The AC’s governance role is executed from the objective space between investor interest, management strategy and long-term corporate well-being. Though they must retain this objective distance, ACs are increasingly involved in oversight activities beyond financial statements and there are a lot of risks involved in the M&A process.
One area ripe for greater AC involvement is ensuring appropriate due diligence is carried out. Whether it can be properly handled in-house or whether third-party assistance is required, the AC should ensure management looks carefully at a long list of issues, such as deal valuation relative to the price being paid; the long-term benefits of owning the to-be-acquired entity; employee, customer and supplier relationships; the sustainability of earnings and cash flows; the quality of the balance sheet, including taxation status and structure; the alignment of corporate values and culture as evidenced, amongst other facets, in the risk framework and control environment; and post-deal integration planning and implementation to realize synergies and deliver real transactional value.
Management often looks to reduce costs by undertaking the due diligence process themselves. The scale of some deals may make this feasible; however, organizations often underestimate the resources needed and complexities involved, imperiling not only the mechanics of execution, but the ultimate financial yield of the transaction. Since this poses a clear business risk, it only makes sense for the AC to oversee the process and ensure the right decisions are being made.
The AC’s role should begin at least as soon as the due diligence process is planned. The AC should challenge management from the outset on the appropriateness of their due diligence measures, finding out who owns the process and whether third-party assistance should be engaged—insisting on it if necessary. They should also consider striking a deal committee tasked with overseeing critical legal and financial issues and asking management the hard questions that may ultimately avoid transactional failure. Companies involved in deals can be overly focused on financials to the detriment of other issues, and the AC can help ensure success doesn’t fall through that gap.
While the board may often approve a deal based on strong financials and management “say-so,” there are simply too many risks involved—from overpaying, to losing key customers, to misunderstanding the nature of the target company’s business—to let due diligence slide. Done right, due diligence can provide thoroughness to the validation of the deal rationale and by effectively overseeing the stringency of this process, the AC can help significantly reduce the risks inherent to M&A transactions.