Due Diligence
In several instances over the past years our staff has discovered potential problems for Client Companies prior to the acquisition of a new company or the expansion of the Company to new facilities. By participating in the due diligence process we are able to review the potential risk of the venture. Areas of study include, but are not limited to, the following.
- Severe Workers’ Compensation Claim History
- Inadequate Fire Protection Systems
- History of Employee Dishonesty
- Potential Pollution Liabilities
- Drunk Driving Exposures
- Long Tail Product Liability Exposures
- Employment Practices Liability Exposures
While most plans to acquire another company or merge with another organization are begun long before professional due diligence begins, several key risk management items should be considered at the outset of negotiations. Particularly in the area of Environmental Impairment, certain conditions may render the deal undoable at any price and these potential “deal breakers” should be exposed at the outset of discussions. Our standard Confidentiality Agreement allows client companies to include us in the early discussions with a target company to review key areas of concern:
Pollution Liability
Due to the issue of Successor Liability, the acquiring company may accept liability for environmental impairment caused by the acquired company in past years. Three major exposures to Pollution Liability which we investigate include:
- Liability stemming from current or past ownership of a site requiring cleanup.
- Liability stemming from the acquired firm’s past and ongoing operations that generate or use pollutants, and from the disposal of those pollutants.
- Liability stemming from the acquired firm’s past and ongoing operations as a transporter, storer or disposer of toxic wastes or as a toxic waste treatment facility.
If the initial review of these exposures indicates a potential problem, we will generally suggest a Phase One analysis of the site by a professional environmental survey company. This type of analysis may be delayed until final Due Diligence if no problems are apparent at the outset of negotiations.
Non Standard Risk Financing Agreements
Certain types of risk transfer techniques can lead to major liabilities for the acquiring company. If any of these programs have been in existence for the target company, we will require detailed reports at the outset of negotiations.
Captives
The financial integrity of a captive insurance company must be carefully analyzed to determine the stability of the program. Long tail liabilities, under stated reserves, minimal capital bases or thin management ranks can all be signals of possible failure of these unregulated insurance companies.
Self Insurance Programs
Companies frequently use this term when the correct condition is actually “no insurance.” If the target company has a qualified self insured program, audited statements will be available and should be reviewed.
High Deductible Programs
Workers’ Compensation, Products Liability or Auto Liability programs which are written with high deductibles should be carefully reviewed for open or unreported claims. Reserves for deductibles or Letters of Credit should be of adequate value to handle these future obligations.
Retrospective Rating Programs
Most single, double or three-line retro programs continue to be evaluated for seven years after the close of the policy year. Current statements showing outstanding claims and reserves must be reviewed.
Insurance Policy Coverage Considerations
Various exposures to loss are typically covered by conventional insurance contracts. A review of those policies which are in force, or should be in force, will assist the client company in assessing not only the coverage available but also management’s ability to make good risk management decisions.
Employment Practices Liability
EEOC suits, whether open or closed, can be indicators of future problems with employment related suits. A careful study of Human Resources practices can illuminate inherent problems in the company’s culture.
Directors’ & Officers’ Liability
The most frequent source of law suits in this area are from Stockholders, Employees, Competitors and Customers. A review of these exposures to loss should be made prior to closing.
General Liability Coverage
Particularly in the area of Products Liability, a study of Claims Made or Occurrence policies should be made to determine future coverage for past claims.
Property Coverage
While this exposure to loss is generally straight forward, a review of coverage should be made to verify that stated assets agree with Insurance Company appraisals.
Workers’ Compensation Experience
A review of the Experience Modification worksheets will reveal specific loss trends and show the potential for future problems with OSHA or with rating bureaus.
Employee Dishonesty Coverage
Loss runs from Fidelity Bond underwriters may illuminate loose auditing practices or poor human resource policies.
Conclusion
Pre-Acquisition, Merger or Expansion Due Diligence service is provided by Tropp & Company, Inc. for our Client Companies without fee. This is one of the most significant services provided by our firm and should be used without reservation. We would rather spend time with you looking at potential acquisitions which never close than to find problems after a bad deal.
We’d be happy to provide you with our Confidentiality Agreement to review with your attorney so that it is in place before a potential acquisition comes along.
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