2.1.1.

2 Classification of M&A
Besides defining the terminology, the characteristics of M&A can be well explained
based on systemization criteria. In addition to the distinctions between mergers and
acquisitions and between an asset deal and a share deal mentioned above, corporate
transactions can be classified on the basis of further dimensions (see Figure 2.1). 1

Figure 2.1: Classification of M&A

Parameters Characteristics
Relation to the
company’s
lifecycle New foundation/ Strategic Restructuring/ Sale/
Liquidation
refounding transformation reorganization demergers

Investment type Cooperation Merger Acquisition

Intervention on legal/ No stake Complete

economic in the Minority Parity Majority acquisition
independence equity

Integration of the
value chain Horizontal Vertical Conglomerate/lateral

Method of payment Asset deal Share deal

Form of financing Equity financing Debt financing

Assessment by the target

Friendly takeover Hostile takeover
firm’s management

Source: Own illustration based on Horzella (2009)

2.1.2 Characterization of stakeholders involved

In order to understand the different perspectives on corporate transactions and their
implications for the M&A process, acquirers, sellers, and selected external M&A service
providers are described below.2

1 For a detailed description of the various facets of M&A, refer to Horzella (2009).

2 Participants within these three groups are not considered, nor are other parties directly or indirectly
involved (e.g., competitors, suppliers, customers, public institutions, and trade unions). A detailed
description of these stakeholders can be found in Lucks and Meckl (2015).
2.1.2.1 Acquirers
First, the two most typical groups of investors in corporate transactions, industrial buyers
(so-called strategic acquirers) and financial investors, are distinguished. 3

Strategic acquirers
The majority of acquisitions are attributable to strategic acquirers (Lucks and Meckl,
2015). They acquire companies in their own or another industry, mostly for strategic
reasons (e.g., expansion or diversification of business activities) and with a long-term
investment horizon (Hinne, 2008; Lucks and Meckl, 2015; Pomp, 2015; Störk and
Hummitzsch, 2017). Accordingly, the assessment of the target prior to the acquisition
focuses primarily on the evaluation of strategic aspects, the profitability situation, and
synergy potentials (Pomp, 2015; Störk and Hummitzsch, 2017). Financing aspects (Störk
and Hummitzsch, 2017) and an exit strategy with the maximum net return (Lucks and
Meckl, 2015) normally play a subordinate role.

Financial investors
In the context of M&A, the financial investors group is mainly comprised of private
equity companies (Lucks and Meckl, 2015). In the following, particular reference is made
to buy-outs (in contrast to venture capital such as seed capital or early and late stage
capital), as the business model of this type is based on M&A as an instrument (Lucks and
Meckl, 2015). Their investment is short to medium-term and is characterized by a clear
exit strategy from the outset with the aim of achieving the highest possible return (Lucks
and Meckl, 2015; Störk and Hummitzsch, 2017). Often, a large proportion of these
transactions are debt financed in order to benefit from the leverage effect (so-called
leveraged buy-out (LBO)) (Störk and Hummitzsch, 2017). Consequently, the operating
and free cash flows as well as net working capital, including seasonality, are of utmost
importance for financial investors (Bredy and Strack, 2011).

Simplistically, the LBO-based business model can be summarized in four stages: (i)
funding, (ii) acquisition of the target, (iii) value creation, and (iv) exit (Lucks and Meckl,
2015). In the (i) funding phase, a fund is established and large investors (e.g., pension
funds, insurance providers, companies, family offices) are persuaded to acquire shares of
the fund. After the identification of a target company, debt capital of various risk classes
is raised in large quantities (Lucks and Meckl, 2015). In the (ii) acquisition of target
companies, the focus is on identifying companies with stable cash flows to repay the high

3 For an overview of a third acquirer group, the target companies’ management in the context of
socalled management buy-outs, refer to Lucks and Meckl (2015).
level of debt (Lucks and Meckl, 2015; Störk and Hummitzsch, 2017) and with inherent
value appreciation potential, since unlike strategic buyers, no synergy potential 4 is likely
to be realized (Lucks and Meckl, 2015). These differences, when compared to strategic
investors, are also reflected in the M&A process. For instance, in order to compensate for
the often less detailed knowledge of the market and the competitive situation compared to
strategic investors, financial investors conduct a higher proportion of commercial due
diligence (CDD) (Bredy and Strack, 2011; Pomp, 2015). After completing the
transaction, there are three levers available for (iii) value creation: strategic measures
(e.g., repositioning, geographical expansion), operational measures (e.g., efficiency
improvements), and financial engineering (Lucks and Meckl, 2015). As part of the (iv)
exit strategy, which has already been defined at an early stage, the company is eventually
resold after around three to seven years (Pomp, 2015) to either strategic investors or other
financial investors. Another exit option is an initial public offering (IPO) (Lucks and
Meckl, 2015).

2.1.2.2 Sellers
It is necessary to distinguish among the types of sellers, which include private equity
companies who become sellers as part of their exit strategy (see Section 2.1.2.1), private
sellers, and state sellers (Hinne, 2008). State sellers primarily arise through the
privatization of infrastructure and services previously provided under public law. In the
past, for example, telecommunications, gas, water and electricity supply, transport and
logistics, and the healthcare sector were strongly affected by such transactions (Hinne,
2008). With private sellers, a distinction is made between large private companies and
owner-managed, mostly medium-sized companies. In addition to the wide range of
superordinate motives (e.g., sale due to antitrust conditions, adaptation to changed
corporate strategy, focus on core competencies, gain in management and control through
lower diversification, buy-operate-sell strategy, defense against hostile takeovers, and
liquidity constraints), the lack of family succession often plays a central role for owner-
managed companies when deciding to sell (Duhaime and Grant, 1984; Hinne, 2008).

2.1.2.3 External service providers

In order to cope with the often complex, multi-layered, interdisciplinary, and crosssector
situations in M&A transactions, acquirers and sellers usually engage external M&A
service providers (Hinne, 2008). With the help of the service providers, they ensure that

4 Although value must typically be created on an inherent, standalone basis in LBOs, synergy effects
play a crucial role in the context of buy-and-build strategies, which are characterized by add-on
acquisitions (Brigl, Hammer, Hinrichs, Jansen, and Schwetzler, 2018; Pomp, 2015).
the different know-how required in the M&A process is made available at short notice in
high quality and quantity. As a third party, the consultants guarantee independence,
neutrality, and objectivity. In addition, companies without their own M&A department
can, in particular, bridge capacity bottlenecks with the help of service providers (Hinne,
2008).

The external M&A service providers are usually differentiated according to their process
coverage. As full-service providers, investment banks, M&A boutiques, and management
consultancies (as well as leading law firms and audit firms) cover all phases of an M&A
transaction. Conversely, the majority of lawyers, auditors, tax consultants, corporate
finance advisors, communications consultants, IT consultants, environmental specialists,
and real estate specialists concentrate on particular phases or tasks of the M&A process
(Hinne, 2008; Lucks and Meckl, 2015). For example, due diligence tasks are often
outsourced to external service providers (Kappler, 2005). The providers assigned in this
area are discussed in section 2.2.3.4.

2.1.3 Motives for M&A

Before providing an overview of the degree of attainment of objectives of M&A (see
Section 2.1.4), it is essential to understand the motives for entering such transactions
(Seth, Song, and Pettit, 2002). Multiple authors such as Lucks and Meckl (2015) or Seth
(1990) split the broad variety of reasons for corporate transactions, from an acquirer’s
perspective,5 into two categories: factual-rational, economic motives that build on
classical, economic theories (e.g., market-based view) and socio-emotional, personal
motives of the acquirer’s management that are based on behavioral theories (e.g., hubris
theory) (see Figure 2.2) (Lucks and Meckl, 2015).

5 For motives from a seller’s perspective, refer to Section 2.1.2.2 and to Hinne (2008).
Figure 2.2: Motives for M&A

Economic motives Personal motives

• Realization of operational and financial • Reputation/prestige
synergy potentials • Gain in power
• Expansion of dynamic capabilities • Salary increase
• Reduction of time-to-market • Risk diversification
• Development/expansion of market power • Hubris
• Undervaluation of the target company/ • …
arbitrage
• …

Increase of company value Maximization of personal utility

Source: Own illustration

Economically justified motives serve to maximize the enterprise value; this connection is
in line with the owners’ interests. The quintessential example of economic motives is the
realization of synergies (Calipha, Tarba, and Brock, 2010). Besides operational synergies,
which cover both revenue synergies (e.g., through product diversification, access to
complementary customer groups and distribution channels) (Levinson, 1970) and cost
synergies (e.g., through economies of scale and scope) (Carpenter and Sanders, 2007;
Healy, Palepu, and Ruback, 1992), financial synergies (e.g., through tax benefits,
improved credit profiles, facilitated access to capital markets) must also be considered
(Carpenter and Sanders, 2007; Ghosh and Jain, 2000). Further economic motives include
the development or expansion of market power (e.g., through creation of market entry
barriers) (Carpenter and Sanders, 2007; Pennings, Barkema, and Doma, 1994; Trautwein,
1990), a shortened time-to-market compared to organic growth (Hinne, 2008), and access
to new capabilities and knowledge (Goold and Campbell, 1998). Another objective,
which is less strategically and more financially motivated and which is primarily pursued
by financial investors, is the identification of undervalued assets and exploitation of
arbitrage opportunities (Gonzalez, Vasconcellos, and Kish, 1998).

Personal motives, on the other hand, serve to maximize the utility of the acquiring firm’s
management and, at best, positively impact the corporate value as a by-product.
Investigating a sample of 3,520 transactions in the United States (U.S.), Nguyen, Yung,
and Sun (2012) find that 59% of the acquisitions are based on personal management
motives. Such motives include undertaking M&A to boost reputation and prestige, gain
power, realize salary increases (Lucks and Meckl, 2015; Mueller, 1969; Seth, Song, and
Pettit, 2000), diversify risks to secure the executives’ positions (Amihud and Lev, 1981),
and out of hubris (Roll, 1986).

In reality, there are often overlaps between economic and personal motives, some of
which promote and some of which inhibit an increase in company value (Seth et al.,
2000). Company value increases also require that the benefits anticipated in the runup to
the transaction are actually realized (Larsson and Finkelstein, 1999). This leads to the
question: Is M&A successful? This is examined in the subsequent section.

2.1.4 Success and failure of M&A

The partially conflicting objectives of the stakeholder groups involved (e.g., shareholders,
employees, customers, the companies’ managements) offer a broad spectrum for
investigating the success of such transactions. Consequently, there are different
approaches to measuring the success of an acquisition, based on both objective data and
subjective assessments of company members or market participants. 6 From this broad
spectrum of approaches, the results of success studies from empirical capital market
research are presented below.

An overview of the success of M&A transactions is provided by looking at metaanalyses,

which collectively evaluate previous study results. Bruner (2002), for example, shows in
his meta-analysis of 114 scientific studies that the M&A success for the buyer and target
companies combined is slightly positive. In contrast, the metastudies by Datta, Pinches,
and Narayanan (1992) and King, Dalton, Daily, and Covin (2004) demonstrate that
overall success fluctuates around zero – with a tendency towards the negative range.
According to these meta-analyses, numerous studies show that the target companies
achieve significant positive effects (of up to 20%) as a result of the takeover premium.
On the other hand, the acquisition success for the usually much larger investors is slightly
negative on average. This finding is underscored by a more recent meta-study by Meckl
and Röhrle (2018), who demonstrate that less than half of all transactions are successful
from the perspective of the purchasing company.

The large variance of success across the previous studies, paired with the slightly
negative effects for acquirers, raises the question: Which factors determine the success or
failure of a corporate transaction? Gerpott (1993) provides three approaches for analyzing
success and failure determinants: the strategic-structural approach, the integration

6 For an overview of different concepts of M&A success measures, refer to Loy and Stammel (2018)
and Roediger (2010).
process-employee-oriented approach, and the corporate culture-oriented approach.
Among the determinants of the first explanatory approach are the underlying decision-
making and planning processes. Accordingly, the success of a corporate transaction is
largely based on the preliminary phase. For instance, Alberts und Varaiya (1989) state
that “poor analysis (evaluating incorrectly the implications of plausible projections)” (p.
147) can represent a reason for value destruction. Therefore, the next section is dedicated
to the M&A process and afterwards examines the role of FDD as the core of the analyses
performed in the M&A process.

2.1.5 M&A process

The mixed results in achieving success through M&A illustrates the need for efficient
management of M&A transactions based on a structured procedure. In the previous
literature, various M&A process models were developed to systematically represent
transaction-related activities. These approaches range from two to seven phases (Calipha
et al., 2010). Most models, both in literature and M&A practice, divide the M&A process
into three stages (e.g., Jansen, 2000; Lucks and Meckl, 2015; Middelmann, 2000; Picot
and Picot, 2012) with substantially congruent but often differently labeled content (Lucks
and Meckl, 2015). The essential components of the preparation/planning,
transaction/execution, and (post-merger) integration phase are briefly presented below in
order to adequately determine FDD’s role within the overall M&A process and present it
as the focus of this dissertation.

In the preparation phase, the basic strategy is determined on the basis of strategic
considerations, especially an analysis of the company and the competitive and acquisition
environment (Lucks and Meckl, 2015; Middelmann, 2000). If the basic strategy
prescribes a transaction, the subsequent activities depend on the structure of the M&A
process (see Figure 2.3). If the seller is initiating the transaction, the seller commences
the transaction process (e.g., by creating an information memorandum (IM), conducting a
sell-side due diligence) and initiates contact with previously identified potential investors.
If the acquirer is initiating the transaction, the investor begins screening potential
acquisition candidates, creates a rough valuation and a business case, determines the
transaction target, and finally also starts to enter preliminary discussions with the target
company (Lucks and Meckl, 2015; Middelmann, 2000). The preparatory phase typically
ends with the signing of a letter of intent (LoI) or memorandum of understanding, which
underpins that the companies involved have a real interest in the transaction (Lucks and
Meckl, 2015).
In the transaction phase, the deal structure (e.g., asset or share deal) is determined. During
this phase, the rough valuation of the target and the business case prepared in during the
candidate selection process are refined into a detailed valuation and a concrete business
plan on the basis of the additional information obtained (e.g., by means of a buy-side due
diligence) (Lucks and Meckl, 2015). In parallel, the contracts are negotiated and finally
signed (so-called signing) and the legal transition (so-called closing) is prepared. In
addition, plans for integration and possible restructuring are developed. Before closing,
which marks the beginning of the integration phase, compliance with the transaction must
be ensured, in particular by obtaining antitrust and merger control approvals (Lucks and
Meckl, 2015).

In the final phase, the acquired business will be integrated into existing operations of the
strategic buyer (Lucks and Meckl, 2015) or the portfolio firms of financial investors that
pursue a buy-and-build strategy. The synergy potential will be realized through
adaptations, changes, and restructuring of strategic, organizational, administrative,
operational, and cultural determinants (Middelmann, 2000). As a result of these strong
post-transactional changes in the acquired company, the corresponding measures are
accompanied by an appropriate communication and change management strategy (Lucks
and Meckl, 2015). Achievement of the objectives associated with the transaction is
continuously monitored (e.g., as part of post-merger audits) and the integration
management is adjusted accordingly (Lucks and Meckl, 2015; Middelmann, 2000).

The above descriptions provide an overview of the key building blocks of the three
phases. However, it must be considered that some activities can take place across
multiple phases. In addition, the M&A process does not represent a purely consecutive
sequence of activities, but rather an iterative process with successive information
gathering. As a result, some activities are carried out repeatedly (Lucks and Meckl,
2015).

Furthermore, the specific format of the M&A process (in addition to the above-mentioned
distinction between the buyer and seller initiatives) depends on the exclusivity of the
negotiations. In particular, in cases initiated by the seller, a distinction is drawn between
exclusive negotiations, parallel negotiations, and the auction process (Andreas and
Beisel, 2017; Lucks and Meckl, 2015; Middelmann, 2000). 7 Exclusive negotiations, in
7 For further arguments beyond those outlined in this thesis in favor of the formats presented as well as
the implications of the choice of these formats on the design of the M&A process, refer to Lucks and
Meckl (2015). The authors also offer a presentation of formats selected after an acquirer’s initiative
(e.g., hostile takeovers), whose presentation is not of relevance to this dissertation.
which the seller solely negotiates with an interested party, are most widespread (Andreas
and Beisel, 2017; Lucks and Meckl, 2015). This offers a high degree of confidentiality
and increases process speed due to comparatively low coordination effort. On the other
hand, this approach typically results in a lower purchase price due to lower competition
(Lucks and Meckl, 2015). In contrast, during an auction, bids are submitted according to
a predefined, formal procedure by preselected bidders (controlled auction) or publicly
addressed bidders (public auction) (Andreas and Beisel, 2017; Lucks and Meckl, 2015).
Although this format increases the coordination effort, it also regularly leads to a higher
purchase price (Lucks and Meckl, 2015). As professionalization of M&A management
has increased, a concurrent strong increase in the proportion of controlled auction
processes has been observed (Andreas and Beisel, 2017). Parallel negotiations, in which
the vendor negotiates with several bidders (Lucks and Meckl, 2015), offer a middle
course between these two forms.
Figure 2.3: M&A initiative and processing

Initiative

Seller i nitiative Acquirer initiative

Exclusive Parallel Contact w ith target’s

Auction
negotiations negotiations management/ownership

Interest in No interest in
Public auction Controlled auction
negotiations negotiations

M&A process End of project Hostile takeover

Closing

Source: Own illustration based on Lucks and Meckl (2015)

2.2 Financial due diligence

The M&A process was presented in the previous subchapter and this subchapter deals
with one of its key components: FDD. First, the term due diligence is defined (Section
2.2.1), the occasions for carrying it out are described (Section 2.2.2), and it is classified
according to the parties involved and the various functional focus areas (Section 2.2.3).
The main body of this subchapter presents the objectives of FDD and the process
framework. The latter serves as the conceptual basis for identifying use cases of data
analytics in the empirical part of this thesis (Section 2.2.4). Additionally,
interdependencies between FDD and other M&A process steps are explained (Section
2.2.5). Finally, data analytics technology is critically assessed for the use in FDD in light
of the objectives priorly outlined (Section 2.2.6).

2.2.1 Definition of due diligence

The term due diligence originated in the U.S. and is derived from the Security Act of
1933 and the Securities Exchange Act of 1934, both of which were enacted in the
aftermath of the 1929 financial crisis (Beisel, 2017a; Grote, 2007; Hollasch, 2013; Pomp,
2015). Both decrees regulate due diligence obligations under capital market law in
securities trading (Berens and Strauch, 2013; Reed Lajoux and Elson, 2010). The
Securities Exchange Act and Securities and Exchange Commission (SEC) rule 10b-5 of
1942, have been “uncontested since the mid-1960s as the basis for indemnifications in
connection with incorrect, misleading, or omitted information provided by the seller in
connection with the sale of shares” [translated from German] (Kappler, 2005, p. 23).
However, this only results in a basis for liability with regard to incorrect and omitted
information that has been provided by the seller in connection with the sale and the
contractual agreements (Kappler, 2005). Accordingly, it is the buyer’s responsibility to
meet its own information needs and negotiate contractual representations and warranties.
This form of information gathering used is commonly referred to as due diligence.8

There is no overarching definition of the term due diligence (Beisel, 2017a). In contrast,
several definitions contain different indications about important discrete features. Kappler
(2005) summarizes different definitions and formulates the following comprehensive
definition, which is utilized in this thesis:

Due diligence aims to reduce the prevailing information asymmetry between the
transaction parties in the M&A process by analyzing the data provided and by
obtaining additional information so that a potential buyer is able to assess all
relevant risks and opportunities in the key areas of the target company 9 when
making a purchase decision. The findings from due diligence support the buyer
in the sales negotiations, the valuation and, in particular, in the subsequent
integration of the target company [translated from German] (p. 25).

8 Further terms for due diligence include acquisition investigation, acquisition review, business
investigation, business review, due diligence process, and due diligence review (Rockholtz, 1999 cited
in Kappler, 2005).
9 The target company can be a group, an individual company (subsidiary), or a business unit.
Depending on the transaction object and the available data, due diligence is carried out at either the
individual company or the consolidated group level (Pomp, 2015).
2.2.2 Occasions for carrying out due diligence
Due diligence is always carried out where two or more parties wish to enter into a
contractual relationship with uncertain consequences due to asymmetric information
about the present state or future development (Berens and Strauch, 2013).

In today’s commercial parlance, the term is primarily used in the context of corporate
transactions (Hölscher, Nestler, and Otto, 2007; Pomp, 2015). 10 However, other events
can also trigger a due diligence. They include: (re-)financing, capital market transactions
(e.g., an IPO), compensation claims from former shareholders, or venture capital
investments in growth companies (Beisel, 2017b; Pomp, 2015; Störk and Hummitzsch,
2017). The following explanations relate solely to due diligence in the course of M&A.

2.2.3 Classification of due diligence

Typically, due diligence can be classified along three categories: functional forms,
addressees and initiators, and timing. The three categories are presented below. The
section also deals with the M&A service providers that commonly carry out the different
forms of due diligence.

2.2.3.1 Functional forms

A distinction is made between different functional focus areas of due diligence (Beisel,
2017a; Blöcher, 2002; Pomp, 2015). The core components that are conducted in almost
every transaction are financial, tax, and legal due diligence. In their empirical analysis for
the German market, Marten and Köhler (1999) find that financial, tax, and legal due
diligence are conducted in 94%, 82%, and 78%, of the investigated M&A transactions,
respectively. A corresponding investigation by Berens and Strauch (2011) supports this
finding, revealing that financial (including tax) and legal due diligence are carried out in
94.7% and 89.8% of the transactions, respectively. These results underline the
preeminent role of FDD. Depending on the target company and the potential buyer,
commercial, operational, human resources (HR), IT, compliance/integrity, real estate, and
environmental due diligence are also carried out. In some cases, intellectual property,
pension, cultural, and technology due diligence are listed as separate forms of due
diligence; however, these overlap with the due diligence forms already listed (Pomp,
2015). The execution of the different types of due diligence depends on various factors.
10 A special type of corporate transaction is carve-outs, i.e., the acquisitions of newly formed companies
through restructuring activities (e.g., spin-offs). Consequently, due diligence in carve-out deals must
examine a moving target that previously did not exist on a stand-alone basis (Andreas and Beisel,
2017).
The type of buyer, for example, plays an important role in the type of due diligence
carried out. CDD is carried out more frequently by financial investors, as they often have
less detailed market knowledge than strategic investors. By contrast, compliance/integrity
due diligence is mainly carried out by strategic investors (in particular by international
groups) to fulfill legal and internal requirements (Pomp, 2015).

Table 2.1 presents an overview of the most common functional forms including the focus
of their analysis as well as their relation to FDD. The breadth of functional forms and
their interconnection with FDD underscores the central role of FDD. It is under FDD
where results from close to all other forms converge.
Table 2.1: Functional forms of due diligence
Functional form Main focus and interdependencies to financial due diligence
Financial Focus: Analysis of the historical, current, and planned profitability (incl. sustainable earnings),
assets and liabilities (incl. net debt), and liquidity/free cash flow (FCF) (incl. working capital
and investments)
Tax Focus: Analysis of tax risks (e.g., from reorganizations under company law); determination of
tax effects on subsequent years; analysis of possible tax payments from appeal and fiscal court
proceedings
Interdependencies: Quantification of net debt (assessment of income tax
liabilities/provisions/risks)
Legal Focus: Identification und quantification of juridical risks (with respect to company law
structure, major contracts, labor law contracts, legal disputes, permits and approvals, industrial
property rights, change of control clauses)
Interdependencies: Quantification of net debt (legal risks not yet considered in the balance
sheet, such as legal disputes or material guarantee claims); consideration of legal risks in the
business plan
Commercial Focus: Analysis of market attractiveness, customer situation, and competitive environment;
evaluation of the business model and strategy; validation of the revenues according to the
business plan
Interdependencies: Development of revenues and the gross margin; analyses of FDD (e.g.,
ABC customer analysis, sales by distribution channels, churn rate analysis, and hit rate
analysis) often build the basis for further investigations
Operational Focus: Analysis of operational performance and value drivers; validation of cost planning and
investment planning; evaluation of planned restructuring and improvement measures,
assessment of synergy effects and carve-out effects
Interdependencies: Profitability planning (operational cost positions); FCF planning
(investments)
HR Focus: Analysis of management competences; analysis of the management incentive system;
current personnel structure and its historical and planned development; analysis and valuation
of pension and partial retirement obligations
Interdependencies: Quantification of net debt (pension and partial retirement obligations);
plausibility check of the personnel costs
IT Focus: Review of strategic alignment and integration capability of the IT landscape;
assessment of infrastructure, business systems, hardware, software, and IT processes;
evaluation of the harmonization of the IT landscape between target and buyer (if strategic
investor)
Interdependencies: Quantification of net debt (one-time integration costs, one-time acquisition
costs for hardware and software, migration or integration costs); plausibility check of IT costs
and investments in the business plan
Compliance/integrity Focus: Audit of compliance with laws, regulatory guidelines, and internal codes of conduct
(e.g., compliance management system, compliance guidelines, historical compliance violations)
Interdependencies: No direct relationship
Real estate Focus: Analysis of footprint, buildings, and property
Interdependencies: FCF planning (investments)
Environmental Focus: Identification and quantification of environmental risks (e.g., soil and groundwater
pollution, fulfilment of binding emission targets)
Interdependencies: Quantification of net debt (provisions/liabilities related to environmental
risks; environmental risks not yet captured in the balance sheet)
Source: Own illustration based on the descriptions in Pomp (2015)
2.2.3.2 Initiator and addressee
A due diligence can be initiated by the seller (sell-side or vendor due diligence
(VDD)/assistance) or by the potential buyer (buy-side due diligence) (Blöcher, 2002;
Pomp, 2015).11

Sell-side assistance/due diligence

On the sell-side, a distinction is made between vendor assistance and VDD (Nawe and
Nagel, 2011; Pomp, 2015).12, 13 Both forms, VDD and vendor assistance, speed up the
M&A process, increase the data quality and consistency, and enable the seller to identify
problem areas at an early stage (Pomp, 2015; Rosengarten, 2017). A vendor assistance
commonly results in a financial data book or financial fact book (Pomp, 2015). The
financial data book contains detailed, yet uncommented analyses of the historical and
planned earnings situation, asset situation, and financial situation (Nawe and Nagel,
2011; Pomp, 2015). In contrast, the financial fact book contains factual comments;
however, the appropriateness of the facts presented is not assessed in the report (Nawe
and Nagel, 2011; Pomp, 2015). After preparation, the documents are made available to
potential buyers and potential lenders during the M&A sale process on a non-reliance
basis (Pomp, 2015). This means that the responsible service provider (see Section
2.2.3.4) enters into a liability relationship only with the client (target), but not with the
potential buyers or lenders (Nawe and Nagel, 2011; Pomp, 2015).

As part of VDD, a formal VDD report is prepared. In contrast to the financial data
book/fact book, the VDD report contains a critical evaluation that assesses the
appropriateness of the facts presented (Pomp, 2015). Moreover, the final VDD report is
made available on a reliance basis. This means that the responsible service provider
enters into a liability relationship not only with the client, but also with the final buyer
and lender (Nawe and Nagel, 2011; Pomp, 2015). 14 In this instance, the service provider

11 A third option is the initiation of a due diligence by lenders (Bredy and Strack, 2011; Pomp, 2015);
this, however, is beyond the scope of this thesis. Although lenders must be involved in the external
financing of the transaction by the strategic investor or the financial investor, they only act as the main
addressee in the case of (re-)financing (Pomp, 2015), which is not considered in the context of this
dissertation.
12 A combination of the two types is possible, in which a vendor assistance is followed by VDD such as
a “VDD [r]eadiness [a]ssessment” (Pomp, 2015, p. 21).
13 In addition to VDD, Andreas and Beisel (2017) describe the reverse due diligence as a form of the
sell-side due diligence in which the target company carries out a due diligence for internal preparation
only. The following references of the term sell-side due diligence, however, refer exclusively to VDD,
i.e., a due diligence conducted by the selling party whose information is passed on to potential
acquirers.

14 For an explanation of the scope of liability, refer to Störk and Hummitzsch (2017).
acts as an “independent third party” [translated from German] (Pomp, 2015, p. 22). A
VDD report is usually prepared in auction processes (Andreas and Beisel, 2017), for
larger transactions, or for deals focused on financial investors as potential buyers (Pomp,
2015). In these cases, the liability risks and buyer claims make it particularly worthwhile
to accept the outlay of increased time intensity, costs, and use of management resources.

Buy-side due diligence

Buy-side due diligence may start in advance of the execution phase as soon as financial
data is provided in the IM. The core phase for buy-side due diligence, however, is the
execution phase of the M&A process (Pomp, 2015). After obtaining access to essential
information in the data room, the buy-side due diligence analyses must identify key
strengths, weaknesses, opportunities, risks, and value drivers (Nieland, 2002; Pomp,
2015). As with VDD, findings from buy-side due diligence are compiled in a formal
report. Also similar to VDD, the buy-side due diligence report is transmitted to potential
lenders on a non-reliance basis and, at a later stage, to final lenders on a reliance basis
(Pomp, 2015).

The report’s results form the basis for determining the enterprise and equity values as
well as the purchase price. Buy-side due diligence is essential enabling the potential
buyer to submit a binding offer. The results are also taken into account when drafting the
purchase agreement as well as an integration plan (Pomp, 2015).

Subsequent analyses take place during the negotiations of the purchase agreement. In this
confirmatory due diligence, open points from the previous phase are analyzed, the report
is updated to reflect current business developments, and additional analyses are carried
out as part of contract negotiations (Pomp, 2015).

Commonly, buy-side due diligence is divided into two phases. The first phase focuses on
the identification of deal breakers, which can lead to a termination of the transaction. This
phase usually leads to a red flag report that addresses the main risks. 15 Once the
prospective buyer decides to continue pursuing the transaction (e.g., with purchase price
reductions or grant of significant indemnities), the second phase begins. Detailed
analyses are carried out, which lead to the above-mentioned comprehensive due diligence
report. The buyer benefits from the early recognition of deal breakers (i.e., costs and
resources are minimized in the case of an early termination) in this two-phase approach
(Pomp, 2015).
15 According to Andreas (2017c), non-remediable transaction-critical deal breakers are rare.
2.2.3.3 Timing
Pre-acquisition and post-acquisition due diligence can be differentiated in terms of timing
(Blöcher, 2002).

Commonly, due diligence is carried out pre-acquisition, i.e., prior to the signing of the
purchase agreement. Rare instances occur where the only due diligence conducted is
done post-acquisition. Such circumstances can arise due to a lack of time or due to
special confidentiality matters. In such cases, the acquirer has three primary intentions.
First, similar to pre-acquisition due diligence, the investor strives to form a
comprehensive picture of the target. Second, the investor seeks to secure the purchase
price paid and to verify the company’s contractually assured characteristics by means of a
target-actual comparison. Thus, post-acquisition due diligence serves ex post facto to
determine a possible purchase price reduction and/or compensation claims of the buyer
against the seller. Third, post-acquisition due diligence is part of the company’s risk
policy and serves to avoid liability risks (Blöcher, 2002). Due to the practical dominance
of pre-acquisition due diligence, the following remarks refer exclusively to this form. Its
integration into the timeline of the M&A process (for example in a structured auction) is
illustrated in Figure 2.4.
Figure 2.4: Timing of M&A process and due diligence process
process

Identification and Preliminary

M&A

Detailed analysis Contract Fulfillment of the

contact of potential rough analysis of
of the target negotiations closing conditions
buyers the target
stones
Information Mile -

NDA signing Non-binding bid Binding bid Contract signing Deal closing
sources

Information Data room (incl. VDD report or fact

Teaser
memorandum book – if available)

Sell -side due diligence

diligence
Due

Buy -side due diligence

Source: Own illustration based on Pomp (2015)

2.2.3.4 External service providers

The different due diligence forms are initiated by either the target, the potential buyers, or
their M&A advisors (see Section 2.1.2.2). In practice, sellers and buyers rarely use
internal teams to carry out due diligence and involve external parties, except during low
complexity transactions (Kappler, 2005). The initiators direct their requests to specific
service providers, as each functional form of due diligence requires a different expertise
(Pomp, 2015). Table 2.2 shows the typical service providers for the most common forms
of due diligence. Some companies, especially the large audit firms, have expertise in
multiple disciplines. This positions them to be able to bundle analyses from different
areas if optional due diligences (e.g., commercial, operational, HR) are requested to be
integrated in the very common due diligence forms (e.g., integration of the commercial
part into FDD).

Table 2.2: Due diligence service providers

Functional form Typical due diligence service providers
Financial Audit firms
Tax Tax advisors
Legal Law firms
Commercial Strategy consulting firms
Special departments of audit firms
Smaller consulting firms with specialist knowledge of niche markets
Operational Consulting firms with operational production expertise
Source: Own illustration based on the descriptions in Pomp (2015)

Grote (2007) writes that in Germany, FDD is only conducted by auditors. 16 Table 2.3
provides an overview of the largest German audit firms in 2018. The Big Four possessed
a market share of 86% in non-audit services, which includes due diligence offerings.
Moreover, Table 2.4, which has been developed specifically for the purpose of this thesis
based on data from S&P Capital IQ, shows that the Big Four firms conducted 7 out 10
FDDs in global M&A deals in the period 01/2000-06/2017 compared to the top 30
service providers. Since the Big Four tend to carry out larger deals, this number is
potentially higher in terms of revenue or deal size.

Due to the discrepancy in market share among the firms, it is necessary to make a
distinction between the Big Four on the one hand and the medium-sized and small audit
firms one the other within this dissertation. Due to their dominant position (and thereby
representativeness for a large part of the market), as well as their greater openness
towards adoption and use of emerging technologies (Janvrin et al., 2008; Lowe et al.,
2017; Rosli et al., 2013), the empirical portion of this thesis primarily focuses on the Big
Four. Aspects of particular relevance to medium-sized and smaller audit firms are
highlighted separately. Moreover, the quantitative analysis of the questionnaire data in
Chapter 6 highlights the statistically significant differences between the Big Four and
Next Ten audit firms.
16 Grote (2007) further explains that “pursuant to §2 I WPO, it is the auditor’s task to carry out business
audits, in particular of annual financial statements. Financial due diligence is a business audit that is
not a conditional audit and can therefore also be performed by other experts” [translated from
German] (Grote, 2007, pp. 103–104).
Table 2.3: FDD service providers – Overview of German audit firms
Rank Company Revenues in 2018 (in 1,000 EUR)
Total Audit services Non-audit services

1 PricewaterhouseCoopers GmbH WPG 423,700 1,553,400

2 Ernst & Young GmbH WPG 1,880,300 302,200 1,578,100

3 KPMG AG WPG 478,000 1,232,000

4 Deloitte GmbH WPG 963,000 131,000 832,000

5 BDO AG WPG 195,342 37,169 158,173

6 Genossenschaftsverband – Verband der Regionen e.V. 146,419 63,779 82,640
7 Mazars GmbH & Co. KG WPG StGB 130,941 34,070 96,871
8 Rödl & Partner GmbH WPG StGB 106,199 36,491 69,708
9 Warth & Klein Grant Thornton AG WPG 91,718 22,282 69,436
Ebner Stolz GmbH & Co. KG WPG StGB 79,543 39,285 40,258
various 208,095 333,2061

Total 7,821,862 1,776,071 6,045,7921

Share of Big 4 83% 75% 86%2

Share of ranks 5-10 10% 13% 9%2

Share of ranks 11-30 7% 12% 6%2

Notes:
1) Köhler and Ratzinger-Sakel (2019) note that the sum of revenues from audit services and non-audit services differs from total
revenues by one unit (i.e., 1,000 EUR).
2) The aggregated market shares of non-audit services amount to 101% as the percentage figures are rounded.

Source: Own illustration based on Köhler and Ratzinger-Sakel (2019)

Table 2.4: FDD service providers – Overview of global audit firms
Rank Global network brand Number (share) of financial due diligences between 01/2000 and 06/2017
Total FDDs Thereof sell-side Thereof buy-side

1 Ernst & Young (EY)1 4,940 1,481 (30%) 3,453 (70%)

2 PricewaterhouseCoopers (PwC) 1
3,731 1,362 (37%) 2,363 (63%)
3 KPMG1 3,232 1,196 (37%) 2,030 (63%)
4 Deloitte 1
2,878 1,016 (35%) 1,856 (64%)
5 Grant Thornton 1,574 442 (28%) 1,132 (72%)
6 BDO1 1,536 482 (31%) 1,050 (68%)
7 Mazars 521 116 (22%) 405 (78%)
8 Crowe Global1 403 120 (30%) 282 (70%)
9 RSM 362 137 (38%) 225 (62%)
10 Baker Tilly 309 108 (35%) 201 (65%)
11-30 various1 1,629 383 (24%) 1,244 (76%)
Total1, 2 21,115 6,843 (32%) 14,241 (67%)

Share of Big 4 70% 74% 68%

Share of ranks 5-10 22% 21% 23%

Share of ranks 11-30 8% 6% 9%

Notes:
The data is from S&P Capital IQ, which was accessed via the Wharton Research Data Services platform.
1) The difference between the total number of FDDs and the sell-side/buy-side split results from a small number of
mandates that could not be allocated to either side. This also explains the possible deviations in the percentage figures from
100%.
2) In addition to the 30 service providers with the highest number of FDDs, there were 2,213 companies that carried out
between 1 and 29 FDDs in the 01/2000-06/2017 period (average: 2.37). Due to their small size, these companies are beyond the
scope of this analysis.

Source: Own illustration

2.2.4 Financial due diligence process

Following the general definition and classification of due diligence, the subsequent
sections deal with FDD in particular. First, the objectives of conducting diligent
investigations are outlined. Afterwards, a process framework for FDD is presented and its
components are described in detail.

2.2.4.1 Objectives
To understand the specifics of FDD, which need to be considered as part of the process
framework (see Section 2.2.4.2), the objectives are briefly outlined. Moreover, the
objectives enable a substantial evaluation of the potential process improvements through
the inclusion of additional data sources and the use of data analytics (see Sections 2.2.6
and 5.2.8).

Large parts of the literature on FDD do not systematically and comprehensively present
the objectives (e.g., through merely implicit mentions or a restriction to the buyside). 17
After analyzing the literature, the following three overarching objectives have been
compiled:

Identification and consideration of risks as well as protection from risks

M&A transactions are always characterized by an information asymmetry between the
target company and the potential purchasers (Beisel, 2017a; Lucks and Meckl, 2015). In
such situations, investors fear that the target’s management could opportunistically
exploit its information advantage (Götzen, Müller, and Zahn, 2016; Kappler, 2005). Due
diligence serves to reduce information asymmetry (Beisel, 2017a; Grote, 2007; Hollasch,
2013; Matzen, 2018; Pomp, 2015; Störk and Hummitzsch, 2017). For example, it
significantly improves the level of information (Blöcher, 2002; Schramm, 2003),
enhances data quality, and checks the consistency of financial information stemming
from different data sources (Pomp, 2015). Weaknesses and risks are uncovered (Blöcher,
2002; Götzen et al., 2016; Hollasch, 2013; Howson, 2017a; Nieland, 2002; Schramm,
2003) and considered in the valuation, purchase agreement, and negotiations (Beisel,
2017a; Blöcher, 2002; Götzen et al., 2016; Pomp, 2015; Schramm, 2003; Störk and
Hummitzsch, 2017). Thus, due diligence plays a preventive role by limiting risks from
the transaction (Grote, 2007). On top of that, due diligence advisors suggest an adequate
risk mitigation strategy (Matzen, 2018; Nieland, 2002). Importantly, the identification
and consideration of risks is not limited to buy-side efforts. The due diligence report also
protects the seller in terms of liability.

Identification of value potentials

In addition to covering risks associated with the transaction, due diligence serves to
identify the target’s essential value drivers (Götzen et al., 2016; Pomp, 2015) and its
value potential (Blöcher, 2002). This includes both the success potential of the target
itself and the synergy effects resulting from the deal (Nieland, 2002). With its
valueoriented analyses, due diligence supports the valuation of the target (Beisel, 2017a;
Götzen et al., 2016; Grote, 2007; Hollasch, 2013; Matzen, 2018; Pomp, 2015). It also

17 For example, a comprehensive presentation of functions and objectives of due diligence in general,
i.e., not tailored to FDD, can be found in Beisel (2017a). He defines four objectives: analysis of
opportunities and risks, documentation of the as-is situation, warranty and liability, and purchase price
determination.
provides important insights for drafting the purchase agreement and conducting
negotiations (Blöcher, 2002; Hollasch, 2013; Howson, 2017a; Pomp, 2015). If due
diligence is closely connected to post-merger integration, the analyses of due diligence
also often serve as the basis for integration plans or 100-day plans after transaction
completion (Götzen et al., 2016; Nieland, 2002; Pomp, 2015; Schramm, 2003).

Negotiation and decision-making support

Finally, due diligence serves to support the decision-makers in preparing the transaction
(Andreas, 2017c; Bredy and Strack, 2011; Lucks and Meckl, 2015; Störk and
Hummitzsch, 2017). Underscoring this view, Blöcher (2002) describes due diligence as
the “basis for negotiation, argumentation, and decision for the acquisition or sale of
shares” [translated from German] (p. 52). Potential risk areas should be identified as early
as possible in the sales process (Pomp, 2015) in order to prevent the risk of wrong
decisions (Matzen, 2018). Due diligence also contributes to accelerating and optimizing
the M&A process (Pomp, 2015). The presentation of comprehensive, consistent financial
information from sell-side due diligence eliminates the need for numerous individual
enquiries from potential buyers (Pomp, 2015). VDD also prepares the target’s
management at an early stage to answer the essential questions of interested investors
(Pomp, 2015). Put differently, it allows for a fact-based argumentation, and thus, shortens
the negotiations. By enabling consistent decision-making, costs can be avoided and
management resources can be saved (Grote, 2007; Pomp, 2015). Lastly, the conduct of
due diligence enhances the chances of a successful transaction through increased
transparency for all parties (Blöcher, 2002).

2.2.4.2 Process framework

A process framework is applied as the theoretical basis for the investigation of big data
and data analytics use cases in FDD. To cover the full spectrum of FDD, this framework
considers the report (and not the financial data book or financial fact book) as its final
deliverable. However, it must be stressed that “in practice, there is no standard due
diligence and each transaction process lives from its specific peculiarities” [translated
from German] (Störk and Hummitzsch, 2017, p. 609). For buyside projects, the lack of
norms for FDD, the tight timeframe, and the different objectives of strategic and financial
investors require an initial identification of the most important areas from the various
fields of investigation. In contrast, in VDD, the target company needs to be examined in
sufficient breadth and depth and the scope of work cannot be confined (Störk and
Hummitzsch, 2017). Therefore, the following sections are intended to summarize the full
scope (i.e., all encompassing) FDD (Hollasch, 2013).
Grote (2007) divides the FDD process into three phases: planning, analysis and
monitoring, and reporting. Scott (2002b) posits a similar three-stage process consisting of
organization, investigation, and completion. Therefore, the developed process framework
is based on three phases: preparation, analysis, and reporting.

Most authors (e.g., Grote, 2007; Lucks and Meckl, 2015) describe the process for buy-
side due diligence, i.e., starting after completion of sell-side due diligence. This view be
because more buy-side FDDs are carried out than sell-side FDDs (Götzen et al., 2016).
As a result, this thesis follows this established process description procedure while also
highlighting specifics of sell-side due diligence. In addition, the procedural views on due
diligence are enhanced with much more detailed descriptions of the analysis phase from
other streams of due diligence literature. Accordingly, the analysis phase of the
developed process framework is subdivided.

In the preparation phase, time and resource planning take place and the data room is set
up based on previous information requests and analyses (Grote, 2007). The analysis
phase focuses on the investigation of historical and current earnings, asset and liability
positions, and cash position as well as the business plan validation (Blöcher, 2002;
Götzen et al., 2016; Pomp, 2015). For each area, the target’s strengths, weaknesses,
opportunities, risks, and value drivers are identified (Lucks and Meckl, 2015). Open
questions are clarified during the management audit, i.e., discussions with the target’s
management (Lucks and Meckl, 2015). Finally, findings from the analyses and
discussions are summarized in a formal report (Grote, 2007; Lucks and Meckl, 2015).
The due diligence process is graphically summarized in Figure 2.5.
Figure 2.5: FDD process framework

A Preparation B Analysis (incl. management discussions) C Reporting

• Optional: Prior sell-side due Business plan • Preparation of
diligence incl. report Analysis of Analysis of B.4 validation final due
(analogue analyses as for the historical data current data diligence report
buy-side, see “analysis”) • Validation of financial
Profitability view: Quality of earnings, planning and underlying • Sharing of
• Preparation of due diligence B.1 detailed value driver analyses assumptions based on report with
team by the buyer results from prior relevant parties
• Project coordination (e.g., analysis of historical,
time planning, determining current, and budget data
Balance sheet view:
communication channels) B.2 Net assets, working capital, net debt • Validation of planning
• Information request; process
agreement on data room
content Cash flow statement view:
B.3 Investment planning, free c ash flow
• Seller preparation of virtual
data room ~4-5 future years +
• Assurance that all promised perpetuity
~3 prior fiscal years Year -to-date
information is available
• Collection of external data

Source: Own illustration based on descriptions in Grote (2007) and Pomp (2015)
The concrete design of the due diligence process, in particular the information request
and the subsequent analysis phase, depends on several factors. For instance, it depends on
the length of due diligence, which ranges from a few days to several weeks depending on
the intensity of the investigations and the size of the target (Grote, 2007). Moreover, the
review focus and the analyses conducted depend on the target company (e.g., e-
commerce vs. project business) (Nieland, 2002; Pomp, 2015), buyer know-how (e.g.,
strategic buyer with relevant industry know-how vs. financial investor) (Pomp, 2015),
and known risk areas (Nieland, 2002). In order to adequately capture these specifics, this
work uses a generic process framework and takes particularities into account as they
become relevant.

The following sections describe the three phases of FDD (A-C in Figure 2.5) in more
detail. Due to the focus on the analysis phase, a separate section is dedicated to each area
of analysis (B.1-B.4 in Figure 2.5).

2.2.4.3 Due diligence preparation

The preparation phase does not vary considerably between FDD and other forms of due
diligence. Grote (2007) divides this phase into the following activities: time planning,
resource planning, determination of communication channels, information request, and
confidentiality agreements.