AEC Merger & Acquisition Due Diligence 101

Undertaking a merger or acquisition is one of the most important business decisions that AEC industry leaders can make — and it’s one that should never be rushed into without thorough research. That’s why careful M&A due diligence is an essential prerequisite to successful transactions among architecture, engineering, and environmental consulting firms. M&A due diligence occurs once prospective buyers and sellers pass through the initial screening process, get to know each other, and generally agree on the relative value of the targeted firm.

What Is M&A Due Diligence and Where Do I Start?

During M&A due diligence, prospective buyers undertake the rigorous analysis of sellers’ confidential documents and data to confirm claims and pertinent information. Documents can be hosted securely online in virtual data rooms that protect sensitive information and allow for controlling access. After delving into a firm’s financial, legal, and administrative details, prospective buyers can better understand a seller’s obligations and liabilities to determine whether to continue with a merger or purchase.

Particularly in the AEC industry, which is mostly composed of privately held businesses, M&A due diligence provides an opportunity for prospective buyers to uncover problem issues that hadn’t been previously disclosed. It is such a critical step because it minimizes risk and maximizes chances for a successful closing and integration.

Poor deals can often be attributed to inadequate M&A due diligence. Firms that rush into AEC industry mergers and acquisitions without conducting the proper due diligence may encounter nasty surprises that can lead to litigation, failed synergy, financial losses, or even bankruptcy. 

There are two due diligence phases in the M&A process:

• Cursory due diligence, which typically takes place prior to the signing of a Letter of Intent
• Detailed due diligence, which typically takes place after the signing of a Letter of Intent

Cursory Due Diligence

Once a prospective buyer and seller complete the evaluation phase and agree on an approximate price range, the next step is to perform cursory due diligence in order to identify whether there are any major barriers — or a collection of smaller concerns — that could cause either side to reconsider proceeding with the transaction before a major effort is expended. During this process, buyers need to continue to assess the culture and personnel of the selling firm and review potential cultural discrepancies. 

Cursory due diligence should occur as quickly as possible and conclude within 30 days of its start. At this early stage of M&A due diligence, the teams that are involved should be kept to two or three individuals. However, it is critical that these individuals consider all areas of firm management including human resources, information technology, accounting, marketing, and legal.

Assuming that the senior staff of both firms agree that the transaction is mutually beneficial after completing the cursory due diligence, it’s time for the buyer to bring the next level of staff into substantive discussions. However, they should be cautioned not to discuss the deal with clients or other internal or external personnel at this time.

If both sides decide to proceed with the merger or acquisition, the next step is to develop a Letter of Intent (LOI), which is a nonbinding commitment in the principle of the eventual contract for an acquisition. The LOI outlines the purchase price and all fundamental aspects of the deal so that all parties can agree on the basic concepts. At this time, companies should hire an experienced outside business consultant to assess the value of the selling firm. After the acceptance of the LOI, the buyer will begin detailed due diligence. 

Detailed Due Diligence

In the detailed due diligence phase, both sides have opportunities to identify any issues that could become deal-breakers. It confirms whether personalities are compatible, refines the future vision and goals for the acquisition, quantifies investment needs, develops the basis for the integration plan, and most importantly, ensures that no surprises arise after the deal is finalized. 

Detailed due diligence should start immediately after acceptance of the LOI. The process typically takes approximately 60 to 90 days to complete and produces a list of items to be addressed either prior to or after closing. Above all, confidentiality must be maintained throughout the entire process.

Key items to examine during detailed M&A due diligence include:

• Owners’ leadership styles and personalities
• Commitment to quality
• Growth perspective
• Backlog and replenishment
• Decision-making system
• Staff morale
• Empowerment
• Level of technology

To initiate the process, you will need to develop a “due diligence team” with clearly assigned roles. The team should be comprised of the following individuals:

• Integration manager (leader)
• Division leaders
• Human resources manager
• Legal counsel
• Comptroller
• Marketing manager
• Information technology manager
• Others (if necessary)

The buyer’s integration manager should send a general communication to all staff of the selling firm who are involved in M&A due diligence. The message should provide an overview of the process, anticipated schedules, and an indication of how staff will participate. Reiterate that the transaction should not be discussed inside or outside the firm at this time.

To ensure all facets of the seller’s operations have been reviewed and documents collected, track progress with a spreadsheet that includes columns for the dates on which information was requested and received. Information that is typically reviewed in detailed due diligence includes, but is far from limited to, the following:

Financial 

• Accountant-prepared or audited financial statements
• Federal and state tax returns 
• Contracts subject to audit
• List of bad debts written off over prior three years
• Schedules of work-in-process by project
• Schedules of accounts payable and accrued expenses 
• Bank statements and reconciliations
• General ledgers

Organizational

• Shareholder agreements 
• Articles of incorporation
• Certificate of incorporation
• Capitalization tables

Legal

• Powers of attorney
• Agreements
• Descriptions of all open litigation matters

Employee Relations 

• Contracts and agreements regarding compensation
• Employee lists with compensation details 
• Group insurance policies
• Pension plans/profit sharing plans

Operations

• Current and future year budgets
• Current client contracts
• Lists of most important customers, suppliers, and sub-consultants

Real Estate

• Documents connected to all interests in real property
• Real estate tax receipts
• Leases

Insurance

• Insurance policies and premiums
• Latest business interruption worksheets
• Workers’ compensation reports

IT & Telecommunications

• Hardware maintenance and/or software support agreements
• WAN/LAN diagrams
• IT support descriptions

Initiation of integration planning should coincide with the beginning of the detailed due diligence phase and conclude at the closing. To avoid post-deal conflicts, clearly define which firm’s system will be adopted for HR, accounting, marketing, IT, etc. Make sure that everyone understands that the practices of one firm will prevail. If the lead owner/owners of the selling firm are considering the deal as an exit strategy, the ability of the second level of key staff needs to be evaluated.

Once the detailed due diligence team has completed its data collection and analysis, a comprehensive discussion meeting with the entire team should be held to obtain a general consensus as to whether progressing with the deal should be recommended. If the deal is to be progressed, the team members will prepare an analysis report identifying the issues that will require addressing and an outline of a plan for doing so, which will be incorporated into the integration plan.

Morrissey Goodale’s M&A Experts Can Assist with Due Diligence Advisory and Consulting

Whether you are thinking of buying or selling an architecture, engineering, or environmental consulting firm, Morrissey Goodale’s trusted M&A advisors can guide you through the M&A due diligence process. With decades of experience facilitating, structuring, and closing AE firm transactions, Morrissey Goodale’s consultants are experts in conducting M&A due diligence.

Morrissey Goodale’s proprietary database of M&A pricing activity and our compilation of national and international AE buyers and sellers set us apart from other AE merger and acquisition firms. We have an unrivaled understanding of M&A trends and pricing that we can deploy to negotiate the right deal for you.

Whether you are a prospective buyer or seller, Morrissey Goodale can help your team plan and implement a due diligence program that sets the table for a successful closing. Contact us today to find out how Morrissey Goodale can help your architecture, engineering, or environmental consulting firm get your best M&A deal possible.