{"id":5230,"date":"2024-09-18T15:06:44","date_gmt":"2024-09-18T13:06:44","guid":{"rendered":"https:\/\/maraz.es\/?p=5230"},"modified":"2026-07-22T17:31:39","modified_gmt":"2026-07-22T15:31:39","slug":"financial-due-diligence-complete-guide","status":"publish","type":"post","link":"https:\/\/maraz.es\/en\/financial-due-diligence-complete-guide\/","title":{"rendered":"Financial Due Diligence: Guide for M&A transactions"},"content":{"rendered":"

M&A transactions are complex processes in which information asymmetry between buyer and seller can generate significant risks: overvalued assets, hidden liabilities, non-recurring results presented as structural, and unprovisioned tax and employment contingencies.<\/strong> Financial due diligence<\/strong> is the technical instrument that allows the buyer \u2014 and increasingly the seller as well \u2014 to understand the true economic and financial reality of a business before closing a transaction, negotiate the price with verified data, and structure the contractual warranties in the SPA.<\/p>\n

This guide explains exactly what financial due diligence is, how it differs from other types of analysis, how the process is structured, what Quality of Earnings means, and the most common red flags in Spanish middle market transactions.<\/p>\n

What is Due Diligence?<\/h2>\n

Due diligence is the comprehensive investigation and analysis process carried out before executing an investment, acquisition, merger or any other complex financial transaction.<\/strong> Its objective is to evaluate and verify relevant information about the target company, identify potential risks and ensure that the parties make decisions with the greatest possible information.<\/p>\n

In the context of M&A transactions, due diligence is an essential phase that is typically activated after the signing of the Letter of Intent (LOI) or Exclusivity Agreement, when the buyer gains access to the seller’s confidential information through a virtual data room.<\/strong><\/p>\n

Types of Due Diligence<\/h2>\n

There are several types of due diligence depending on the specific needs of each transaction. The most common are:<\/strong><\/p>\n\n\n\n\n\n\n\n\n\n\n\n
Type<\/strong><\/td>\nScope of Analysis<\/strong><\/td>\n<\/tr>\n<\/thead>\n
Financial<\/strong><\/td>\nEconomic and financial analysis: results, cash generation, net debt, EBITDA adjustments, assets and liabilities, contingencies.<\/td>\n<\/tr>\n
Legal<\/strong><\/td>\nContracts, pending litigation, licences, intellectual property, corporate structure, shareholder agreements.<\/td>\n<\/tr>\n
Tax<\/strong><\/td>\nTax compliance, fiscal structure, CIT\/VAT\/PIT contingencies, transfer pricing, open inspections.<\/td>\n<\/tr>\n
Employment \/ HR<\/strong><\/td>\nSocial security, employment contracts, remuneration policy, trade union representation, health & safety, redundancy proceedings.<\/td>\n<\/tr>\n
Commercial & Strategic<\/strong><\/td>\nMarket share, competition, customer and supplier concentration, sustainability of the business model.<\/td>\n<\/tr>\n
Technical \/ Industrial<\/strong><\/td>\nCondition of productive assets, maintenance and replacement capex, technological level, obsolescence.<\/td>\n<\/tr>\n
Environmental<\/strong><\/td>\nEnvironmental regulatory compliance, environmental liabilities, activity licences, carbon footprint.<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n

 <\/p>\n

In the majority of Spanish middle market transactions, the buyer simultaneously activates financial, legal and tax due diligence \u2014 the core minimum of pre-closing analysis.<\/p>\n

What is Financial Due Diligence?<\/h2>\n

Financial due diligence is the detailed analysis of a company’s economic and financial situation in the context of a transaction, with the objective of verifying the information provided by the seller, identifying adjustments to reported results and quantifying the contingencies that affect the price.<\/strong><\/p>\n

The analysis is based on a review of historical financial documentation: annual accounts filed at the Companies Registry, trial balances, accounting journals and ledgers, bank statements, disaggregated billing data, management accounts, the CIRBE credit register, and, where available, unaudited internal management data.<\/p>\n

The final output of the work is a financial due diligence report setting out the conclusions of the analysis, the EBITDA and net debt adjustments identified, and the contingencies that may affect the final transaction price.<\/p>\n

Buy-Side Due Diligence vs. Vendor Due Diligence (VDD)<\/h3>\n

Historically, financial due diligence is a buy-side engagement: the buyer retains an independent adviser to analyse the target company before formalising the binding offer. However, in recent years the sell-side or Vendor Due Diligence (VDD) format has grown significantly \u2014 where the seller commissions the analysis before launching the sale process.<\/strong><\/p>\n\n\n\n\n\n\n\n
Advantages of Vendor Due Diligence (VDD):<\/strong><\/td>\n<\/tr>\n
\u2022 The seller controls the process and timeline, reducing operational disruption during the sale.<\/td>\n<\/tr>\n
\u2022 Contingencies are identified and resolved before the buyer uses them as arguments to reduce the price.<\/td>\n<\/tr>\n
\u2022 Accelerates the buyer’s own due diligence process, as the buyer can rely on the VDD report to reduce their own workload.<\/td>\n<\/tr>\n
\u2022 Increases the seller’s credibility in competitive processes with multiple simultaneous buyers.<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n

 <\/p>\n

Vendor Assistance<\/h3>\n

There is a third modality, less well known but very common in competitive processes: Vendor Assistance (VA)<\/strong>. Unlike the VDD, which generates a formal report for third parties, Vendor Assistance consists of supporting the seller throughout the buyer’s due diligence process<\/strong>: helping prepare and organise the data room, coordinating responses to the buyer’s queries, and presenting financial statements as clearly and robustly as possible.<\/p>\n

VA does not seek to generate an independent document but to maximise the efficiency of the process and avoid poorly organised or inadequately presented information being used by the buyer as a price reduction argument.<\/p>\n

Financial Due Diligence vs. Audit: Key differences<\/h3>\n

It is essential to distinguish between the two. Financial due diligence is not an audit and must not be confused with one:<\/p>\n\n\n\n\n\n\n\n\n\n\n\n
Financial Due Diligence<\/strong><\/td>\nStatutory Audit<\/strong><\/td>\n<\/tr>\n<\/thead>\n
Private engagement with no regulated normative framework<\/td>\nSubject to audit standards (ISAs, national equivalents)<\/td>\n<\/tr>\n
Scope defined by the buyer and the transaction<\/td>\nScope determined by auditing standards<\/td>\n<\/tr>\n
Does not issue an opinion on the annual accounts<\/td>\nIssues an opinion on the true and fair view of the accounts<\/td>\n<\/tr>\n
Focused on underlying economic reality and adjustments<\/td>\nFocused on formal accounting compliance<\/td>\n<\/tr>\n
Time horizon: historical and forward-looking projections<\/td>\nTime horizon: exclusively historical<\/td>\n<\/tr>\n
Confidential, restricted use for the buyer<\/td>\nPublic document, filed at the Companies Registry<\/td>\n<\/tr>\n
Materiality: any EBITDA variance multiplied by the valuation multiple can represent millions in price<\/td>\nMateriality: errors below established thresholds are disregarded<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n

 <\/p>\n

The accuracy of the information provided by the seller is covered in the sale and purchase agreement (SPA) through Representations & Warranties and indemnification clauses \u2014 the contractual protection mechanism for the buyer against incorrect or incomplete information.<\/p>\n

How is Financial Due Diligence conducted?<\/h2>\n

The process follows a three-phase structure:<\/strong><\/p>\n

Phase 1 \u2014 Planning and scope definition<\/h3>\n

The buyer, together with their financial adviser, defines the scope of the analysis based on the size of the transaction, the sector, risks identified during preliminary analysis, and the available budget. The documentation delivery schedule, data room access and key contacts at the target company are established.<\/strong><\/p>\n

This phase also involves preparing the Information Request List (IRL)<\/strong>, which details all documentation required from the seller, grouped by category: accounting and financial, tax, employment, contracts, real estate and others.<\/p>\n

Phase 2 \u2014 Analysis and fieldwork<\/h3>\n

This is the central phase of the process. The analysis team works through the documentation received and typically holds working sessions with the company’s management to clarify queries and interpret data. The main areas of analysis are:<\/strong><\/p>\n

Business and revenue model analysis<\/strong><\/p>\n

Understanding the business model, activity segments, customer and supplier base, revenue concentration, seasonality, material contracts and market evolution. The objective is to understand what drives revenues and what sustains or threatens them.<\/p>\n

P&L analysis and quality of earnings (QofE)<\/strong><\/p>\n

The QofE is the central element of any financial due diligence. It consists of determining the real, recurring and normalised EBITDA<\/strong> of the company, eliminating non-recurring income and expenses, extraordinary items and those of an accounting adjustment nature. The most common adjustments are:<\/p>\n