When conducting due diligence “materiality” always matters. So what does materiality mean? The Accounting Standard ASA 320 defines materiality to mean “that if information is omitted, misstated or not disclosed, that information has the potential to affect the economic decisions of users of the financial report or the discharge of accountability by management or those charged with governance.” In layman’s terms, materiality is all about risk management. The task of conducting proper due diligence is to bring to light all significant risk issues so that a proper valuation can be established, then the question of materiality can be properly addressed.
However, the end product of due diligence can and should go beyond answering the question of materiality. Let me explain; earlier in my career, I was responsible for managing a large portfolio of environmental legacy sites for a Fortune 50 chemical company. Many of these legacy sites came to this company via multiple mergers and/or acquisitions, most of which involved a large number of complex sites. Every one of these mergers and/or acquisitions had robust due diligence performed prior to the close of the deal to specifically address the issue of materiality. However, after the M&A was completed, inevitably there would be some “surprise” environmental liability that was significant, at least to me as the new “owner” of that liability. My point is that due diligence must address the issue of materiality first, but there should be a deeper drill to specifically list the more problematic sites, even if the overall transaction proves non-material. I’m certain that leaders that have roles/responsibilities similar to my previous role with this Fortune 50 chemical company would agree with this perspective . . . no surprises!