Due Diligence Mergers and Acquisitions

Use of AI in M&A Due Diligence – Its Benefits and Drawbacks

Use of AI in M&A Due Diligence – Its Benefits and Drawbacks

In recent decades, the AI in M&A Due Diligence market has been on an increasing slope. Due diligence is a crucial part of every mergers and acquisitions deal. Due diligence is a method of research or investment opportunities that aids the customer in ensuring the quality of the product they are purchasing. It refers to the process of researching a company or someone before signing a contract. Due diligence helps the consumer to check relevant facts about the vendor, such as contracts, finances, and customers, throughout the M&A transaction. After obtaining this information, the customer is better equipped to make an informed choice and complete the deal with assurance.

Artificial Intelligence or AI, is rapidly being used by law firms and attorneys for document mining, contract creation and assessment, red flag detection, and due diligence in Merger & Acquisition deals, among other things. Prior to engaging into a financial transaction or agreement with another party, due diligence investigation is performed to ensure that all facts are revealed. Due diligence in a business acquisition generally includes a thorough understanding of the company’s responsibilities, like liabilities, leasing agreements, and so on. The integration of AI in M&A Due Diligence has accelerated the process and assisted in providing customers with cost-effective services. It has automated the time-consuming and laborious process of reviewing hundreds of documentations.

Meaning of Due Diligence

Due diligence is used to determine if an investment or a company transaction will be successful in the future since it discloses any potential obligations or risks attached with it. Due diligence is a procedure that entails analysing the target company’s documentation and interrogating the company’s employees. When a letter of intent (LOI) is signed, due diligence commences. The Due Diligence process is complete when a company or investor expresses interest in purchasing or investing in the target company.

Due diligence is a process of gathering information about a company in order to determine whether or not an investment or purchase will be profitable. The main goal of this due diligence procedure is to uncover all relevant information, issues, and potential liabilities. An informed choice may be taken once the facts have been gathered and examined.

Types of Due Diligence

Types of Due Diligence
  • Business Due Diligence

Due diligence is used to determine if the firm’s revenue and cash flow are sustainable as a long-term investment and if the company has the ability to grow.

The major focus here is on ensuring that the financial information you’ve given them is accurate and truthful. This is the most important component of the due diligence procedure.

  • Legal Due Diligence

This stage of the procedure includes investigating your company’s legal history. Lawyers would examine your previous contracts with vendors and charge them for any potential liability concerns.

  • IT Due Diligence

A team of IT specialists will search for security concerns, downtime issues, and other IT issues that may need to be fixed before the deal can be closed during the IT due diligence stage.

  • Environmental Due Diligence
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In this case, the due diligence team could prefer to focus on the disclosure of any environmental risks associated with acquiring the firm now or in the future.

  • Financial Due Diligence

Financial specialists do an investigation and study into the target firm’s financial issues and circumstances, as well as a review of a number of relevant variables.

Meaning of Artificial Intelligence (AI)?

Artificial intelligence is the replication of human mental capacity in robots that are trained to think like people and imitate their activities. It may be used to any software/programs or computer/machines that exhibit human characteristics like learning and problem-solving. To do this, AI necessitates the creation of software that allows machines to imitate the different complexities of the human thought process.

Types of Artificial Intelligence (AI)

Artificial intelligence may be divided into 2 broad categories:-

Types of Artificial Intelligence (AI)
  • Narrow AI

Narrow AI relates to a machine’s capacity to accomplish specific tasks using a restricted artificial cognitive function. Siri, the virtual assistant, is a perfect illustration of Narrow AI. In answer to questions, it has the ability to recognise voice and browse the web.

  • General AI

General AI seems to be more developed and is programmed to function in circumstances that are outside of the possibilities previously encoded in its database by employing more complex reasoning. As a result, General AI allows machines to respond not just to predetermined response triggers but also to operate in scenarios that need higher-order thinking, such as creativity, invention, and improvisation.

Why do we need Due Diligence in the M&A Process?

Due diligence is an essential part of Merger & Acquisition deals since it helps purchasers identify the elements of the firm that they want to buy. It is a suitable effort procedure that aids the consumer in comprehending the different interactions, the business’s growth potential, and its ability to attract new consumers. Adequate due diligence also aids the customer in increasing his possibilities of making money and minimising his losses.

As they evaluate the company’s unique facts, the buyer is more able to alter expectations. Consumers can use due diligence to safeguard themselves from risky corporate agreements during mergers and acquisitions. A good due diligence study is the most crucial component of this transaction in order to attain such strategic objectives through Merger & Acquisition transactions. Companies can also form collaborative relationships because a significant portion of communication between the two groups necessitates a lot of work.

Objectives of Due Diligence in M&A Process

  • To ensure that the proposed transaction complies with applicable laws and to reveal any regulatory restrictions.
  • To assess the state of physical plant and equipment, and also other tangible and intangible assets.
  • To evaluate the most appropriate purchase price and payment method.
  • To double-check details that could be important in the acquisition agreement’s drafting.
  • To identify potential deal-breakers in the form of liabilities or risks.
  • To look into any potential antitrust issues that could prevent the proposed merger or acquisition from going through.
  • To evaluate the transaction’s legal and financial risks.

AI and Merger & Acquisitions – AI in M&A Due Diligence

According to recent data, the average time it takes to complete a Merger & Acquisition deal has grown by more than 30% in the last decade. Due Diligence, which entails analysing many documents and is time-consuming procedure, is amongst the most important concerns with Mergers and Acquisition agreements. This is not only time-consuming and challenging work for attorneys, but it also demands highly experienced and talented personnel to perform repeated, low-value activities to contribute to more important tasks.

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However, law firms have been gradually using AI, which has completely changed the scenario. With the application of AI in M&A Due Diligence, attorneys may quickly analyse over 3 thousand documents in an hour, compared to 50 to 100 documents per hour previously. It has not only improved the effectiveness of the process, but it has also enabled attorneys to provide the same service at a considerably cheaper cost than in previous initiatives when the documents were manually inspected.

Artificial Intelligence (AI) technology isn’t complex enough to completely replace human resources, yet it may still offer value. The M&A Due Diligence process aids in the automatic examination and collecting of legal documents, as well as the redaction of owner information and private HR information, among other things.

Advantages of AI in M&A Due Diligence

Apart from the capacity to quickly comprehend and analyse data, AI and machine learning technologies are far less prone to inaccuracy than humans. In comparison to traditional due diligence methods, AI due diligence is more effective, accurate, and capable of providing foresight.

Advantages of AI in M&A Due Diligence
  • Automation and Efficiency

AI technologies can automate activities and analyse millions of data points in a matter of a few seconds, allowing dealmakers to conduct more effective due diligence and save time & expense (compared to human review). As a result, employee productivity rises as more time is freed up for higher-value tasks.

  • Knowing with certainty

Dealmakers can identify future patterns and events ahead of time due to the predictive data provided by AI technologies. They can predict the most likely results with a high degree of accuracy – before it happens. This kind of knowledge is crucial for making the best judgments possible during the M&A due diligence process.

  • Reduced risks

AI and machine learning technology can remove expensive human mistake and avoid information gaps or silos by providing extensive data coverage and exceptional accuracy. Although humans might experience mental exhaustion, these tools never tired or require a break.

Dealmakers may use AI predictive analytics to get a complete view of all data, allowing them to construct a clear picture of patterns and prevent mistakes during crucial transaction moments.

  • Self-learning

By learning from each contact, these complicated algorithms may improve their accuracy. Each time they are utilised, they become more effective and strong.

Difficulties arising from the use of AI in M&A Due Diligence

While AI is seen as a boon in the due diligence procedure, it is not without its drawbacks:-

Difficulties arising from the use of AI in M&A Due Diligence
  • Technical shortcomings

Failure of the algorithm or insufficient machine learning might result in mistakes and misrepresentations if the documents are not sufficiently standardised and clear.

  • Security risks

With the introduction of every new technology, the threat of cybercrime is unavoidable. There is documentation with highly private information. In an M&A situation, potentially extremely market-sensitive information is held in the data room throughout the due diligence process, which might be revealed in the event of a cyber security violation.

To minimise such a concern, the M&A will have to include AI in its information technology due diligence list. Any artificial intelligence (AI) technology utilised in the supply chain could have an influence on the target and, as a result, the acquirer.

With the latest implementation of the EU’s General Data Protection Regulation (GDPR)[1], the relevance of data protection compliance in M&A transactions has changed dramatically. As a result, some additional rules and standards must be followed during the due diligence process of a target firm. Buyers may face significant consequences if they fail to comply with the GDPR requirements. Noncompliance has consequences that go beyond fines, like legal expenses and litigation charges. It can also result in potential reputation damage, a negative effect on a company’s market standing, and lawsuits and claims by individuals for material and immaterial damages, and these could be just as costly as the fines imposed by regulators. Authorities also have substantial capabilities, including the ability to conduct on-site GDPR audits and issue public warnings.

  • Breaches of privilege
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In some countries, AI’s analysis of certain documents might be considered a violation of attorney-client confidentiality. In the instance of cross-border M&A transactions, this risk is critical.

AI also raises issues such as who is to blame in the event of an incorrect document evaluation. All risk claims are void in the event of any missing clauses, mis-referenced definitions, and inaccurate references/price forecasts. A client will always turn to their legal experts in such a circumstance. This would necessitate law firms entering into arrangements with third-party-tech companies to assume accountability. Furthermore, does the IT firm have the resources and insurance to cover the losses?

Due diligence necessitates a thorough examination and study of documents. An overreliance on AI may result in instances where important information is lost during the extraction of data from documents. This would not only result in low quality outputs, but it will also have serious implications and expose clients to significant losses.

The use of legal artificial intelligence (AI) will grow and spread in the future

Legal practitioners have benefited from technological developments in a variety of ways. Without legal technology, modern legal profession would be impossible to imagine. Earlier, when legal search engines and databases were inaccessible, legal research for case studies would have taken much longer. One would have gone to several libraries to conduct study and would have eventually discovered some useful knowledge. But information is now only a click away. AI, machine learning, and natural language processing (NLP) have all entered the legal sector as a result of technological advancements. Artificial intelligence or AI is the capacity of machines to mimic human intelligence. AI can accomplish complicated tasks by utilising human intelligence abilities. Machine learning is the process through which a machine or computer may improve its performance by examining fresh data and patterns. One instance of machine learning is algorithm development. Natural language processing is concerned with the interaction of humans and machines. If computers and individuals share the same language, it will be much easier for legal experts to build software to help them.

Lawyers may find it easier to work with the advancement of AI technology, but there is concern that employment may suffer with the introduction of AI. Benefits may be accompanied with drawbacks; however, Legal Artificial Intelligence (AI) will play a significant part in the evaluation of company information, contracts, employee records, insurance, financial details, IPRs (Intellectual Property Rights), risk analysis, and risk profiles. Due Diligence will become more related to business and financial impact scrutiny as a result of this. AI can undoubtedly be useful as a supplementary tool, but it cannot replace lawyers.

Concluding Remarks regarding AI in M&A Due Diligence

There is little uncertainty that technology will play a significant part in our lives over the next few decades, and this will also apply to legal systems. People think that a situation will emerge in which humans will lose their employment, yet new possibilities will also be created.

Artificial intelligence would not only speed up the due diligence process in an M&A transaction, but it will also help to stabilise the high fees paid by attorneys for spending laborious hours analysing the documentation involved in these transactions. Using Artificial Intelligence technology, all of this can be altered for less expensive and faster transactional legal work in M&A.

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