Less than 60 days after Company A made a commitment to purchase Company B, Company B reported lower-than-expected, first-quarter earnings. After closer scrutiny it was discovered that a substantial portion of Company B s historical revenue had been generated by selling off existing investments to accelerate income recognition â€“ a practice called securitization â€“ rather than recognizing income over time as the financial investments matured. Earnings dropped precipitously once Company B adopted Company A s funding policies, which didn t include much securitization.
By applying their forensic accounting, analytical, and legal skills, fraud examiners can help clients identify potential issues before they commit to purchase a company, preventing unfortunate surprises after the deal has closed.
Merger and acquisition activity escalated to unprecedented levels in the 1990s. The total value of mergers and acquisitions increased from $178 billion in 1990 to more than $1.7 trillion in 1998. With the continuing consolidation of such major industries as banking, insurance, and telecommunications, mergers and acquisitions should grow at an even faster rate in the new millennium. A fraud examiner can play an essential role in these transactions acting either as an independent consultant for the buyer or as a full-time employee on the company s acquisition team.
The Acquisition Process
Every acquisition process is slightly different depending on which investment banker, if any, the seller has engaged to market the company. However, the process generally can be divided into these phases â€“ preliminary bidding, due diligence, final bid submission, contract negotiation/documentation, deal closing, and business integration.
In this phase, the seller issues to potential bidders an offering memorandum, which contains a description of the target company s operations, key management profiles, historical and projected financial information, and copies of audited financial statements. As part of the acquisition team, fraud examiners can assess the reasonableness of financial projections contained in the offering memorandum and identify trends in company performance. For example, does the target company plan to grow revenue and profit at levels higher than were historically achievable? If so, what change in business fundamentals is driving this growth? If revenues and volume are increasing rapidly, will the target be able to sustain the historical margin levels, or will margins suffer as market penetration improves?