Mergers and Acquisitions (M&A) are major corporate events that significantly impact the entities involved in the process. In India, where legal and regulatory systems are intricate and layered, conducting a thorough Legal Due Diligence (LDD) is vital. This process helps in identifying potential legal risks, ensuring regulatory compliance, and assessing the overall transaction. Legal due diligence helps uncover hidden liabilities, regulatory non-compliance, contract issues, intellectual property disputes, and other potential red flags.
What is Legal Due Diligence?
Legal due diligence is a process in which an investor or buyer thoroughly examines the legal aspects of a company or asset they are considering for investment, merger, or acquisition.
Law governing legal due diligence in India
In India, legal due diligence is governed by:
- The Companies Act, 2013
- The Foreign Exchange Management Act (FEMA), 1999
- The Income Tax Act, 1961
- Industry-specific regulations (e.g., SEBI, IRDAI, FSSAI)
Reasons for Legal Due Diligence in Mergers and Acquisitions
- To verify the title and ownership of assets and check whether the assets are free from third-party claims.
- To review the corporate structure and governance
- To assess the licenses and regulatory approvals
- To assess the related party transactions
- To check compliance with Foreign Direct Investment (FDI) Laws
- To check compliance with Employment and Labour Law
- To check compliance with Anti-Corruption and Anti-Money Laundering Compliance
- To check compliance with Environmental and Industrial Law
- To review Contracts and Agreements
- To investigate legal disputes
- To examine the Intellectual Property Rights (IPR)
- To examine the insurance coverage
- To verify the real estate titles
- Facilitates Better Negotiation and Pricing
Why is Legal Due Diligence Important in Mergers and Acquisitions?
Legal due diligence is important in mergers and acquisitions as it:
- Provides a clearer picture of the company’s legal standing, which can impact the purchase price and negotiation terms.
- Helps identify existing or potential legal issues, such as lawsuits, regulatory violations, or contract breaches.
- Helps in checking if the company complies with relevant laws and industry regulations
- It helps in examining the use and flow of finances of the company
- It gives an overall idea of the financial health of the company
Due Diligence Team
A diligence team usually consists of:
- Corporate legal counsel with M&A experience
- Specialists in areas like taxation, employment law, environmental compliance, and intellectual property
- External advisors with domain-specific expertise
- Financial and technical consultants (if necessary)
Legal Due Diligence Checklist
1. Check the Corporate Structure and Governance
- Certificate of Incorporation and all amendments
- Memorandum and Articles of Association (MoA & AoA)
- Board and shareholders’ resolutions for key decisions
- Details of subsidiaries, joint ventures, or associate companies
- Statutory registers and filings with the Ministry of Corporate Affairs (MCA)
- Shareholding pattern, including any pledge or encumbrance
2. Reviewing Contracts and Agreements
- Vendor agreements
- Customer contracts
- Lease and license agreements
- Franchise and distribution agreements
- Service agreements
- Partnership or joint venture agreements
- Non-disclosure agreements
Pay close attention to:
- Termination clauses
- Non-compete clauses
- Indemnity clause
- Confidential information clause
- Governing Law Clause
- Dispute Resolution Clause
3. Litigation and Disputes
- Details of pending or settled litigation
- Arbitration or administrative proceedings
- Show-cause notices, regulatory inspections, and penalties
- Legal notices received or issued
- Ongoing compliance audits or investigations
4. Taxation
- Income Tax Returns for the last 3 to 5 years
- GST compliance and filings
- Tax audit reports and assessments
- Advance tax payments and TDS returns
- Transfer pricing reports, if applicable
- Tax litigation and notices from the Income Tax Department
5. Intellectual Property Rights (IPR)
- Patent, trademark, copyright, and design registrations
- Ownership and assignment records
- Licensing agreements (inbound and outbound)
- Confidentiality and non-disclosure agreements
- Pending IP disputes or infringement claims
6. Employment and Labour Laws
- Employee database including roles, salaries, and benefits
- Key employment contracts, especially with Key Managerial Personnel
- Compliance with EPF, ESI, gratuity, and other statutory contributions
- Details of ESOP schemes or incentive plans
- Labour law litigation or union agreements
- Employee handbooks, HR policies, and termination clauses
7. Regulatory and Licensing
- Industry-specific licenses and permits
- Environmental clearances – if applicable
- Approvals from authorities like SEBI, RBI, IRDAI, FSSAI, etc.
- Past or pending non-compliance issues
- Records of inspections and penalties
8. Real Estate and Environmental
- Title documents, lease agreements, and encumbrance certificates
- Property tax receipts and land use approvals
- Environmental compliance reports and approvals
- Pollution control clearances and audits
- Agreements for utility services (water, electricity, etc.)
9. Financial Liabilities
- Loan agreements, security documents, and guarantees
- Letters of credit, bank overdrafts, and financing arrangements
- Inter-corporate loans or deposits
- Default notices or non-compliance with debt covenants
- Encumbrances on assets or receivables
10. Foreign Exchange and FEMA Compliance
- Shareholding by foreign investors
- FDI approvals and reporting to the Reserve Bank of India
- External Commercial Borrowings (ECB) and related documentation
- Compliance with pricing guidelines and sectoral caps
- Cross-border transactions and repatriation of profits
NOTE: Non-compliance with FEMA regulations can result in heavy penalties and negatively impact the deal.
11. Technology and Data Privacy
- Data protection policies under the Information Technology Act
- Cybersecurity measures
- Data breach records and incident response protocols
- Compliance with upcoming Indian privacy laws
- IT infrastructure, licensing, and vendor contracts
- This is increasingly relevant in digitally enabled or data-heavy businesses.
Sector-Specific Considerations
- Technology and Startups
- Strong focus on IP ownership
- Data privacy and cybersecurity compliance
- Founder and employee equity arrangements
- Manufacturing or Industrial Units
- Environmental audits
- Factory licenses and labour law compliance
- Machinery ownership and insurance
- Financial services
- RBI or SEBI approvals
- Customer data handling
- AML and KYC norms
- Retail or FMCG
- Franchise/distribution contracts
- Real estate lease terms
- Product liability risks
