Getting to know Due Diligence

Most people generally know that an audit is an audit to provide confidence in a company’s financial statements for the decision-making of users of public financial statements. However, there is another audit that is an audit of work that follows an agreed-upon procedure called “Due Diligence”.

What is Due Diligence? 

Due Diligence is a business review by examining the status analysis, evaluating the company’s assets and liabilities to ensure that they are correctly and completely valued as recorded in the accounts and actually exist. This method is often used in the case of buying or selling a business. However, investors or those interested in buying a business will not conduct the due diligence themselves. They must rely on expert reviewers and expertise because the target business may be large or complex. If there is an error in the information or the facts are not reported because the error may mean a large loss of investment. 

In general, due diligence has different main purposes, such as financial due diligence, which focuses on examining the accuracy of figures and financial information, including considering the value of assets, liabilities, and financial statements at a certain period of time, whether the seller or the target business has overstated the value of assets or understated liabilities, or whether the acquisition of profits includes the projection of future financial information, or legal due diligence, which considers from a legal perspective whether the target business is at legal risk, such as being sued, being claimed for damages that may not yet appear in the financial statements, contracts between business partners to know future obligations or liabilities, which may have long-term implications for investors or those interested in acquiring the business in the future, etc. When the due diligence is complete, investors or those interested in acquiring the business will receive a report of facts, strengths, weaknesses, and various business factors, including an executive summary that is an important detail that should be given special attention.

In general, due diligence has different main purposes, such as financial due diligence, which focuses on examining the accuracy of figures and financial information, including considering the value of assets, liabilities, and financial statements at a certain period of time, whether the seller or the target business has overstated the value of assets or understated liabilities, or whether the acquisition of profits includes the projection of future financial information, or legal due diligence, which considers from a legal perspective whether the target business is at legal risk, such as being sued, being claimed for damages that may not yet appear in the financial statements, contracts between business partners to know future obligations or liabilities, which may have long-term implications for investors or those interested in acquiring the business in the future, etc. When the due diligence is complete, investors or those interested in acquiring the business will receive a report of facts, strengths, weaknesses, and various business factors, including an executive summary that is an important detail that should be given special attention.

The 4 main issues in conducting due diligence are: 

1. The company has a clear, fair structure and does not create a conflict of interest. 

2. If the company has transactions with a person who may have a conflict of interest, it must not be a channel that creates a transfer of benefits. 

3. The company has an adequate and efficient internal control system. 

4. The financial statements are in accordance with financial reporting standards and there is no reason to suspect that the accounts have been manipulated. There are at least 2 main issues to consider as follows:

  4.1 The financial statements are in accordance with financial reporting standards and there is no suspicion of account manipulation. 

(1) The auditor is on the list approved by the SEC. 

(2) The auditor’s report must not have the following characteristics: 

(a) The financial statements do not conform to financial reporting standards. 

(b) Disclaimer of opinion on the financial statements. 

(c) There are conditions due to limitations in scope by directors or executives. 

(3) The auditor’s report must not contain any unusual observations. If such cases occur, the auditor must conduct an in-depth examination. 

(4) If unusual items are found, the auditor must conduct an additional in-depth examination. For example: 

– There are unusual items or figures, or figures that have changed significantly from the previous period. 

– The aging of debtors is not disclosed or is not clearly disclosed. 

– Even though there are long outstanding trade debtors, the business still sells products to that debtor. 

– There is no provision for impairment of receivables even though they have been outstanding for a long time. 

– There is insufficient provision for impairment of receivables for debtors that are outstanding for more than 1 year. 

– There is no provision for deterioration of inventory in the case of easily deteriorated/easily obsolete products. 

– In the case of restructuring within the group (under common control), goodwill is recorded as the company’s asset. 

– In the case of selling large core assets, check to see if it is a true sale. 

– There is a large amount of asset impairment. 

4.2 Accounting personnel must have sufficient knowledge and skills in preparing financial reports.

Financial Due Diligence 

This engagement involves the auditor directly engaging in an agreed-upon procedure audit in accordance with the Related Service Standard 4400 (Revised). It is not an audit, review or assurance engagement and does not involve seeking evidence to support the professional opinion or conclusion on any other basis. 

Purpose

It is to agree on a mutually agreed-upon procedure with the employer and to communicate the procedure to the employer on any findings relevant to the requirements of the Related Service Standard 4400 (Revised).

Scope of Engagement

Acceptance 

The auditor must understand the purpose of the engagement before accepting the engagement and should not accept the engagement if facts or circumstances indicate that the procedures requested to be performed are not appropriate for the agreed purpose of the engagement. 

Agreeing on the Terms of Engagement 

The auditor must agree with the employer on the terms of the engagement to perform the agreed – upon procedures in an engagement letter or other appropriate written agreement. Such terms must include the identification of the audit issues, the purpose of the engagement, the nature of the engagement, the timing and extent of the agreed – upon procedures as specified by the employer. This is not an assurance engagement and, accordingly, the auditor does not express an assurance opinion or conclusion.

Using the work of another professional employer’s experts, the auditor shall:

1. Assess the knowledge, competence and fairness of professional entrepreneurs
2. Agree with the expert of the professional entrepreneur on the nature, scope and purpose of the work of the expert of the professional entrepreneur.
3. Consider whether the nature, duration and scope of the work performed by the professional employer’s experts are as agreed; and
4. Consider whether the findings adequately describe the results of the work, taking into account the work of the professional employer’s experts.

The report on the performance of the mutually agreed – upon procedure shall be in writing. The information should be specified in the report, such as:

1. The name of the report clearly indicated as a report on the performance of the agreed – upon procedure.
2. Report as specified in the terms of engagement.
3. Identifying the issues that put the agreed – upon procedure into practice.
4. An indication of the purpose of the report on the performance of the agreed – upon procedure and a message stating that the report on the performance of the agreed – upon procedure may not be suitable for use for other purposes.
5. Job description following the agreed – upon procedure.
6. Where appropriate, the person in charge as specified by the Employer and a message stating that the person in charge is responsible for the matter in implementing the agreed – upon procedure. 
7. Message stating that the operation by the agreed – upon procedure is in accordance with the Related Service Standard 4400 (revised).
8. A message stating that the professional does not give an opinion on the appropriateness of the agreed -upon procedure.
9. A message stating that the work that follows this agreed – upon procedure is not an assurance work, therefore, the professional employer does not express any opinion or provide any reassuring conclusions.
10. A message stating that if the professional employer has adopted additional practices, the professional employer may find other topics to be presented in the report.
11. A statement stating that the auditor has complied with the accounting professional code of conduct or other professional requirements, or any legal or regulatory requirements not less stringent than those relating to independence.
12. A description of the methods of work with details of the nature and scope and the period (if any) of each method as mutually agreed in the terms of engagement and a summary of the findings in each method of work, including details of the exceptions found.
13. Signature of the employer, date in the report, location of the office in the country where the employer operates. 

According to the work performed by the agreed – upon procedure, the assignment is to audit the figures in the financial statements in a commonly agreed accounting period which all transactions shall be audited 100% to ensure accuracy. This is different from auditing, which will select a sample and audit each transaction to ensure the reliability of the company’s financial statements. Dharmniti Auditing Co., Ltd. not only provides auditing service for business entities, but also provides agreed – upon procedure audit which is the due diligence audit. 

Author: Supatra Pongpid

Reference: 2023 Auditing Standards TSRS 4400 (Revised): Work Performed by the Agreed – Upon Procedure