02 June 2016

‘Due diligence’ means doing everything reasonable, not everything possible

The Securities Appellate Tribunal on 13-5-2016,  has held that even though a merchant banker has to employ its own independent due diligence, in practice, it operates with a limitation that its due diligence is based on the material brought before it by the Issuer Company. It was held that the banker cannot be expected to perform this duty in a vacuum when information is not made available to it by the Issuer Company. The SAT, in the case of Almondz Global Securities Ltd. v. SEBI, observed that a merchant banker cannot be expected to start a due diligence exercise with a presumption that a company whose Initial Public Offer is to be issued through the merchant banker would have committed fraud or mischief.
However, it also observed that even if not mandatory, the merchant banker is bound to inspect the bank accounts of the Issuer Company till the conclusion of the IPO, as it would enable the merchant banker to locate diversion of funds, if any, and reveal the true financial position of the Issuer Company.
The SAT, while making the above directions, had also made observations on the validity of a comfort letter which is issued by statutory auditors assessing the financial soundness of a company. The SAT held that it is not an ordinary certificate which can be procured by the Issuer Company for general purposes in a routine manner from any auditor, but from statutory auditors, who are governed by SEBI. It was also stated that a comfort letter is a statutorily recognized step in furtherance of due diligence undertaken by the merchant banker and hence, its value cannot be undermined.