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Investigative Accounting Useful In Due Diligence – 4th February 2013

Member: Nifa

With the news that Caterpillar Chief Executive Doug Oberhelman has accepted blame for overpaying a key acquisition in China because of a “deliberate accounting misconduct”, it would be wise for businesses to remember to bring in the investigative accountants if conducting a due diligence exercise. If a company the size of Caterpillar, the world’s largest manufacturer of construction and mining equipment can be duped, then what hope is there for the smaller company? The answer is the quality of its due diligence checks.

Last month, Caterpillar disclosed that it had uncovered “deliberate accounting misconduct” at Zhengzhou Siwei Mechanical & Electrical Manufacturing Co., a maker of roof-support equipment for underground coal mines that it had acquired last June. However, the former Chairman of the acquired firm said that he was “dismayed” at the finding, as Caterpillar had conducted extensive due diligence and that he and his board had cooperated very closely with the Caterpillar team. He added that he and John Lee, the English name used by fellow ERA director Li Rubo, had taken the company’s fiduciary and reporting responsibilities very seriously prior to its acquisition.

Notwithstanding the cooperation, Caterpillar found itself having to write down the value of the company by $580 million, having paid around $700 million for it, which is a shocking loss. Thorough due diligence, which apparently didn’t happen in this case, means that all the facts regarding the firm being acquired are available and have been independently verified. All the documents of the firm are assembled and reviewed, the management’s interviewed and a team of financial experts and accountants start the laborious process of checks and investigation to analyse them.

Without this process, figures that appear to stack up may lead to unwise purchases, which could have serious repercussions in the future. Going back to Caterpillar, Mr Oberhelman is now warning of a tough year ahead for the firm, which has been contributed to by this acquisition.

Author: Roger Isaacs, 4th February 2013

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