Introspective Due Diligence - M&A due diligence as a model for cost-mitigating self-analysis of labor and employment law compliance risks

We devote a substantial part of our practice these days to helping clients conduct due diligence to assess other businesses that they think they might acquire. Much of our work is focused on overseeing our subject matter expert (SME) teams as they assess all manner of potential labor, employment, benefits, safety, and other risks that could lead to material exposures post-acquisition. Our job during this due diligence is to identify the types of potential legal (and related) issues that could give rise to class and collective action litigation, government investigation, and other expensive and disruptive actions that would create substantial costs if they were to become reality in the future. 

Due diligence in this context makes perfect sense. Of course a client would want to know before buying another business if the acquisition would give rise to risk and cost after the deal closes. Mitigating future risk is, naturally, part of good operational hygiene.  The due diligence we conduct on acquisition targets permits a level-headed assessment of whether there are risks that it would be so expensive to mitigate in the future, or so costly to defend, that it would not make sense to go forward with the deal now. The potential advantages of the acquisition would be offset by the burdens and costs arising from one or more risks we identify and the probability of those risks becoming reality is material.

While we have devoted a significant part of our practice to running these types of due diligence assessments of business that our clients might acquire, we have focused much more of our time to helping our clients keep their own operations in compliance with local, state, and federal employment laws. From that vantage, it occurred to us that the types of due diligence that we do on acquisition targets present an opportunity to avoid risks and associated costs for existing operations.

Why wouldn’t the process we use to conduct due diligence assessments be as effective if turned inward to those current operations and compliance practices as they are when turned outwards?  Our SME teams could assess a client’s compliance practices to identify those material risks that, if they became a reality, would give rise to substantial burdens and costs. Once identified, measures could be implemented to mitigate or avoid those risks effectively, and thus to reduce the costs of contending with them later.

These kinds of cost-reduction strategies will be crucial in the coming years. A recent survey of 1,000 global general counsel, in fact, revealed that in-house lawyers foresee a “freight train” of legal risk coming at them in the fairly immediate future.  (See great Law360 article by Sue Reisinger ) The general counsel who responded to the survey -- conducted jointly by Ernst & Young Global Ltd. and the Harvard Law School Center on the Legal Profession -- explained that they anticipate substantially increased legal exposures because of the complex regulatory environment and post-pandemic compliance needs (while they also expect that their businesses’ leaders will demand that they contend with the increased exposure on much reduced budgets for legal spend).  

There is a lot to be taken from the survey’s results. A very fundamental point that we took, however, is this: If companies’ general counsel anticipate greater future risk with less budget to address it, then the solution must be to reduce that risk.

An exemplary, time-tested model for avoiding prospective legal risk exists in the M&A due diligence we’ve been doing for years.

Our teams have conducted scores of these retrospective audits of businesses that might be acquired. We have developed a comprehensive process for doing them: (1) We identify at the front end what issues are likely to give rise to the greatest risk. (2) We interview management teams and stakeholders to understand how that risk might arise. (3) We request and review specific documents and data. (4) From all that we collect, we determine with fairly reasonable certainty the level of risk that a business’s compliance practices — or lack thereof — actually present.  And (5) we counsel our clients about how those risks can be reduced post-acquisition.

The Process

Steps shown in image above: 

1. Kickoff meeting and goal definition
2. Stakeholder engagement, project championship, and planning
3. Information, document, and data collection
4. Stakeholder and subject matter expert interviews
5. Corroborative follow-up
6. Assessment, research, and analysis
7. Preliminary report of findings
8. Follow-up and loop-closing activity
9. Final reporting, recommendations, and remedial planning

This highly tailored model is different from a typical employment law audit because, based on our experience, we are able to collaborate with an employer’s stakeholders to prioritize and then focus on the issues most likely to result in material risk.  And our due diligence-tested process permits us to do so effectively and incisively. 

Put simply, we use a straight-forward, targeted assessment model that will permit a business to conduct a self-examination of its own practices to ascertain what risks might exist and to what extent they might give rise to material exposure in the future. Its results will serve as a foundation on which recommendations may be made for cost-conscious means to eliminate or mitigate those risks.

What might this our introspective due diligence cover? Some of the things our subject matter teams might examine, under the various protections of attorney-client privilege, include:

• Practices that might give rise to class or collective wage and hour litigation.
• Practices that might give rise to EEOC enforcement actions or class actions on the basis of unfair or unequal pay provided to protected categories of employees.
• Compliance with government contracting diversity and prevailing wage requirements.
• Vulnerabilities to traditional labor union organization, for workforces not already unionized.
• Compliance with special provisions of states laws the violation of which could lead to massive, multi-jurisdictional litigation.
• Paid time off and leave policies and practice.
• Benefits law compliance.
• Adoption of best practice workplace safety measures.

Regardless of the subject matters to be assessed, any self-facing diligence must be tailored to a business’s particular culture, climate, and needs. The M&A due diligence process provides an effective model that can be easily adapted to any of those and will permit in-house counsel and their stakeholder clients to assess the risks most likely to give rise to substantial future costs and to avoid them.

If you would like to consider this path to avoiding the freight-train of future costs, please let us know. We would be happy to help.  Of course, if you would like our help with any more typical due diligence work, we’re on standby to assist in any way you might need.

Brett C. Bartlett is a partner in Seyfarth Shaw LLP’s Atlanta office, where he chairs that office’s labor and employment department. He also co-chairs the firm’s national Wage and Hour Litigation Practice Group. In addition to defending high-stakes class and collective action litigation (and helping the firm’s clients use best practice employment law compliance models to avoid it), Brett helps private equity, mid-sized businesses, and publicly traded companies with risk assessments, due diligence, and workforce strategy development.

Honore Hishamunda is a senior associate in the firm’s Atlanta office. Honore’s broad-based knowledge of employment, benefits, immigration, and other corporate matters, as well as his ability to work calmly through complex and sometimes chaotic stakeholder dynamics, have permitted him to develop the skills to manage detailed, efficient assessments of businesses’ policies and practices, along with the culture and climate within which they are implemented.