People in Deals

During transaction due diligences, human capital considerations are often overlooked—sometimes due to budget constraints or a limited understanding of their complexity and impact. However, proactively assessing people-related costs and risks is essential. While financial, tax, and legal reviews are standard and critical components of any deal, conducting a thorough evaluation of the workforce ensures a more complete picture. This approach helps identify potential liabilities, alignment of workforces, and avoid costly surprises post-transaction, ultimately contributing to a smoother integration and long-term success. 

As such, it is necessary to understand what human capital due diligence is to fully understand its necessity in the transaction process. While self-explanatory, it entails evaluating the workforce's skills, cost, capabilities, culture, and policies to identify potential risks, synergies, and possible opportunities related to the transaction. This analysis helps the buyer make an informed decision about the financial implications of the workforce involved in the transaction, possible integration challenges, and the overall strategic fit of the workforce in the deal (especially if a buyer is looking to integrate operations).

In our upcoming series, the importance of a human capital due diligence, the various elements that are reviewed in such a due diligence, as well as the value it can add to a transaction, will be addressed. The first in our series is about people costs.

When conducting a human capital due diligence, one of the easiest ways to assess the financial viability of the workforce is to do a people cost analysis. This analysis varies from what is addressed in a financial due diligence where overall labour costs are assessed. It’s a labour costs analysis, but with a magnifying glass x10. 

People costs extend far beyond basic financial metrics. The process evaluates all the expenses associated with the workforce and offers a valuable lens into an organisation’s detailed workforce; this includes salaries, wages, benefits, incentives, training and development programmes, and other related costs. These insights are essential for understanding future workforce costs, as well as designing effective integration or separation plans that support business continuity, especially when there is a requirement to harmonise pay across entities in a transaction.

By evaluating the associated costs of the workforce that a buyer will inherit, including factors such as the compensation structures, incentive plans, and employee benefits of the workforce, insights will be gained into:

• The detection of retention risks, especially where compensation is below market level; workforce grading misalignment; legacy pay structures, and variable incentives, amongst others
• The identification of key talent based on pay levels and incentives
• An organisational approach to employee benefits and reward practices affecting cultural alignment to avoid employee dissatisfaction if the workforce integrates
• Understanding whether there is a shareholder payout because of the transaction that needs to be considered in the deal agreement

Once the people cost relevant to the transaction has been assessed, it’s important to:

• Evaluate the proportion of people costs relative to the total transaction value to understand the impact on overall profitability. This analysis helps determine whether people costs are aligned with the value being delivered, enabling more informed decisions around cost efficiency
• Identify opportunities where costs can be streamlined by leveraging automation, improving processes, and reallocating resources more efficiently. These strategies can unlock value while maintaining operational effectiveness and business continuity

The above points become even more imperative if the entities involved in the transaction are integrating. By omitting a people costs analysis, certain costs may go unnoticed and only become visible after the transaction has concluded. 

While evaluating the costs of the current workforce is the first step, it is also important to assess the workforce costs associated to the deal to be able to conclude the transaction (i.e. possible retention bonuses and incentives for senior employees, as well as making sure that employees are not financially worse after the deal has concluded).

Neglecting people costs when moving forward with a transaction can lead to:

• Inaccurate valuations: when excluded or underestimated in the valuation, the projections become distorted, leading to an overstatement of expected synergies or underestimation of integration costs
• Operational disruptions: regardless of the type of business, employees are the foundation of the business and workforce stability is essential for business continuity. Failing to invest in integration planning of the workforce can result in inefficiencies, confusion, and resistance of the transaction across the organisation
• Loss of critical talent: when organisations overlook the costs and complexities of aligning teams, retaining key talent, and managing change, they risk losing high-impact individuals, causing delays and execution failures
• Failure to realise strategic objectives and deal value: because of the above, projected synergies may not materialise, and the deal may fall short of delivering its intended value

The deal process can be long, and the time and effort over and above the financial investment is demanding. However, with thoughtful planning and careful consideration the right strategy can assist in achieving value in the transaction long after it is closed. 

By identifying critical cost drivers early in the transaction process, while negotiations are still being conducted, executives will be empowered, making well informed decisions and paving the way for a successful transaction.

Ultimately, integrating human capital due diligence into the broader due diligence process empowers dealmakers to uncover hidden risks, unlock operational improvement strategies, and design more resilient post-deal integration or separation plans.