Thorough due diligence is the foundation of informed decision-making in corporate transactions.
However, conducting due diligence can be complex, time-consuming, and filled with challenges. The sheer volume of data you need to review can be overwhelming, making it difficult to analyze and assess each piece of information efficiently.
A company due diligence checklist solves just that.
This checklist is a comprehensive compilation of key areas to investigate, crucial documents to examine, and vital questions to ask. With each item checked off, you'll be able to piece together a clearer picture of the risks and opportunities that lie ahead.
What is due diligence?
Due diligence is an in-depth investigation wherein a company or individual undertakes thorough research into a business, asset, or an opportunity before proceeding with the said transaction. Due diligence verifies facts against a background of collected and reviewed detailed information to educate the client on potential risks and challenges which may arise concerning the deal. Due diligence, when commonly applied to merger and acquisition cases, partnerships, and investments, means verification of information and assurance that a transparent view of the potential benefits and liabilities is obtained. The decision-makers can thereby analyze the financial position, records, legal obligations, operational assets, and intellectual property of a company to make well-informed choices that reduce risk and optimize success in the transaction.
Why due diligence?
Due diligence guards against unexpected pitfalls by ensuring every angle is considered in a deal. Example:
- Identify hidden risks that may impact deal value
Due diligence underlines the risks that might not be evident from the beginning, like unsettled litigation, high labor turnover, or obsolete equipment that could impact the value of the transaction.
- Steer towards better decisions with crystal clear vision.
It would enable the decision makers to negotiate better terms or make the necessary adjustment, as far as possible, by understanding the assets, debts, and overall performance of a company.
- Transparency by Design
“I was responsible for helping outside counsel negotiate the stock purchase agreement as well as leading legal due diligence. For the latter, we created a cloud-based data room and Google spreadsheet to track and assign each round of requests. When I had the due diligence call with investors' counsel, I could quickly click into documents from the dashboard when they asked about something rather than having to go off of memory.”
~Navigating Economic Turbulence and Thriving in Chaos with Jonathan Franz, Head of Legal, Crunchbase
Due diligence gives confidence to investors, lenders, or partners that the company projects have a clear vision of transparency and completeness.
- Ensuring the company’s value matches its price
It confirms the value of the company through an analysis of financials, liabilities, and market potential by due diligence to ensure that one is not overpaying for the company.
Challenges in conducting company due-diligence
Conducting company due diligence presents a myriad of challenges for in-house legal counsel. As the gatekeepers of legal compliance and risk management, you navigate a complex landscape where hidden liabilities, regulatory hurdles, and incomplete information lurk.
In this ever-evolving business environment, the ability to identify, assess, and mitigate these challenges is paramount to safeguarding the interests of the company and ensuring informed decision-making.
#1 Adhering to the compliance guidelines
“While some companies view the legal and legal ops teams as cost centers without a financial benefit, legal actually provides a cost avoidance benefit — such as regulatory fines, compliance errors, lawsuits, etc. — that should be measured as a goodwill component and value-add. Legal has to evolve just like any other team."
~Shaping Efficient Legal Frameworks with Jesimin Berman, Director of Legal Ops & Compliance, Papaya Global
One of the biggest responsibilities of the legal counsel team is to stay compliant with the federal laws, state laws, special acts, etc., to ensure compliance. But it can be challenging to remain compliant since the laws are constantly changing and evolving.
Also read: What is Contract Compliance? The Ultimate Guide
#2 Too labor-intensive
Going through every document takes time and involves the entire legal counsel team interviewing and scrutinizing all the documents thoroughly. The legacy tools and manual methods are no longer relevant, especially when the organization grows.
#3 Data can be unreliable
Data can be outdated, especially when there is no real-time data update. And when data is inconsistent, it's evident that it will minimize the accuracy and slower the company's due diligence process.
How to conduct due-diligence effectively?
When it comes to conducting due diligence, effectiveness is key. You need to shoulder the responsibility of ensuring a thorough and meticulous examination of a target company's legal, financial, and operational aspects.
#1 Leverage AI for due diligence
AI can have a big impact on how legal teams conduct due diligence.
“Due diligence reviews for a corporate transaction typically involve a bunch of lawyers going through documents (hard copy or in an e-room) looking for litigation issues, key contract clauses (e.g., change of control, assignment, etc.), corporate governance, intellectual property, etc. Generally, it takes many hands (usually outside counsel) and many hours/days to complete. AI can do this in a fraction of the time.”
~ Sterling Miller, CEO and Senior Counsel, Hilgers Graben PLLC
Ten Things: Artificial Intelligence – What Every Legal Department Really Needs to Know
SpotDraft is one such contract management tool that effectively uses machine learning and artificial intelligence to automate the contract workflow, identify gaps, and uncover insights hidden within contracts.
Also read: How AI Is Changing Contract Management for Legal Teams
Also read: AI in Due Diligence: Everything You Need to Know
#2 Try the ‘scoping’ method
Due diligence is one of the most complex and elaborate processes to ensure that the legal team gets the deepest knowledge about the other company. A small miss here or there can significantly impact the deal or the valuation.
“Scoping process is a great way to determine ‘what’ needs to be reviewed, by ‘whom,’ ‘where,’ ‘when,’ and for ‘what’ purpose. A helpful tool is to map out due diligence on an ‘x/y’ axis with ‘x’ being the jurisdictions and ‘y’ being the subject areas.”
~ Sterling Miller, CEO and Senior Counsel, Hilgers Graben PLLC
Ten Things: The Essentials of a Successful Trans-Border Transaction
Source: Peter Knight via LinkedIn
#3 Keep a company due-diligence checklist
A company due diligence checklist helps you to stay organized with all the documents and interviews while running corporate due diligence. It helps learn about the company’s assets, liabilities, contracts, benefits, and potential risks in an organized manner. The biggest advantage of having a checklist is nothing gets overlooked while conducting a due diligence process.
The importance of a company due-diligence checklist
#1 Risk identification
The main purpose of a due diligence report or checklist is to identify potential risks and legal issues with a company's operations, contracts, intellectual property, compliance, and regulatory matters. It ensures that the in-house counsel doesn't overlook anything critical that can have any negative impact later on.
#2 Compliance verification
“While it doesn’t always get the love it deserves, a robust compliance function is an important part of risk-reduction at companies of any size. As such, in-house lawyers should get behind the creation of a compliance group if there isn’t one or enhance the existing one whether it sits in the legal department or not.”
~ Sterling Miller, CEO and Senior Counsel, Hilgers Graben PLLC
Ten Things: Building a Strong Compliance Department
In-house counsel must verify if the company adheres to relevant laws, regulations, and industry standards. The checklist assists in evaluating the company's compliance program, policies, and procedures to identify gaps or areas requiring improvement.
Also read: What is Contract Compliance? The Ultimate Guide With Tips and Best Practices
#3 Contract assessment
Contracts are an integral part of any business. In-house counsel can utilize the checklist to review employment contracts and agreements, ensuring that the terms and conditions are favorable and protect the company's interests. They can identify any contractual risks or obligations that need to be addressed.
#4 Intellectual property (IP) assessment
Protecting intellectual property is crucial for the future growth of many companies. The checklist helps in evaluating the company's IP portfolio, identifying any potential infringements, and verifying the ownership and registration status of patents, trademarks, copyrights, and trade secrets.
Also read: How to Review Intellectual Property (IP) Licensing Agreements: A Comprehensive Guide
#5 Financial and tax considerations
In-house counsel can review financial statements, tax returns, and other financial documents to assess the company's financial health and identify potential risks or liabilities, such as outstanding litigation, tax obligations, or regulatory issues.
#6 Litigation and regulatory history
A due diligence checklist enables the in-house counsel to investigate past or ongoing litigation, disputes, or regulatory actions involving the company. This helps in assessing potential liabilities, reputational risks, and the need for appropriate risk mitigation strategies.
#7 Corporate governance
The checklist helps practice good ethical practices and outlines the role of boards in it, thus ensuring good governance is practiced within the organization. This helps the board oversee the entire due diligence process and ensures the company sticks to all the ethical standards during a merger and acquisition.
Key components of a company due diligence checklist
Corporate due diligence checklist checks all the crucial company information, including the company's financial health, legalities, operational information, etc. Here are the key components of a company due diligence checklist.
#1 Company information
Check for all the basic company information like:
- Company registration details
- Stakeholder details
- Partnerships
- Trade license
#2 Financial information
It focuses on the company's financial performance, reviews all financial statements, and checks if they are accurate. Some of the key documents that are reviewed include:
- Tax return documents
- Financial documents audited for at least three years
- Company investment details
- Capital structure
- Projections and capital allotments
#3 Legal documents
The goal here is to look for all documents related to the legal aspect of the company. This includes contracts, licenses, and various other legal liabilities. During the legal due diligence, documents that are reviewed include:
- Different licenses
- Power of attorney documents
- Tax registration documents
- Shareholder documents
- Different work permits
- Occupational license
#4 Operational information
This covers all the information related to the operational status of the company. Some of the documents that are checked include:
- Annual reports
- Profit/loss records
- Balance sheets
- Staffing and payroll related documents
- Equipment inspection reports
#5 Intellectual property
During intellectual property due diligence, you assess the risks and value associated with the company's intellectual properties. Documents that are scrutinized in this include:
- Copyrights documents
- Trademark documents
- Patent portfolio
#6 Market analysis
During a market analysis due diligence, you review the market proposition of the business you buy or sell. It analyzes the company’s market performance, share, positioning, and strategy. Documents that are reviewed include:
- Document related to market strategy
- Market positioning document
- Market share and market performance documents
Also read: The Perfect Contract Risk Assessment Checklist
Company due diligence checklist: Free Template
Company information
Financial documents checklist
Legal document checklist
Operational document checklist
IP documents checklist
Market analysis checklist
Best practices to conduct the due diligence process
Different companies have different scenarios and hence different levels of due diligence processes during a sell-off, fundraising, or merger and acquisition.
#1 Define your goals
Like any business operation, start with defining your goals. This will help you to decide the key areas of focus, like what kind of resources you will need, the timeline for the completion of the process, and how your due diligence will align with the ultimate goal. Once you set your goals, gather the right people to conduct your due diligence. These can be:
- Fund managers
- Equity research firms
- Business owners and directors
- Risk and compliance analysts
#2 Requesting and reviewing relevant documents
Once you have defined your goals and identified the resources, it's time to gather relevant documents. If you're going for a merger and acquisition, some key documents you will need are contracts and agreements, licenses, financial transaction documents, etc. Use the checklist provided above for each of the categories.
#3 Conducting interviews with key stakeholders
In addition to analyzing the documents, you should also conduct interviews with stakeholders, including key employees, customers, and management. Prepare a list of questions to ask during the interview to avoid missing essential points.
#4 Performing site visits and inspections
Visit the sites to gather first-hand data from the inspections. Evaluate its supply chain, warehouse, production unit, etc.
#5 Analyzing and synthesizing the gathered information
Now that you have all the insights, it's time to analyze the data and derive inferences. Is this deal worth doing, or you're missing out on something crucial? While doing this manually can take you a month, with Spotdraft, you can reduce the time significantly.
When a new contract is imported into the system, SpotDraft's powerful machine-learning model extracts key phrases from contracts. This speeds up the due diligence process. You can also run complex contracts through SpotDraft to create custom reports that you need to produce during due diligence.
The right moment for due diligence
Due diligence is ideally performed early in the transaction process. Here are some key instances when it’s most beneficial to perform due diligence:
- Mergers and acquisitions (M&A): Before a merger or acquisition, due diligence helps the acquirer understand the target company’s worth, potential synergies, and any hidden liabilities
- Partnerships and joint ventures: When entering a business partnership, due diligence ensures that each party’s values, goals, and financial health align, reducing conflicts down the line
- Venture investments: For investors considering an equity stake in a startup or business, due diligence reveals if the opportunity aligns with their financial and operational criteria
- Real estate transactions: In real estate, due diligence involves reviewing zoning laws, inspecting property conditions, and confirming ownership rights to avoid future issues
- Renewing key contracts or entering new markets: Performing due diligence before expanding operations helps companies understand local regulations, market risks, and competitive landscapes
Five must-know types of due diligence
- Financial due diligence: Review the financial statements, tax records, and cash flow to reflect on the debts or assets by gauging financial health and profitability
- Legal due diligence: Involves the verification of contracts, intellectual property, litigation history, and regulatory compliance for legal risks
- Operational due diligence: It involves investigating the business model of the company, including its production processes, supply chains, and any other relevant operational components to ensure these elements are indeed working variably in an effective manner
- Intellectual property (IP) due diligence: provides reasons for verification regarding the ownership of trademarks, patents, copyrights, and trade secrets in order to stay away from infringement risks
- Environmental due diligence:It means the investigation into the target company's compliance with the environmental regulations and liabilities in respect of environmental risks, which is very important in manufacturing or heavy industry businesses
Conducting company due diligence with SpotDraft
Due diligence is one of the most critical steps during a company merger and acquisition. It’s often overwhelming to manually scrutinize all the documents and interview the concerned people.
That’s where SpotDraft comes in. SpotDraft is a contract automation and management software meant for businesses of all size. Want to learn more about Spotdraft and how it can help your contract management process? Schedule a demo today.
