Due diligence

At the initial stage of their project, any startup that is not provided with start-up capital “by birth” or as a result of a “happy event”, which happens in real life rather seldom, wants to know how to attract a serious investor.

Due diligence (eng. Due diligence – due honesty, or verification of the company’s activities) is an important step to attract investors. A similar name can be considered “project audit”.

The search for an investor is almost always, with rare exceptions, a laborious and rather lengthy process. Therefore, a beginner needs to have patience, perseverance and attention in order to learn in advance all the available information about potential investors.

WHAT IS DUE DILIGENCE?

The issue of an audit at the beginning of a company’s activities often scares the owners of the companies.  But it is worth exploring this question deeper.

For the successful completion of the transaction, which in this case implies the conclusion of a contract between the investor and the startup, Due diligence is necessary for both parties.

Investor audit is interesting because it gives the most complete information about the startup of interest to him, all the “pitfalls” of this project. Simply put, he gets the opportunity to make the right decision.

The startup, in turn, is given the opportunity to unleash its potential, show the investor all the positive aspects of this business project, convince him that this project will work and will eventually justify the financial investments.

The result of the audit will be the successful promotion of the business project with appropriate funding by the investor.

At the stage of primary investment, the investor is most interested in issues such as:

• The level of competence of a startup and its ability to work with people;
  indicators of demand for this product;
• possible risks;
  
• the scale of the project (in other words, how large the increase in future revenues will be in relation to the amount of funding for this project);

If the project has already been launched, in this case the investor will be interested in:

• human factor (in other words, the company’s management and its development potential);
  
• how successful the project will be;
  
• scale of the project;
  
• profit / loss on average per customer;
  
• possible risks.

When an investor is considering buying a business that is already working, and quite successfully, he is more interested in the following questions:

• evaluation of the investment object by independent experts;
  
• financial performance and startup budget;
  
• the business plan of this startup;
  
• legal support for this transaction;

The detailed Due diligence procedure was not approved by anyone. But usually it consists of the following steps:

• collecting information on all areas of the company’s work, its development and possible risks;
  
• protection of a start-up of its business plan in front of a potential investor;
  
• negotiations with managers holding key positions in the company, as well as with the founders of the business project;
  
• evaluation of the data obtained by a team of invited experts;
  
• consideration and approval of the annual business plan;
  
• conclusion to the discussion of the identified risks and the possibility of correcting such situations in the future;
  deal.

Also important is the time allotted by the investor for the audit. It usually takes 2-3 months. In a more detailed study – up to six months. True, there are exceptions when the process lasts less than a month. But there are few such projects.

In order to better understand the whole principle, and what should be done by the participants in this process, let’s consider how Due diligence works for each of them.

DUE DILIGENCE FOR STARTUP

Where to start Due diligence to a serious startup:

The most significant task is to prepare a business plan for the implementation of your idea in life. It is necessary to think over and justify every step. And it will be very good if you also take into account the possible interests of potential investors.
Choose the correct name of your startup, as this name can become a successful brand.

Maximum work out all the specifics of the project. The scheme of expenses for the organization of the future project or the expenses and incomes of an existing business should be absolutely clear to the potential investor. It is very important to submit information honestly, without hiding possible difficulties and expenses.

It is necessary to provide for consideration only real facts, avoiding assumptions and hypotheses that easily lead away from reality. You must prove to the investor the need to invest in your business idea. But do not forget that it is not enough for serious investors to have just one charisma and faith in their idea. They respect “bare facts” more.

Do not just get acquainted with investors, but be sure to collect all the available information about them. How long do they exist, what did they do before, what investments have they made before. Find out reviews about them. Examine all available information in detail. This can save you from possible mistakes at the initial stage of your startup.

DUE DILIGENCE FOR INVESTOR

The future investor also cannot do without auditing a startup business project. It is necessary to consider all possible risks, and therefore you need:

Carefully examine the proposed business project, how real it is, and what it can bring in the future. Or already brings. The topic of income and expenses is the most important part of almost any business.

Be sure to find out how the startup has studied this topic, its competence in this matter and the possible potential in the future.

The ability to work with people is very much appreciated, as far as a startup is able to organize a workflow. It is advisable to find out whether he is ready to be the leader of his team, or perhaps there are other opportunities for the realization of his idea. Try to maximize the possibilities of a startup now and in the future. Consider how you can help him in organizing the process of implementing a business idea.

If the project is an already existing business, then it is necessary to carefully study its profitability and development opportunities with appropriate cash investment.

Of course, due diligence for the investor contains certain risks. The fate of future investments depends on how quickly and competently the analysis is carried out, and, accordingly, the success or failure of the transaction on this business project.

POSSIBLE CAUSES OF THE FAILURE OF TRANSACTIONS

From above, we can call:

Lack of competence of the investor and his partners in this industry can ruin everything.
Too little time was devoted to studying the financing of this project, and the investor does not physically have time to study all the information.

The insincerity of a startup, withholding negative factors and / or unforeseen expenses on a project are not the most pleasant discoveries.

During the audit, there may be questions concerning the problems of implementing this project in real life, which the startup did not inform in advance or did not know at all.

And one of the important factors is the subjective assessment of the investor, based on his ignorance on this issue.
These are the main reasons, but there may be more. Therefore, an investor should take a very serious approach to the selection of specialists for due diligence.

It is also important that this process is necessary and useful for both parties, because even in case of failure, the experience gained as a result will always bear fruit in the future.

Usually when conducting an audit, the enterprise is checked in a comprehensive manner.

For assistance in conducting due diligence of your new or existing company, contact the experts of Eternity Law International.