Due diligence is the catchall phrase used to describe both the amorphous investigative process that prospective investors and acquirors go through before, during, and after their initial decision to proceed with a transaction with your company as well as the materials (paper, electronic, and Q&A) that they and their advisors receive in response to their questions.
You may or may not get a formal list from the other side, depending on their level of formality and the nature of their advisors. Some investors know exactly what they are looking for and will figure out what they want to do from your financial model and a series of conversations. Others assume that the only way to be sure is to review a mountain of paperwork. The real answer lies somewhere in-between for most companies.
So, to get you started or at least calm you, here is a super Short Form Due Diligence Request List for a seed round investment or low-key quasi-acquisition, such as an asset purchase or stealth acquisition.
First, keep in mind that the other party may, and probably will, ask for additional information. Our goal here is first to identify anything that might concern them so it can be defused or resolved before it’s ever disclosed. (Hint to bad lawyers: you cannot hide things; there’s always a second copy floating around; the goal is to solve the problem so you can disclose how it has already been fixed.) Our second goal is to streamline as much of your work as possible so that you are not under time pressure later. The third goal is to identify the factual support for the business plan/budget that will be a critical piece of the transaction.
Here is the list of other materials you should be gathering in the background as negotiations continue, documents are drafted, and the deal moves forward.
- Financials — Copies of all historical financials for existing operations: Income Statement, Balance Sheet, and Cashflow statements. (A backup version of a QB file is something that I regularly work with to extract these directly if necessary.)
- Material contracts — all contracts that are either above a specified dollar value ($10-25k) or are otherwise important to the continued operations of the business on a similar basis. This should usually include customer contracts, all leases, all promissory notes, and IP licenses, and anything to do with stock or securities (like a warrant agreement or agreement to trade stock for services of a consultant).
- Corporate documents — Copies of current articles/certificate of incorporation & bylaws; minute book with board/shareholder consents & minutes.
- Other risks — A description of any pending litigation, whether company is plaintiff or defendant; any audit letters from auditors if financials have been audited in last 3 years; a description of any off-balance sheet obligations or other liabilities; and a summary of any related-party transactions, individually or in the aggregate greater than $25,000.
This ThoughtStorm Due Diligence Request list is a version written from the perspective of an investor and is a little more detailed than what I have above. It’s more like a reasonably thorough list that will get you most of the way to complete for an early-stage company.