Due diligence is an investigative process to identify, verify and confirm the claims of another party before signing a contract, forming a partnership or buying a company.

With huge numbers of high stake business transactions taking place daily across the globe, and with fraud being so pervasive nowadays, due diligence is a necessary step which allows companies involved to quantify the real risk by gaining insights into the histories of a target company or an individual to enable informed decisions to be made.

For the purposes of this article, the specialist due diligence team at Blackhawk Intelligence explains what due diligence is, common types of due diligence, the importance of post-transactional due diligence, and errors associated with due diligence, with the least amount of technical vernacular and jargon.

What is due diligence?

In legal circles or the financial sphere, due diligence is a responsibility undertaken by a party to investigate, verify and confirm the claims made by the other party before both parties sign a contract, form a partnership or when one party buys up the other.

The aims of due diligence are to protect a business’s interests by making sure that the other party you’re entering a contract with is genuine, and you have verified that its business practise, assets, financial performances and statutory obligations will not expose you to unforeseen liabilities. In other words, it mitigates risks and makes sure that there aren’t any surprises.

Due diligence can also be performed towards an individual as opposed to a company. In this instance, you’re verifying the individual’s background, source of wealth, litigation risk, to name but a few.

Due diligence is often a time-consuming process and uses investigative techniques beyond normal protocols and procedures. Because of this, company directors and legal representatives often require the assistance of professional due diligence specialists like Blackhawk Intelligence to help with the due diligence process, particularly in circumstances where the stakes are high.

When should due diligence take place?

Due diligence can be required at any point in the business lifecycle. It can be pre-emptive (before an investment is made for instance) or post-transactional (reactionary and responsive).

At Blackhawk Intelligence, we believe that due diligence is not a one-off process, rather it is more a corporate way of life and a form of continual risk assessment, as the process enables you to make informed decisions and avoid paying a higher price later.

Most businesses, however, only think of due diligence when they are about to perform one of the following functions:

  • Signing a contract
  • Forming a partnership
  • Purchasing a business
  • Hiring a C-level executive
  • Expanding your business operations in a foreign market
  • Taking the company public
  • Meeting a statutory obligation
  • Meeting a social obligation

Types of due diligence

It is worth pointing out due diligence can take various forms and target specific business functions. In this article, we will discuss financial due diligence, legal due diligence, human resource due diligence, environmental due diligence and intellectual property due diligence. We will also cover post-transactional due diligence.

Financial due diligence

Financial due diligence is one of the most common requests we receive and one that we have assisted many investors with. At its core, financial due diligence is a comprehensive process aiming to assess a company’s financial strengths by reviewing its financial data. A large part of financial due diligence is also spent on assessing a company’s debt situation and its tax compliance.

In essence, financial due diligence is risk assessment and encompasses a process of verifying and investigating whether a deal is going to be worthwhile (and potentially auditing this deal if there are any inconsistencies that arise throughout the process of investigation). What this provides is an assurance that your company’s interests are not going to be negatively affected by the potential partnership or contract and that what you are signing for is what you are going to get.

In a nutshell, this equates to legitimacy and is an imperative practice in circumstances where you need to validate that what you are dealing with is what you are going to get in the long term.

Legal due diligence

Further to reviewing the financial and economic legitimacy of a company, it is also important to investigate the company’s structural makeup, as well as the individuals responsible for the operation on a deeper level. Legal due diligence involves a poignant investigation into these areas:

  • Ownership of a company (share certificates issued to directors, board members or key stakeholders)
  • Ownership of a company’s assets
  • Management structures
  • Company procedures
  • Minutes of board meetings (including any actions resulting from said meetings)
  • All legal obligations such as loans
  • All contracts and agreements, from clients, vendors to partnerships
  • Ongoing litigation, if any

An insight into these areas often sheds lights on the motives of stakeholders involved in a deal and may also uncover whether the potential partnership is actually going to be beneficial to your company. As such, legal due diligence is a fundamental aspect of overall deep level due diligence and is a requirement of any service provider looking into the background of a potential partner.

Human Resources due diligence

Another more bespoke, specific mode of due diligence that lends itself to the internal workings of a company, HR due diligence assesses the employment structures of a potential partner. Here, we are looking to gain an insight into the number of employees a company has, analysing their contracts, salaries, leave policies, corporate culture, as well as any disciplinary cases currently in progress.

Closely aligned with legal due diligence, HR due diligence represents an attempt to uncover any anomalies or discrepancies within the company’s current structural setup, and as such, is an important aspect of the overall process.

Human resources due diligence is not restricted to individuals currently employed either. In the event that you are offering a contract to a potential employee, particularly a C-level executive, ensuring that their credentials, background and history are all valid is critical to ensuring that you are finding the right person for the role. Failure to do so can have a detrimental impact on the health and positioning of a company, particularly in circumstances where the role is one of great stature or importance.

Environmental due diligence

Traditionally, only companies that have direct impacts on the environment require environmental due diligence, but with climate change now dominating news headlines, companies are taking initiatives to institute programs to reduce their environmental footprint and contribute to carbon emission reductions.

In our recent post “Environment ethics due diligence”, we explained in great detail what environmental due diligence is and shared a few examples. You can follow the link to read more.

Intellectual Property due diligence

With the rise of digital technologies which make file sharing easier and with many countries still not enforcing strict intellectual property laws, the FBI sees preventing intellectual property theft a priority of its criminal investigative program.

In the UK and Europe, we have seen the dire consequences when companies fail to safeguard their intellectual property which can range from patents, trademarks, copyright, trade secrets or confidential information to registered design.

Considering that intellectual property theft is becoming increasingly common, it is only natural for companies to review and verify the intellectual property ownership, usage and licensing issues of another party before signing a contract. The scope can include but not limited to:

  • Nature and functions of the intellectual property
  • Stages of development
  • Value of the intellectual property
  • Ownership and licensing agreements
  • Ongoing maintenance

At Blackhawk Intelligence, our IP due diligence process usually involves at least one qualified patent attorney with expertise in IP law plus a team of due diligence research experts.

Post-transactional due diligence

In circumstances where proper due diligence has not been performed prior to the signing of a contract, we often see companies involved struggle to cope with the dire consequences. A few cases we have worked on include:

  • A company bought a business without realising the sales forecasts had no basis, leading to the closure of the first company.
  • A company hired a C-level executive without conducting a thorough background check, and the said individual later chose to manipulate accounts and embezzle funds.
  • A company entered into a licensing partnership without verifying the IP ownership, leading to litigation.

Post-transactional due diligence involves the review of processes and actions that led to a loss and encompasses an investigation of the practical aspects of the problem. In the event that proper due-diligence was not performed, this may mean going back to the basics and starting from scratch; or in the case where your business has been a victim of fraud, we can help to investigate the individuals involved and trace any assets that may have been jeopardised.

Post transactional due diligence doesn’t just refer to trying to make good on problems that have already exposed the business to risk or loss, it also applies to business dealing that can arise after a business transaction has taken place. For example, after entering into a partnership, your business is now exposed to added risk and you want to have a set of plans to mitigate those risks and safeguard your business interests.

How Blackhawk Intelligence can help with due diligence

Quite a few companies incorrectly assume that due diligence is a straightforward process, only involving going through the records at the registrar – nothing could be further from the truth. Common errors pertaining to due diligence include:

  • Reliance on audited accounts
  • Reliance on verbal commitments of an individual or individuals
  • Not involving experts
  • Not asking why and how
  • Not talking to third parties to verify the information

Due diligence is best conducted by experts such as Blackhawk Intelligence. Our teams know how to dig deeper and meet or even exceed your due diligence needs. With a track record of performing comprehensive due diligence and delivering consistently successful results for our clients across the globe, we can provide insights into the legitimacy of your potential partners, the validity of their credentials, their motives for wanting to work with you, and finally, whether the deal is actually going to be beneficial to your company’s health and positioning.

If you’d like to speak to a member of our team, please reach out over the phone on +44 (0)20 8108 9317 or our online form.

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This post is intended to provide information of general interest about current business issues. It should not replace professional advice tailored to your specific circumstances.