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How Do I Best Deal With the Due Diligence Process?

Question: Can you describe the due diligence process from the VC’s perspective and how long this generally takes? Do you have any advice for entrepreneurs to keep in mind as they build a company that would help accelerate the process?

The diligence process is a varied one with respect to timing, but pretty standard with respect to tasks. Every VC is different in how they go about their process, but in general includes business, financial and legal review.

Specifically for us, we take a team approach to due diligence, as opposed to the sponsoring partner doing most of the work. Once one of us believes that a company is interesting, others will be brought into the process early-on to assess the company. Depending upon the business model, depth of intellectual property and other factors, we will determine for each company the proper diligence team. In general, our potential investments see most, if all not all of our investment team during the process.  Despite, this we try to be as efficient as possible with the company’s time and usually find that we can move as fast as the company can.

As for advice, follow the Boy Scouts’ creed: “Be Prepared.” Have your corporate documents, your financial projections and your major contracts well organized. Make sure that you intellectual property is protected, or you have a plan to get their post-financing.  Also, make sure that you all of your employee documentation is complete and up-to-date. Any delay or sloppiness here will reverberate through the process and extend the amount of time needed to complete the diligence review. This highlights the reason to keep your counsel well-informed of your business activities, as they can help ensure all of your documentation is complete.

Remember, there are generally three components that affect the speed of diligence: the preparedness of the company and the amounts of time that the VCs and their lawyers have to review it. So if you are slow in getting items to either the VCs or their lawyers, it will definitely slow down the process.

One other piece of advice: if you have any sensitive issues, bring these up early in the process – don’t wait until the end. One, these are the issues that take time to get comfortable with and secondly, if you wait until the end, it’s only natural to wonder if you were trying to hide the situation from anyone.

March 5th, 2007 by     Categories: Fundraising    
  • Old Hand

    I had a related question:
    What qualifies for a renegotiation of valuation after the DD process. Some candidates are
    * Learning that the business model itself is weaker than thought
    * Gross or operating margins are negative and may point that the business is not viable
    * Projections and actuals for past performance are not close to each other

  • Jason

    After the due diligence process, people are usually signing documents, so there is no renegotiation of price after that. If during due diligence you discovered these things, then that effect price or perhaps kill the deal altogether. Usually, however these things are reviewed well before the formal due diligence process begins. If you don’t have a high degree of confidence in the company, you don’t go into diligence and if you find the executives have not been honest with you, that is a much larger problem.

  • http://www.floridaventureblog.com/ VC Dan

    I can’t amplify Jason’s comment about “Be Prepared” enough — because it’s one of the few things in the early-stage world that you can control.
    One of the easiest ways to grow confidence in your company via DD is providing prompt, complete and organized diligence. Many DD items are out of your control such as market size, customer opinions of your business etc, but running a tight ship is in your hands.
    I’m not suggesting 10-inch binders of useless information, but it’s a matter of preparedness and presentation that can pay dividends during funding DD and, later, M&A DD.
    Note, I’d also encourage the entrepreneur to remain a central point of contact for DD. A full handoff to CFO/VPs or counsel can slow/complicate the process. Don’t forget that the dance remains in full swing during DD and both parties learn about each other via the process…

  • http://www.floridaventureblog.com/ Dan Rua

    I can’t amplify Jason’s comment about “Be Prepared” enough — because it’s one of the few things in the early-stage world that you can control.
    One of the easiest ways to grow confidence in your company via DD is providing prompt, complete and organized diligence. Many DD items are out of your control such as market size, customer opinions of your business etc, but running a tight ship is in your hands.
    I’m not suggesting 10-inch binders of useless information, but it’s a matter of preparedness and presentation that can pay dividends during funding DD and, later, M&A DD.
    Note, I’d also encourage the entrepreneur to remain a central point of contact for DD. A full handoff to CFO/VPs or counsel can slow/complicate the process. Don’t forget that the dance remains in full swing during DD and both parties learn about each other via the process…