What is Due Diligence?

Legal due diligence is a process that helps people make an informed decision about a business transaction. A due diligence checklist can help to make sure you cover all of the areas that are important. Buyers and sellers of real estate use the due diligence process often.

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• Key Takeaways:

  • Due diligence can help you find out about risks and red flags before you do a business transaction.

  • There are different types of due diligence: legal, financial, and tax.

  • Reviewing documents is an important part of the due diligence process.

  Understanding Due Diligence

  How the Due Diligence Process Works

  You’re considering a deal, and you’ve executed a letter of intent. The letter of intent shows that you plan to move forward. What’s next? You will need to review documents. In an M&A deal or joint venture, you may want to identify any liabilities or risks before proceeding. During a due diligence period, acquirers may want to review legal, tax, and financial information. The resulting due diligence report lets acquiring firms know about any red flags.

  Types of Due Diligence

  With mergers and acquisitions, due diligence can help to identify risk before companies merge. What type of due diligence do you need for your business transaction? Financial due diligence could help you understand the value of assets. Legal due diligence looks at contracts, litigation history, and intellectual property to identify litigation risks. Tax due diligence involves reviewing past tax returns and conducting audits to confirm there are no outstanding issues.

  Due Diligence: Types and Goals

Red Flags in Due Diligence

A balance sheet can show red flags. Cash flow statements can show what the company spends and receives. Tax returns can also help you see if a target company is current with tax obligations or is in trouble. Legal documents should show a company is in good standing with the Secretary of State.

Commonly Asked Questions

Do I have to go through the due diligence process?

There is no law that states that you have to do due diligence, but it could help you make an informed decision. You might decide not to go through with the deal. You might want to change the purchase price. No matter the results, it could help to have the information before you sign a purchase agreement.

Does it cost money to do due diligence?

Yes. Many people who go through the due diligence process hire someone to help them. If you get an auditor or accountant for a financial or tax review, you have to cover the cost of services. Legal due diligence can be time-consuming and expensive, but it could be worth it to avoid lawsuits.

Where can I get help with due diligence?

If you are considering buying a business, FindLaw has a Buying a Business: Due Diligence Checklist. A business attorney is also an excellent resource for entrepreneurs.

Consider Speaking with an Attorney

The best way to answer your legal questions about due diligence is by speaking with an experienced small business attorney. Consider a service like FindLaw when seeking legal practitioners. Let FindLaw’s database of dedicated lawyers put you in touch with someone today.