What is Due Diligence?
By Acacia Wilson, Esq. | Legally reviewed by Tim Kelly, J.D. | Last reviewed September 20, 2022
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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 essential areas. 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.
- Reviewing documents is an integral part of the due diligence process.
Understanding Due Diligence
Documents such as financial statements can help in the valuation of a company. Acquirers are the people who are buying a company. You would want to do financial due diligence as an acquiring firm to identify risk. A due diligence report will help you find red flags.
Red Flags in Due Diligence
A balance sheet can show red flags. Financial information on cash flow can show what the company spends and receives. Tax returns can also help you see if a target company is in trouble. A company should also have good standing with the Secretary of State. Through the due diligence process, you may identify losses or debts that are red flags.
Types of Due Diligence
What type of due diligence do you need for your business transaction? Financial due diligence could help you understand the value of assets. With mergers and acquisitions, due diligence can help to identify risks before companies merge.
How the Due Diligence Process Works
You're considering a business deal, and you've done a letter of intent. The letter of intent shows that you plan to move forward. What's next? You will need to review documents related to the other business. In mergers and acquisitions, you may want to see any other agreements or contracts the other company has. You could also do your own research into intellectual property.
Commonly Asked Questions
Do I have to go through the due diligence process?
No law 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?
Many people who go through the due diligence process hire someone to help them. If you get an auditor or accountant, you may have to cover the cost of services. Legal due diligence can be time-consuming and expensive, but it could be worth it.
Consider Speaking with an Attorney
The best way to answer your legal questions 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.
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