VC Funding Due Diligence - by JP Puchulu

Due diligence is the process of investigating and verifying the accuracy and completeness of the information provided by a company seeking investment. The goal of this process is to assess the investment opportunity and determine whether it is a good fit for the investor who seeks to mitigate risk and ensure that the investment is sound. As explained in this TechCrunch Article, it is important to note that the majority of early-stage VC deals fall apart in the due diligence process.

Types of Due Diligence in Venture Capital Funding:

1. Financial due diligence: This is the process of evaluating the financial health and performance of a company. It includes reviewing financial statements, assessing the company's debt and cash flow, and analyzing its financial projections. The goal of financial due diligence is to identify any potential financial risks or opportunities associated with the investment. Deals fall apart when the business model or growth plans are not viable, and the financials do not meet expectations

2. Legal due diligence: This involves reviewing the company's legal documents and contracts to ensure that they are in order and do not pose any potential risks to the investor. It includes evaluating the company's intellectual property, contracts with suppliers and customers, and employment agreements. Deals fall apart when legal issues or liabilities are not fully disclosed or resolved.

3. Market and competitive analysis: This involves evaluating the market in which the company operates and the competitive landscape. It includes analyzing the size and growth potential of the market, the company's target customer base, and the competition. The goal of this type of due diligence is to understand the company's market positioning and identify any potential threats or opportunities. Deals can fall apart if the product or service is not ready for market.

4. Management and organizational structure analysis: This involves evaluating the company's management team and organizational structure. It includes reviewing the backgrounds, experience, and track record of the management team, as well as the company's organizational structure and decision-making processes. The goal of this type of due diligence is to assess the company's ability to execute on its business plan and achieve its goals. Deals fall apart when the leadership team is not internally aligned and when they are not aligned with the vision of the investors.

5. Intellectual property analysis: This involves evaluating the company's IP assets, such as patents, trademarks, and copyrights. It includes reviewing the company's IP portfolio and determining whether it is adequately protected and monetized. The goal of this type of due diligence is to understand the company's IP assets and assess their potential value to the investor. Deals can fall apart when IP is not fully developed or protected.

Typical Steps in the Due Diligence Process:

1. Initial review of the investment opportunity: The due diligence process typically begins with an initial review of the investment opportunity. This may involve reviewing the company's business plan and financial projections, as well as conducting some initial research on the market and competitive landscape.

2. Request and review of due diligence materials: After the initial review, the investor will typically request additional materials from the company to support the due diligence process. This may include financial statements, legal documents, contracts, and IP documents. The investor will then review these materials to gather more information about the company and assess the investment opportunity.

3. On-site due diligence visit: In some cases, the investor may also conduct an on-site due diligence visit to the company. This allows the investor to get a firsthand look at the company's operations and meet with management and key employees.

4. Analysis and evaluation of the investment opportunity: After the due diligence materials have been reviewed and the on-site visit has been completed, the investor will analyze and evaluate the investment opportunity. This involves considering all of the information gathered during the due diligence process and determining whether the investment is a good fit for the investor.

5. Negotiation of terms and conditions of the investment: The investor decides to move forward with the investment, they will negotiate the terms and conditions of the investment with the company.

Tips for a Successful Due Diligence Process:

1. Be well-prepared and organized: It's important to have all the necessary materials and information ready for the investor to review. This includes financial documents, legal documents, and any other relevant materials.

2. Communicate effectively with the investor: It's important to be transparent and honest with the investor, and to be responsive to their questions and concerns.

3. Consider the investor's perspective: It's important to understand what the investor is looking for in an investment opportunity and to tailor your presentation accordingly.

The due diligence process helps investors assess the risk and potential return of an investment opportunity. It's important for founders to be proactive and thorough in the due diligence process to increase their chances of securing funding. By being well-prepared and transparent, founders can demonstrate to investors that their company is a viable and attractive investment opportunity, minimizing the chances of the deal falling apart.

If you have any specific questions or would like some guidance regarding the due diligence process, please feel free to reach out to me at jpp@bostonstartupcfo.com.