What Is Due Diligence? Process, Review Areas and Checklist

You are the founder of a promising startup and have caught the attention of potential investors? Congratulations — you have reached an important milestone on your way to growth and success. But before you step into the world of corporate finance and sell shares in your startup, there is one crucial step you need to prepare for: due diligence.

In this article, we give you a comprehensive overview of due diligence and what to look out for. We also share an example checklist you can use to make sure you have covered everything.

Definition: What Does Due Diligence Mean?

Due diligence essentially means a careful, thorough examination — and that is exactly what it is in practice: a detailed analysis of your company. Information about your business is disclosed and then reviewed and assessed by external parties.

When Does Due Diligence Take Place?

Due diligence is typically carried out when company shares are bought or sold. Its purpose is to assess the state of your business, and it plays a central role in whether an investment happens at all. If serious issues come to light during due diligence, the transaction may be called off entirely.

Who Carries Out Due Diligence?

Due diligence is usually commissioned by potential investors with a strong interest in investing in your startup. It allows them to assess the risk of their investment. In theory, investors can run the process themselves if they have the necessary expertise and the complexity is manageable. In practice, however, external service providers specialising in company audits are often brought in.

Once due diligence begins, you as the founder are very much part of it. You need to make sure that all required information is disclosed and accurate. You are also responsible for presenting your company in the best possible light in order to secure good investment terms.

The Due Diligence Process

The process can look very different depending on the requirements involved and the company being reviewed. Broadly speaking, it breaks down into the following phases.

1. Preparation

In the preparation phase, founders and investors agree on the ground rules for the due diligence. Questions to settle include: What will be reviewed, and in how much depth? Who is responsible for what? Which data and information are needed? How will that data be made available?

Once these points are clear, it is advisable to put a non-disclosure agreement (NDA) in place. This protects you as the founder, since sensitive company data will be disclosed during the process.

It is also worth agreeing on a letter of intent (LOI). In it, investors commit to acquiring your shares if the due diligence is successful. In return, founders are usually asked to grant exclusivity and not to negotiate with other investors during the process. Penalties can also be defined for the event that due diligence is aborted, ensuring that the costs incurred are covered.

2. Information Exchange

Once the ground rules are settled, the requested information and data need to be provided. For founders and reviewers alike, this initially means a lot of work and the preparation of a large volume of data.

Data relevant to investors may include financial figures, business plans, contracts, legal documents and HR records. Investors often also ask about a company's tech stack to get an overview of the technologies, software products, frameworks and programming languages in use.

3. The Review Itself

Now comes what is probably the most demanding phase: the actual review. All the information and data provided has to be organised, examined and assessed. Depending on the size and complexity of the company, this can take several months.

To simplify and structure the process, it is usually broken down into subcategories. You will find out what those can look like and what they cover in the section "What Is Reviewed During Due Diligence?" below.

This phase comes with its share of challenges, as disagreements and conflicts can arise. To avoid them, a structured approach and good teamwork between you as the founder, your team and the reviewers are essential. Make sure your team is working well together before this phase starts.

4. Risk Assessment

After the review, the findings are summarised. They form the basis for the risk assessment, which in turn shapes the negotiations and the investment terms.

5. Negotiation

All the facts are on the table and the risk assessment of an investment in your company is complete. Now it is about negotiating a good deal with the investors and defining the investment terms. If you want to know what to keep in mind during negotiations so that your cap table stays attractive, take a look at this article.

6. Signing

The goal of every due diligence is a signed contract. Once all parties are satisfied with the findings and have agreed on the negotiated investment terms, the investment agreement is signed and the deal is closed.

What Is Reviewed During Due Diligence?

As mentioned above, due diligence is usually split into subcategories that focus on specific areas of your business. Please note that the categories below are examples only and are neither universally applicable nor exhaustive.

Legal Due Diligence

Here, all legal aspects affecting your company are examined. This can include employment law matters, shareholder agreements, regulatory issues or ongoing legal disputes. Patents, protective rights, inventions and trademark registrations also fall under legal due diligence.

Financial Due Diligence

Financial due diligence is about your numbers. It covers capital structure, profit and loss statements, receivables, liabilities, liquidity and fixed assets. Clear and transparent reporting is particularly valuable here, as it makes the assessment far easier.

Tax Due Diligence

This category covers all tax-related information about your company — tax payments, tax risks, or the tax implications of the transaction structure.

Market Due Diligence

Market due diligence looks at your market position and the business opportunity. It deals with the state and development of your target market as well as your strategic approach to entering it.

Management Due Diligence

This is where you as the founder take centre stage. Management due diligence examines your startup's leadership team. It assesses whether your team has the right skills and where expertise may still be missing to run the company successfully.

Technology Due Diligence

Technology due diligence is a comprehensive evaluation in which your company's technological infrastructure, software architecture and innovations are carefully analysed. It allows investors to confirm that a company's software initiatives rest on solid foundations and can support future growth.

Exit Due Diligence

This type of due diligence matters especially to investing venture capital funds. VCs are exit-driven, meaning they will leave your company again after a certain period. Exit due diligence therefore assesses which exit options exist and under what conditions an exit would be possible in the future.

Conclusion

Due diligence is an indispensable and demanding step in the fundraising process. It makes it possible to thoroughly assess a startup's risks and opportunities before investors acquire shares. A successful due diligence requires close collaboration between founders and reviewers so that all relevant information is provided transparently and accurately. The structured review across categories such as legal, finance, tax, market position, technology, management and exit strategy provides a solid basis for well-informed investment decisions. If all parties are satisfied with the findings and agree on the terms, due diligence can lead to a signed investment agreement — and pave the way for a promising future for your startup.

Checklist for Your Due Diligence

To help you get it right, we have put together a checklist you can use to review which steps are necessary.

Important: This is an example and is by no means universally applicable or exhaustive. The checklist needs to be adapted to the actual circumstances of your startup and is only meant as inspiration here.

Financial Documents

• Annual financial statements from recent years

• Profit and loss statements (P&L)

• Balance sheets

• Revenue and cost forecasts

• Liquidity position and cash flow analyses

Business Plan and Strategy

• Current business plan and future strategy

• Market positioning and competitive analysis

• Potential risks and challenges

Legal Documents

• Certificate of incorporation and articles of association

• Contracts with customers, suppliers and partners

• Legal disputes and ongoing court proceedings

• Intellectual property (patents, trademarks, copyrights)

People and Management

• Org chart and areas of responsibility

• CVs and qualifications of the leadership team, and of the wider team where relevant

• Employment contracts and salary structures

• Open roles and hiring plans

Customers and Suppliers

• List of key customers and their share of revenue

• Customer retention strategies and contracts

• List of key suppliers and dependencies

Technology and IT Infrastructure

• Overview of the technology used or developed in-house

• Software licences and technical support

• IT security and data protection measures

Tax Matters

• Tax returns from recent years

• Outstanding tax liabilities

• Special arrangements or tax relief

Property and Assets

• List of company assets

• Property ownership and lease agreements

• Condition of machinery and equipment

Insurance

• Existing insurance policies

• Liability coverage and policy details

Compliance and Regulation

• Compliance with laws and industry regulations

• Environmental and occupational health and safety requirements

• Licences and certifications

References

• References from existing customers or partners