Are you about to begin a startup? Then, it is evident you’d need investors to fund it. While the potential of your business idea matters, investors and venture capital firms would vet your startup across other aspects like risks, market conditions, information, etc.
Such an assessment is called due diligence. It is an organized way for various types of investors to analyze and assess startups to mitigate risks and uncertainties before investing. Thus, as a startup owner, while understanding the crucial role of due diligence, you should also know across which aspects would investors evaluate your firm to decide whether to invest or not. Let’s look at the various areas of due diligence startups should prepare themselves before they pitch their ideas to individual or institutional investors.
When is Due Diligence Done?
Due diligence begins when the startup and investor have the term sheet agreed. The investor will send a venture capital due diligence request list. It will help you know what information and access you should provide to the investors. Due diligence is usually a lengthy process. Even if you have all your documents in place, the process can take several weeks to complete. If not, it could go on for several months.
Factors Investors Would Consider While Conducting Due Diligence
The purpose of driving due diligence is to stay assured about the startup’s business capabilities, legal and administrative credibility, and financial potential to deliver committed returns to its investors.
Accordingly, as the startup’s owner, you should stay prepared with all the required documents and information to prove your venture’s trustworthiness. The investors are likely to assess your startup on factors including but not limited to the following.
Every investment carries a certain amount of risk. Of course, investors know that. Yet, they’d want to be as assured as possible about the investment by assessing the startup across various aspects like financial obligations, legal liabilities, and operational inefficiency, if any. A comprehensive assessment of these elements helps investors make informed decisions about whether to invest and also about the investment amount.
- Market Position
The startup might be doing well. But is its performance good enough to sustain the competition? Where does it stand when it comes to the overall market? Discovering answers to these questions helps assessors evaluate the startup’s competitive position and its growth potential across various time frames.
Due diligence also involves assessing the employees and the management team of a startup. It includes evaluating people on various fronts like their expertise, experience, market credibility, track record, etc. The capabilities and credibility of the startup’s team can serve as a significant indicator of the startup’s potential for success.
- Company Information
In addition to the above, the investors will verify the accuracy of the information you’ve provided. It includes financial statements, projections, certificates, approvals, and other information validating your financial capabilities and legal existence.
- Financial Performance
If your startup has been operating for a while, investors will also assess your financial performance through documents, including approved and latest financial statements, annual tax statement extracts, annual and available balance sheets, profit and loss statements, and annual budget. All these aspects will provide clarity about your financial performance and help investors make informed investment calculations and projections.
Due diligence plays a crucial role in a startup’s present and future, especially concerning investments. While being a systematic way of gaining trust and validating the credibility of a startup, it also allows investors to make secure and informed investment decisions.
Additionally, due diligence helps maintain transparency about the startup. The fact that a startup has undergone due diligence successfully can develop a sense of trust among other investors as well. That could work in the startup’s favor and simplify the road to additional investments. So, if you haven’t already, start preparing for due diligence and stay prepared to be assessed by potential investors.