What is due diligence and what is it for?
Knowing what due diligence is and applying its basic principles is one of the most valuable tools in business management in the 21st century. Although it is one of the methods of analysis of technical and philosophical procedures of many businesses, few people know what it is.
The due diligence methodology is currently considered one of the central concepts in business and corporate management. Applying its principles allows us to analyze and manage technical, financial and legal processes following good practices and fair business principles.
Due diligence can be defined as the set of investigation processes before the signing of a technical, commercial, or legal agreement. According to legal principles, all parties involved in a contract have the full right to investigate the elements inherent to the signing parties.
In this sense, companies apply due diligence in their daily practices with their partners, clients and collaborators. This research work guarantees the transparency of the agreements and assures the parties of compliance with the precepts established in the contracts.
Due diligence is applied in many areas of today's society. Companies and individuals use it from technical, legal and economic perspectives.
Let's take a deeper look at what due diligence is and the different applications of the concept in today's businesses. Additionally, we will learn a little more about its differences with audits and how to do due diligence efficiently.
Types of due diligence
To understand what due diligence is more effectively, we must analyze its application within the modern business environment. These investigative processes are applied among those involved in present or future partnerships.
These processes commonly allow companies and individuals to protect themselves, make provisions or reject certain agreements.
Companies can broaden their knowledge of prospects, clients and potential partners through due diligence. Likewise, companies can verify the legal, financial, technical and ethical solvency of those companies or individuals with whom they will close agreements.
Currently, there is a great availability of public information, which has allowed to accelerate these processes exponentially. As a result, companies and individuals can perform due diligence processes without violating data protection and in a fraction of the time.
There are different types of due diligence with applications in financial, technical, legal and commercial fields. These are the most commonly used types of due diligence today:
Financial due diligence
To understand what financial due diligence is, we must place ourselves within the elements inherent to a corporate partnership. To do so, companies analyze a company or individual's solvency, liquidity, equity or tax position.
This analysis can determine the value of a company or a digital property subject to acquisition. It also provides insight into the financial stability of a future business partner.
However, this process applies equally to customers, prospective employees, suppliers and service providers. In its implementation, many companies use companies specialized in the valuation of physical or digital businesses.
These external companies analyze the other parties involved' tax, commercial, accounting and financial situations. In this sense, the companies analyze the past, present future labor, tax and contractual positions.
These analyses are materialized in reports that can generate strategies and decision-making. In many cases, this process can save future incidents that can be costly for the company. Due diligence is one of the most widely used studies in the business, banking and stock markets.
Real estate due diligence
In a real estate business, companies or individuals selling, renting or negotiating a property want to know the financial and legal position of the contracting party.
On the other hand, appraisers analyze a property's physical, financial, legal and urban conditions. In addition, they study the economic burdens, legal processes, the future value of the property or planned urban changes.
In addition, real estate companies regularly analyze the financial and legal position of buyers and lessees of real estate.
Reducing risk and optimizing decision-making is one of the primary objectives of real estate due diligence. According to leading real estate experts, due diligence is the basis for growth and confidence in the industry.
Technical due diligence
Investigating technical variables is one of the most important analyses within the industrial and technological sectors. In the industry, stakeholders need to analyze the technical position of a prospective supplier or partner.
Quantifying the technical, technological or industrial capacity, as well as the availability of resources and knowledge, is fundamental. These studies make it possible to determine the scope of the parties to a given technical process.
Technical due diligence is the support point for decision-making in technical, industrial and technological sectors. Understanding the scope of the capabilities of a potential partner, supplier or service provider can lead to different decisions and lower-risk strategies.
What is technical due diligence: examples
These are the most frequently used technical due diligence cases:
- Production assets
- Industrial safety
- Chemical, mechanical and process risks
- Technology, information technology and cybersecurity
- Urban and land planning
- Construction assets
- Phytosanitary and biosafety hygiene
- Growth prospects
- Digital security and information protection
The parties involved in some contracts and specialized businesses require more in-depth research processes. These studies, carried out by expert companies in the sector, allow the creation of greater tools in the decision-making process.
Legal due diligence
In some cases, knowing the legal situation of a third party is essential to determine the viability of an agreement. For this reason, an analysis of the fiscal and legal position of a company or an individual is carried out beforehand.
Knowing the risks inherent in a negotiation or contractual relationship can be the key to decision-making processes. These preliminary studies are very often applied in the business of acquiring physical or digital properties.
This study determines the existence of claims, liens, penalties or public processes such as expropriations or rezoning. The digital field investigates legal disputes inherent to intellectual property violations, data protection or breaches of commercial agreements.
The most frequent legal due diligence studies are:
- Patents, licenses and trademark registrations
- Solvency, debts or assets
Open and closed litigation in the criminal, civil, commercial, family, labor and environmental fields.
Online business due diligence
If you are looking to acquire a digital property, you must do your own research before acquiring the new asset.
There are a lot of papers and blogs on the internet talking about what due diligence is, as we did, but it isn't easy to find sources that teach you to do your own online business due diligence.
When you are acquiring a new business, you are taking a lot of risks. That's why it's so important to do your research to be secure about the investment. An understanding of the company and its business plan, vision, and strategy for the next few years and A thorough review of all business operations, products, and services will help you to make a good decision.
At Trustiu, as a Marketplace, before listing any digital property, we do our due diligence to ensure that all the assets listed on our platform meet our requirements and are profitable. That doesn't imply that you don't do your research. Soon, we'll discuss how to do an e-commerce business due diligence and a youtube channel due diligence.
Differences between due diligence and audits
The concepts of due diligence and audit are often confused and taken as one on many occasions. Although both processes involve the analysis of companies or individuals, they differ in their application, scope and procedures.
Generally, an audit is a purely quantitative analysis of compliance with a standard, regulation or procedure. It is often applied in the industrial, legal, financial, labor or accounting environment, based on already determined processes and legislation.
Audits determine the degree of compliance with standards, laws or procedures. These final reports determine the absolute and quantitative position of the research subject without considering qualitative and future variables.
Due diligence uses a combination of qualitative and quantitative parameters. This way, it creates future projections and recommendations based on historical and current events. Auditing and due diligence complement each other as the basis of the decision-making process in digital companies and businesses.
How is due diligence performed?
Adopting different methods of due diligence analysis allows for greater effectiveness of its results in today's businesses. Standardization of due diligence processes can be listed step by step as follows:
Planning is the most important process in any investigation, including due diligence. Among the main elements to take into consideration, we have:
- Historical tradition and past of the subject of study
- Collection of current information
- Analyze and classify information sources
- Establish the objectives of the study
Define the purpose, mission and vision of the research.
2. Collection of public information
Today, accessing financial, legal and technical information on any company or individual is much easier than before. Companies have a variety of useful sources of information that allow them to create an initial study framework. Information collection is the basis of contrast for complementing and verifying data.
3. Collection of private information
Providing information to researchers is now a common part of doing business. Investigation processes are becoming more and more frequent and are seen as part of the decision-making process.
Private and public information complement and contrast to create a profile, complete information or create points of conflict.
4. Review and provision of information
When external companies carry out the research processes, each piece of information is thoroughly reviewed to support its validity. Likewise, public and private information is made available to the client.
5. Report of conclusions and recommendations
Analysts perform various qualitative and quantitative tests and analyses to create conclusions to be considered by stakeholders.
The researchers generate recommendations on the relevance and degree of business risk. Thus, they create suggested strategies and actions to be taken to reduce these risks. Companies specializing in due diligence are the best ally to ensure the transparency and suitability of businesses in all sectors.