Due Diligence in Business Financing
There are many times in the course of business when a business needs to seek financing in order to meet its goals. Some businesses seek financing to start their company, others seek it to expand their company, purchase new infrastructure or take their product global. Many businesses seek financing for more than one of these, and other reasons, from time to time.
In order to get the financing that is necessary for their business to succeed, the business must comply with the requirements of the bank or other institution who will be loaning the money. In order for the transaction to be profitable for the lender, the lender must fully understand the benefits and risks of lending money to the business. The lender will learn the benefits and risks by completing due diligence.
Financial Due Diligence
A prospective financier will need to learn as much as possible about a business before lending it money. Businesses should expect thorough investigations into their finances, ability to produce a product, marketing strategy, business structure, management team, and legal status. In order to complete its due diligence, a financier will inquire about the business’s existing operations, assets and liabilities such as:
- What existing debts do you have?
- What other liabilities, such as potential litigation, do you anticipate?
- What are your monthly operating expenses?
- What are your assets?
- What was your income over the last few years and what is your projected income over the next few years?
- How is your company managed? Who is on your Board of Directors? and
- How is your Stock valued?
The prospective financier will also ask specific questions about why the business needs the money such as:
- Why do you need the money and what are your short and long term goals with the money? and
- How do you intend to use the money to achieve your goals? Will you be hiring more people? Improving infrastructure? Increasing marketing?
Additional questions will be asked based on your company’s specific financing requests and the nature of your business. You should be prepared to have supporting documentation in the form of business records, tax returns, operating documents and other documentation as needed to answer the questions posed by a financial company that is conducting due diligence.
Consequences for Financiers who Fail to Perform Due Diligence
Financiers who fail to perform due diligence may face not only the consequences of a bad business decision but also litigation for failing to complete their fiduciary duty to their company and stockholders. Therefore, most financiers take due diligence very seriously.
Consequences for Businesses Who Fail to Comply with Due Diligence Requests
You may be liable to a financier if you knowingly or negligently fail to provide accurate information in response to due diligence requests. The damages in a due diligence case can be significant and impose an unnecessary hardship on your business. Therefore, it is important to fully and honestly comply with all due diligence requests made by prospective financiers.