Before you go into business with any other person, invest your money in a business, acquire another business, or team up with a prospective business partner, you are expected to carry out an underground and holistic check on the business you are about to put your money in and even an underground check on the person at the other end of the business that you want to partner with. This holistic and underground check is called due diligence.
Due diligence is defined in the corporate world to be an investigation conducted into a target company before engaging in any investment decisions. Its goal is to establish the status of the assets and most importantly, the liabilities of the prospect, including the legal risks associated with them. The concept of due diligence as enshrined in corporate jurisprudence refers to the exercise of reasonable care in the course of business. It generally involves careful investigation of the economic, legal, fiscal and financial circumstances of the business or the individual(s) that is running the business.
This covers aspects such as the financial standing of the business, like the sales figures, inflow and outflow, shareholders of the business, shareholder structure and most importantly if there are possible links with any form of economic crime such as corruption, embezzlement, money laundering, tax evasion etc.
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Prospective business partners who intend to go into business are expected morally speaking, to be honest to themselves and disclose to each other whatever aspect of their lives that is relevant to the business dealings but as expected, humans are not honest. Due to the fact that the prospective business partners may not be honest with themselves hence why the concept of due diligence comes into play. Every party is expected to take it upon himself to find out facts concerning the other party that are relevant to the business.
The Due diligence stage is the most important pre-contract stage in the transaction. This is the stage where you are to uncover every secret that the other party may not want to disclose to you.
The two most important kinds of due diligence to be conducted before a transaction is entered are the legal due diligence and the financial due diligence. Legal due diligence is where your lawyer will try to find out if there is any legal encumbrance on the prospective company or on the business owner(s) or the shareholders if there is a pending legal matter hanging around their neck and the rest of that stuff. If you as an investor invest in a business or acquire a business with pending legal battles, you have also acquired the legal trouble together with the business, hence why legal due diligence is very important and critical.
Financial due diligence is where your accountant or auditor will check and cross-check the financials of the prospective partner if they are in debt or if there are fishy financial dealings. If you purchase a business that is in deep debt, the debt will also be transferred to you as the new owner unless there is a clause to prevent that from happening.
Ignorance is never an excuse before the law. If you fail to do your background check and you then go into business with the wrong person and you got your fingers burnt, you can not turn around to blame anybody other than you. Ensure you take out time to do your due diligence before going into business with anybody.