"And I have 5 reasons for that": why should business owners conduct Due Diligence even if there is no potential investor on the horizon?
- "The first reason is you" or the vices of the company itself.
- "The second reason is all your dreams" or inadequate valuation by the owners of the company. We are talking about the valuation of the company in monetary terms.
- "The third reason is all your words" or when rights to IP objects are not properly formalised.
- "The fourth reason is lying" or dishonesty on the part of the hired personnel.
- "The fifth reason is pain," the pain of all companies that lack adequate document management.
- "The sixth reason is your new love" or if one activity isn't enough anymore.
- "The seventh reason is all your friends," or how corporate issues are resolved between owners.
- "The eighth reason is me" as any potential investor or buyer.
There are two global misconceptions: that Igor Nikolaev in his song of the same name talks about five reasons for love gone (in fact, there are eight), and that legal due diligence is important and necessary only for the buyer and only directly in the process of M&A transaction.
In our article we will try to dispel the second misconception using the first one as an example.
Based on our extensive practice (we have closed more than 100 M&A transactions in different jurisdictions), a judil is indeed conducted in the context of a specific transaction at the initiative of the buyer. At the same time, the percentage of requests for internal litigation of a company with nothing "on fire" is much lower.
At first glance, the reason for this preponderance is on the surface: why pay lawyers for an optional procedure if everything seems to work somehow. Especially if a company has an in-house lawyer or even a legal department. Especially if the company's financial statements are audited at least occasionally.
We notice that business owners, especially start-ups and smaller companies, often fail to realise the full potential and benefits that can be gained from conducting an internal judil without a clear urgent need. This is due to a lack of awareness of the benefits that a proactive approach to managing the legal aspects of a business can bring.
So, music and idea - Igor Nikolaev, experience - lawyers of REVERA Law Group.
8 reasons to conduct internal due diligence.
"The first reason is you" or the vices of the company itself.
In many countries, especially in the former Soviet Union, the declarative principle of registration of legal entities is in force. Foreigners admire the speed and simplicity of such a principle and simply envy it - download a standard charter from the Internet, take your passport, fill in an application form for half an hour while waiting for your turn. And here you are already a respected founder of the company with a coloured certificate and a stamp on the charter.
But this simplicity is the main danger - your documents are not checked. That is, by signing the registration documents, you confirm the accuracy of the submitted information and assume all the risks associated with the consequences of submitting the information.
And the risks are serious - a company registered with violations of the law, from the very beginning bears the burden in the form of the potential possibility of being liquidated in connection with the recognition of its state registration as invalid. Of course, it would be better for business owners to know about this in advance, because it may come to light quite unexpectedly, and when it cannot be corrected.
And this is only one example of the company's "red flags" that lawyers can identify (and not only identify, but also offer options for elimination). We will talk about others in a separate article on this topic.
"The second reason is all your dreams" or inadequate valuation by the owners of the company. We are talking about the valuation of the company in monetary terms.
When valuing companies, not only cost indicators are taken into account, which allows obtaining a business value that is close to the real value of the business. The legal cleanliness of a company, the state of its assets and internal processes related to legal issues, as well as the risks of litigation and conflicts with government authorities can significantly affect the market value of a business. Lack of documentation and chaos in management can greatly reduce the interest of potential buyers or negatively affect the value of the business.
"The third reason is all your words" or when rights to IP objects are not properly formalised.
In this part, we will not talk much and in detail about what lawyers pay attention to when checking the purity of a company's rights to intellectual property objects, our colleagues have considered everything in detail in the article.
We would like to emphasise only one thing: without proper registration, all rights to intellectual property arise with their creators - your employees or contractors - and do not belong to the legal entity.
To avoid disputes over rights to works, for example with a former employee, conduct an internal audit and make sure your intellectual property is secure. This will allow you to respond calmly to threats of lawsuits and retain control of your IP products.
"The fourth reason is lying" or dishonesty on the part of the hired personnel.
Everybody lies. If they're not lying, they're not telling the truth. For the best of reasons, to cover their mistakes, and sometimes for personal gain.
There are times when you don't know about a company's debts because of insufficient information from the accounting department and missed deadlines with lawyers. You hope that this money will ever be returned to you, but in fact you have a "dead" debt that can only be written off.
If you have a salaried director, it's important to carry out an internal audit, even if you trust them. "Trust but verify", especially when you are constantly being asked for money to cover business expenses.
Every couple of years, you should review contracts with suppliers and contractors to make sure they are in line with market conditions and are not hiding asset withdrawal schemes. In general, you can learn a lot about your company after an internal judil.
"The fifth reason is pain," the pain of all companies that lack adequate document management.
It's really a pain. And, if you think that a working business model without proper due diligence will help you build an empire, you're probably a startup owner with a small team.
As your business scales, it becomes critical to keep your documents in order. You must have protocols, key contracts, a list of affiliates, ultimate beneficiaries and all their details, and many other documents that you will suddenly be asked for by a bank, a counterparty with its internal KYC procedure, government agencies.
And let's not forget the requirements for formal presence of certain documents in the office, production, retail premises or the company as a whole - regulations, rules, instructions, journals, certificates, policies and so on. You may have never even heard of a waste management manual, for example, and you will definitely be fined for not having one.
Internal Dewdil helps to systematise and fill gaps in key documents, enabling better business management and risk mitigation.
"The sixth reason is your new love" or if one activity isn't enough anymore.
An internal duedil may be useful if your company benefits from a special tax regime or is registered in a special economic zone, where there are usually restrictions on engaging in activities other than those declared. Activities that require certification or licensing also fall into this category.
Lawyers will be able to analyse your activities and conclude whether you are in breach of the law in this part.
"The seventh reason is all your friends," or how corporate issues are resolved between owners.
The key to successfully resolving a corporate conflict is to avoid it. You should periodically review your charter to see how it covers corporate governance and other important aspects of the joint business life of the participants: voting on key issues of the company, the procedure for making decisions on the withdrawal of existing participants and the admission of new ones, additional financing of losses, pre-emptive rights to buy out shares (stakes).
A charter "customised" to the needs of your business is precisely the mechanism that helps eliminate most conflicts, and it's never too late to create one.
"The eighth reason is me" as any potential investor or buyer.
Yes, we set out to outline the value of the ligal Due diligence without linking it to a transaction, but there is no denying that a company due diligence done in advance will make your business more attractive to investors and buyers. It demonstrates your responsibility and willingness to co-operate in a professional manner.
To summarise, internal Due diligence can be not only a means to solve current problems, but also a tool to create long-term value and increase your company's attractiveness in the market.
If you have any questions, you can ask our lawyer Prakapenka Aliona (a.prakapenka@revera.legal)
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