How to Prepare for a Financial Due Diligence? [Checklist attached]

Preparing for Financial Due Diligence: Essential Steps

Here are a few essential steps you can follow to prepare your company for FDD:

1. Organise Financial Documents

Gather all financial information to help potential investors assess your company's health. You must ensure that your records are up-to-date and accurate. Categorise the documents as follows:

‍‍General Information: It comprises founders' agreements, articles of incorporation, patents, and other relevant legal documents. You must also prepare information regarding:

• Revenue Streams: Break down the company's current and past revenue sources.
• Target Customers: A detailed profile of your customer base, including demographics, sales figures, and market share information.
• Financial Projections: Forecasts for the next 3-5 years, including assumptions and methodology used to create them.
• Product Offerings: List all your existing and under-development products and services and their respective margins.
• Competitors: Present a list of your competitors in India and globally, including their strengths, weaknesses, market share, and financial performance.
  

Basic Registration Documents: Documents like Certificate of Incorporation, MOA and AOA, Copy of PAN/TAN, Registration Certificates of VAT, Service Tax, GST, Excise, and PF should be available.

Financial Statements, Reports, and MIS Information: Your income statements, cash flow statements, tax returns, and audit reports must be accurate and up-to-date.

• Profit and Loss Account Statements: Profit and loss statements show the company's revenues, costs, and expenses in the specified period.
• Balance Sheet: Prepare a detailed list of your assets and liabilities, including annual balance sheets for the past three years.
• Shareholding Pattern: Document past, current, and future shareholding details, including the number of shares each shareholder holds, their classes, and voting rights.
  

Employee Stock Ownership Plan (ESOP) Policy: It denotes information on employee stock options, restrictions on transferability, vesting schedules, and exercise prices.

Taxes and Compliance: Ensure all your taxes are up-to-date and properly filed, and adhere to the annual compliance and financial checklist. You must have copies of all tax returns for the past three years and any correspondence with the tax authorities. It is essential to have updated corporate registers, shareholder agreements, and director's information..

Other Critical Information: Your company's due diligence documents must reflect:

• GST and IT Assessment: Any past and current IT/GST assessments, notices, or penalties from tax authorities.
• Legal Matters: Any ongoing or resolved litigation, disputes, or regulatory compliance issues your company may have faced.
• Details of Foreign Exchange (FX) Payments: Ensure all foreign currency payments are accurate and properly documented, including foreign investments or overseas transactions. Be prepared to explain the purpose and calculation of these payments. You must keep the relevant supporting documentation ready if needed.

2. Evaluate Your Assets and Liabilities

‍Identify all your company's assets and liabilities, including tangible assets like property or equipment and intangible assets like intellectual property.

3. Assess Your Company's Performance

‍Analyse your company's financial performance over time. Look at trends in revenue, expenses, and profitability.

4. Understand Your Financials

‍Be prepared to explain every aspect of your financials, including revenue streams, expenses, and cash flow. It's crucial to have a clear understanding of your numbers and be able to justify them.

5. Create a Data Room

‍Design a secure and organised online space to store and share your financial documents with potential investors. An efficient data room speeds up the due diligence process, allowing your investors to access necessary information quickly.

6. Address Potential Red Flags

Be proactive and settle any outstanding debts, legal disputes, or tax discrepancies. It helps avoid any issues during FDD.

Organizing these documents beforehand ensures the due diligence process goes smoothly without any last-minute scrambling. All data and documentation must be compiled and furnished for the last three years or up to the previous fundraiser. In the case of a newly incorporated company, it must be up to the date of existence. 

Process of Financial Due Diligence

The FDD process is time-consuming and can take four to six weeks, depending on the complexity of your finances. It is necessary to approach this process systematically; therefore, I am breaking it down into practically deployable stages:

1. Initial Screening: The first step involves a preliminary review of your company's financials by potential investors. It helps them determine whether it meets their investment criteria.
   
   
2. Non-Disclosure Agreement (NDA): Before sharing sensitive financial data, you and the potential investors must sign an NDA. It helps protect your confidential information.
   
   
3. Data Request List: The investors will send a detailed list of required documents for the due diligence process. Be prepared to furnish all requested information promptly.
   
   
4. Reviewing Documents: During this stage, investors will thoroughly inspect your financial documents to understand your company's financial position better.
   

5. Risk Identification: The due diligence team will identify potential risks, such as outstanding debts or legal disputes. For instance, if Professional Tax is deducted but not deposited to the authorities, the DD team will highlight the same. It will recommend registering the organisation with the competent authorities and provisioning for the deposit amount. 

6. Report Preparation: The due diligence team will prepare a report highlighting the findings and potential concerns after the analysis. For instance, if they come across a discrepancy in the food allowance calculation in Employee Offer Letters. The DD team will share their analysis and explain how it will impact tax calculation. It will also recommend rectifying the offer letters. Management must take action to change all offer letters and submit their explanation to the DD team.
   
   
7. Final Evaluation: In the last step, investors will evaluate the information collected during due diligence and make final investment decisions. They will go through the recommendations of the DD team and analyse the management response to it.

Overall, FDD aims to give investors transparency and confidence in their investments by verifying your company's financial information. By being well-organised and prepared, you can ensure that the process runs smoothly and increase your chances of finalising the funding for your company.

Simplify Financial Due Diligence With Mysa

At Mysa, we relate to the challenges of financial management faced by companies like yours. We have built a platform that offers features like automated bookkeeping, uncomplicated tax filing, and safe banking, making tracking your company's financial health easier.

Mysa helps you maintain precise financial records with minimal effort. You get the following benefits:

• Generate financial statements instantly
• Automate the categorisation of your transactions
• Pull out supporting documentation for any financial data
• Secure access to your financial data through our data room feature

By leveraging Mysa's capabilities, you save time and reduce the risk of errors during the FDD process. We help increase your chances of securing funding by keeping your financial records organised and updated. Our Slack-savvy CA and automation tools streamline your financial management so that you spend more time attracting investors and growing your startup. Read our story to find out how Mysa was conceived.