Due Diligence: Legal Information

This morning I am covering the legal portion of a due diligence. I look at this as the appetizer before we dig in Intellectual Property. Some of key elements you need to ask for include:

• The name of all the law firms and professional services contracts signed with these law firms for the past five (5) years.
• Did the Company make any claims in the past five (5) years? This includes injunctions, procedures, whether these were judicial or administrative. This also applies to any claims received against the Company or its directors and shareholders. From a sellers point of view, there is no reason to hide anything. With today’s day and age of the Web, there is a lot of info circulating out there and that last things you want is for the buyer to find something without you telling them first – even worse when this happens before the deal is closed.
• If the Company has been in court, was there any Judgments or out of court settlements?
• Ultimately, is there anything from a legal perspective that could raise the liability of the directors and shareholders that the buyer needs to know about. Again, if the seller has a well managed database, such things are easy to dig up. Otherwise you might just forget about something. And forgetting gives an immediate impression of hiding something…
• In the context of IP (and we’ll get deeper on the matter in my next post), the seller needs to supply any form of Legal opinions prepared by any lawyer or law firm regarding the actual and potential liability of the Company.
• This section also relates to compliance. The seller need to list all permits that they have in order to run de business as they do. This can also include components such as the Office of the Langue Française that we have here in Quebec. There is an obligation to comply to specific rules once a Quebec based Company is more than 50 employees. While the Company can still run their business without being 100% compliant, this is something you want to raise as you are looking to buy the business.

What is important to capture here is not only any information that indicates issues from a legal and compliance perspective but also the level of precision on how legal was managed. Too many times, legal is managed by an outside firm and the management of records is not really being kept in order. Due diligence is as much about how you get the info as the info itself. This is why I always suggest that start-ups invest just a bit more on legal (for example, by hiring a junior paralegal) and make sure that everything is tidy and clean. Again the whole point of doing a due diligence and purchase agreement is to make sure that you are fully aware of all potential risk and liabilities – getting no surprises once the deal is done. And this applies also to the seller; you need to minimize risk and liability for the shareholders as they will mostly have a portion of the deal under escrow.