Customer Due Diligence versus Financial Due Diligence



Updated October 9, 2023
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During customer due diligence, the aim is for your potential customer to decide whether the risk they will inherit from using your product or service is acceptable in relation to their security expectations and risk appetite. If a customer decides this is not acceptable, they will not buy. If they purchase your product and later decide the risk has changed, they can revisit this decision and may choose not to renew their contract or ask for a change in the product or operations.

Misrepresentation in customer due diligence may lead to poor customer relations, lost customers, and lawsuits; however, these are limited to the terms agreed in your operating terms of service and often have a fixed maximum limit of liability.

In financial due diligence, things are quite different.

Financial due diligence is the precursor to investment, company purchase, IPO, or acquisition. These are significant transactions that involve material sums of money. If an investor chooses to fund your organization and finds that the information they received in financial due diligence was incorrect or misleading, the consequences for your company (and you as a company director) can be significant.

While these consequences will differ from deal to deal and country to country, they will often include things like:

  • Directors being held legally and financially liable for any claims made against them in relation to information provided during due diligence that was found to be incorrect or misleading.

  • Directors or executives losing their role in the organization.

  • Forfeiting any shares or payments held back or with a vesting period.

The claims or promises made during the financial due diligence process are known as warranties.

What Is a Warranty?

Definition A warranty is a claim or promise made by a seller. Often during large financial transactions, the buyers or investors will ask for a series of warranties to be included in the contract. These warranties are a set of promises the seller must ensure are met or true for the contract to be honored. These warranties must be met at the time of contract completion and may need to be maintained for an agreed period of time after the completion date.

Warranties give the party receiving them (in most cases the buyer or investor) the right to sue for damages if the warranty is breached and the breach causes loss or liability. In short, these fundraising and exit events will require you to make legally binding commitments regarding aspects of your business.

Increasingly now, cybersecurity is included amongst these warranties and as such, we need to know how to stay safe and meet our warranty obligations, for our company’s success (and our own).

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