Due diligence involves carrying out a detailed study of a startup, including its product, finances, legal status, team, market, and technology. The goal is to gather as much objective information as possible to help you make an informed investment decision.

So, what is startup due diligence?

Startups are always associated with high risk. Some disappear before generating any revenue, while others shut down before releasing their product. Therefore, investors cannot rely on intuition or the promises of the founders alone. Due diligence helps find answers to critical questions such as:

• Does this product really solve a pressing problem?
• Is the team capable of realising the vision?
• What legal and financial risks might there be?

In a typical scenario, due diligence begins once an investor has expressed interest in a startup and negotiations about potential funding have commenced. It is one of the final stages before a deal is signed, and in the case of large investments, this process can take several weeks or even months.

Due diligence is usually less formalised in pre-seed or seed rounds, but it is a mandatory and detailed process for mature companies.

Depending on the size of the investment, due diligence may be conducted by the investor themselves, a team of analysts, or engaged consultants such as lawyers, auditors and technical experts. Some angel investors conduct it personally, while venture capital funds have entire teams of relevant specialists.

Due diligence covers:

• Financials (revenues, expenses, debts, and equity).
• Legal aspects (registration, patents, contracts).
• The technical state of the product.
• Market position (competitors, demand).
• Team: competencies, motivation, conflicts.

Due diligence types: financial, legal and technical

Financial due diligence

This involves checking everything related to the startup's finances, including accounts, cash flow, liabilities, revenue models and forecasts. The purpose of this is to establish whether the company is financially stable, whether its accounts are transparent, and whether the financial situation aligns with the information provided by the founders.

Key audit items include:

• The balance sheet: what assets and liabilities does the company have?
• Cash flow: Where does the money come from, and how is it spent?
• Debts: Are there any loans or unpaid liabilities?
• Burn rate: How quickly is the startup spending money?
• Cap table: Who owns what share?
• Financial projections: are they realistic?

Legal due diligence

This involves checking that the company, its structure, intellectual property rights, and all current transactions are legally sound. It’s required so that the investor will not fall into a legal trap and will get real rights to a share of the company without any unpleasant surprises.

What is checked?

• Constituent documents (articles of association, extract from the register).
• Company registration (jurisdiction, ownership structure).
• Shareholder agreements, options and convertible notes.
• Contracts with clients, partners, and contractors.
• Employment contracts with key employees.
• Lawsuits or other legal risks.
• Trademark rights, patents, domains, and code.

Technical due diligence

This type of due diligence focuses on the product or technology that the startup is developing. It is particularly important for IT companies, hardware developers, and startups with complex engineering.

What is being tested?

• The quality of the code and architecture.
• Security: Are there any vulnerabilities or risks of data loss?
• Documentation: Are technical specifications available?
• Code ownership: Does the company own all the code? Are there any third-party libraries?
• Development team: Who is responsible for the product, and how resilient is the team to staff changes?

Technical due diligence aims to assess the product's viability and scalability, determine whether it can be developed without major rebuilds and estimate the cost.

Why is due diligence essential for private equity and venture capital investors?

Investors see the due diligence process as a critical step before any deal is signed.

For private investors, it ensures that the startup has transparent structures, accurate financial records and no hidden risks that could affect the return on their capital. Due to their lack of diversification, mistakes in one project can be costly for private investors, so due diligence reduces the likelihood of such mistakes.

For venture capital funds, due diligence acts as a multi-layered check, analysing the market, team, technology, legal structure, intellectual property protection and scaling scenarios. This helps to determine the business's viability and the likelihood of it becoming profitable or achieving an exit.

In addition, how the startup approaches due diligence — i.e. how quickly the team submits documents and how the data is organised — is an indicator of the business's maturity. Investors expect a full set of documents, transparent answers and an honest approach to risk.

Having a well-organised data room containing financial information, details of legal transactions, capability, and metrics is a positive signal. This not only mitigates risk but also forms the basis for trust between the parties.

Top 10 Questions for Startup Due Diligence

What is the business model and proof of demand?

Investors are interested in whether the business model is understandable, scalable, and profitable. It is particularly important to understand how the company generates revenue, whether through subscriptions, transaction fees, direct distribution or other models. Investors expect a clear demonstration of the revenue structure, projected costs and key financial metrics such as margin, LTV, CAC, and customer payback period.

At the same time, it is crucial to confirm market demand. A startup must demonstrate that users are willing to pay for the product, not just show interest. This can be demonstrated through an active customer base, pilot contracts, consistent repeat sales or subscriptions, letters of intent, or pre-orders.

Having an MVP with usage analytics, customer testimonials, and real conversions is also compelling. Investors want to see traction in the form of growth in users, revenue and customer acquisition, which speaks to the effectiveness of the business.

How are the market and competition priced?

Investors expect the startup team to have a clear understanding of their market, including its size (TAM/SAM/SOM), growth rate, geographical specifics, regulatory specifics and major players. Founders should avoid overestimating the size of the market and provide realistic figures, preferably citing authoritative sources.

It is also crucial to demonstrate an understanding of the competitive landscape. Investors pay attention to how well the team can identify direct, indirect, and potential competitors, and how they can demonstrate that their solution is superior. They expect an honest analysis, not the illusion of 'we have no peers'. You can use a SWOT analysis, competitor matrix, or price/quality positioning to demonstrate the benefits.

Investors want clear answers to questions such as: 'Why now?' If the market is in its infancy, what will trigger its growth? If the market is mature, which niche has not yet been filled? A startup must not only know its market, but also have a strategy for adapting to changes in it.

What is the ownership structure?

An up-to-date capitalisation table includes information on who owns shares in the company, how many they own, and what preferences each shareholder has. Investors want to avoid situations where the founders hold a small stake or where passive investors hold significant rights that could hinder growth.

A structured ownership model in which the founders and active business participants hold the majority stake is viewed positively. It is also expected that the startup has allocated, or intends to allocate, an equity pool to motivate the team and attract strong talent.

Investors want full transparency regarding the distribution of shares: who invested, on what terms, when, and how this was legally formalised.

How are intellectual property rights formalised?

Investors want to be sure that the core value of a startup — its technology, code, product, or brand — belongs to the company. Founders must provide legal proof that all development, design, branding, and technical documentation have been assigned to the company and not retained by individuals or third parties.

This is particularly important for technology startups. The code must either be written in-house or licensed as open source, while complying with the relevant licences. If contractors or freelancers were involved, signed IP Assignment Agreements are required.

Investors also pay attention to whether patents, trademarks or other forms of protection have been applied for and registered in key jurisdictions. Protected IP is not just a formality, but a real barrier to competitors and one of the main assets affecting the value of the business.

How much runway is there (i.e. how much money is there until the break-even point)?

As well as the number, investors want to hear the reasoning behind a startup's financial planning. For example, how many months can the team operate without raising new capital? Does the runway take rising costs into account?

The investor is also interested in two key dates: the cash zero date (when the money will run out completely) and the breakeven point. They assess whether the funding request fits within these timeframes. In other words, if a startup requests investment for a 12-month runway, will the funds be sufficient to reach the next stage or secure a new round of investment?

Plan B is also important: is the team prepared for the unexpected? Is there a margin of safety? Can it adapt costs?

Who is on the team, and how are the roles assigned?

Both professionalism and team interaction are significant. It is critical to ensure that the main roles, such as technology, marketing, sales and operations, are covered. If an area is missing, you should ask the founders how they plan to address this, e.g. by hiring, seeking advisers or outsourcing.

Special attention is paid to whether the co-founders complement each other, whether there are any conflicts, and how committed they are to the project.

Investors are also interested in the motivation and incentives of the startup's employees. For example, is there an option pool?

What are the legal risks?

Investors expect the team to be aware of any potential legal challenges. The most typical include:

• Unresolved relationships with contractors, especially if they worked without contracts.
• Unregistered trademarks or domains.
• Disputed intellectual property.
• Corporate conflicts, such as unreconciled captives or old investors with blocking rights.
• Regulatory infringements, particularly in the areas of financial services, personal data processing and healthcare.
• Regulatory risks in the jurisdictions in which the startup operates.

The team should be aware of potential legal threats and take measures to neutralise them. This could include conducting legal audits, getting support from lawyers and coordinating documents.

Which contracts are in place with partners?

Key partnerships should be legally enshrined, rather than existing only as verbal agreements or correspondence. This includes current customers and strategic partners, such as distributors, suppliers, platforms, technology integrators and resellers.

It is especially important to check the following:

• Terms of exclusivity. Does the partnership prohibit working with other counterparties?
• The duration of the partnership and the possibility of termination. Is the deal stable, or is there a risk of losing a partner at a critical moment?
• Financial obligations: purchase volume, fines, and prepayments.
• Jurisdiction and dispute resolution: Where and how will conflicts be resolved?

Investors also pay attention to the presence of a Letter of Intent (LOI) or Memorandum of Understanding (MoU), as these serve as a signal that real negotiations are taking place even if the contract has not yet been signed. Ideally, the startup will have more than just declared partnerships in the pitch deck and will be able to confirm their terms in a documented way.

What problem is the startup solving, and how does this relate to the market?

You need to assess the team's understanding of the problem-solution fit, i.e. whether the chosen problem is genuinely a pain point for the market, and whether the proposed solution effectively alleviates or eliminates it.

Investors are interested in:

• How big and solvent is the problem? In other words, is there a market willing to pay for this solution?
• Who is the target audience? Is it B2B or B2C, and why was this segment chosen?
• Has the concern been verified by users? This could be done through interviews, surveys, beta testing or pilot projects, for example.
• How unique is the startup's solution compared to others?
• What are the economics of solving the difficulty? In other words, will customers be willing to change their usual behaviour?

Investors want to see a deep understanding of the target user's pain backed up with data. If the team can explain this in a simple, structured way with examples, this signals maturity and market awareness.

How does the company plan to scale and support the product?

The first point is the scaling scenarios. In particular, is there a plan to expand the business into new markets or to attract more customers? You should also be interested in whether the technical infrastructure is flexible enough to scale.

Second, support resources. It's important to understand whether the team and financial resources are sufficient to support growth. Also, how the startup plans to handle technical issues after the product launch.

Thirdly, customer support. Are there mechanisms for customer service (technical support, product updates, complaint management) and a long-term strategy for updating and improving the product?

And finally, barriers to scale. Here we look at the challenges a startup may face during the growth phase (e.g. technological, regulatory or human resources) and how to overcome them.

Remember that scalability and product stability determine a startup's long-term potential. Investors want to see that the company is ready to grow and has a clear plan to manage this process.

Which documents do I need to check?

Legal documents

• Company registration documents, such as articles of association, a certificate of incorporation and extracts from the state register. Also, documents relating to changes in founders or directors.
• Ownership structure (cap table): an up-to-date table showing the shareholders, their shares and options, and previous rounds of investment.
• Shareholder agreements and option plans: contracts that define the rights and obligations of owners, share transfer mechanisms and exit rules.
• Contracts with key employees, such as employment contracts, non-disclosure agreements (NDAs) and non-competition agreements.
• Partnership agreements: Contracts with suppliers, distributors, and partners that may affect operations.
• Licences and permits: proof of compliance is required if the business operates in a regulated area.
• Intellectual property: patents, trademarks, copyrights, licence agreements and code and technology rights documents.

Financial documents

• Financial statements: balance sheet, profit and loss statement, and cash flow statement for the last one to three years, if possible.
• Tax returns and confirmation of fulfilment of tax obligations.
• Bank statements to verify cash flows and the consistency of the statements.
• Budgets and financial projections, as well as current spending and income plans. It will help assess business prospects.
• Loan and liability documents: loans, leases and debts.

Operational documents

• Business plans and development strategies to understand the company's vision and plans.
• Market and competition reports, such as market research results and competitor analysis, are also useful.
• Customer and sales reports, including contracts with key customers, delivery terms and order history.
• Product quality reports: test results, customer feedback and the product roadmap.

Technical documents

• Product architecture: system description, technology stack and scalability.
• Code base and status: documentation availability, coding standards.
• Security policy: data protection measures, backups, and compliance with standards.
• Technical team information: contracts, roles and competencies.

Tips for startup due diligence

How should the due diligence process be structured?

Taking a structured approach to due diligence helps you avoid getting lost in a sea of data, questions, and assessments. An organised process enables you to swiftly grasp your startup's strengths and weaknesses, recognise risks, and make an informed investment decision.

Formulate due diligence objectives

Before diving into the documents, ask yourself:

• What do you want to learn?
• What risks are you most concerned about?
• The startup’s stage of development.

For example, if it is the pre-seed stage, the focus will be on the team and the market. For a Series A, financial discipline, traction, and ownership structure are important, for example.

Offer to create a data room

Ask the startup to create a centralised virtual data room containing all the documents. This will speed things up considerably and allow you (or the team) to review different aspects of the business simultaneously.

The data room should contain:

• Statutory documents.
• Captable and SAFEs/Convertible Notes.
• Contracts with partners and customers.
• Licences, patents, and trademarks.
• Financial statements, plans, and budgets.
• Team: CVs of key personnel and motivation packages.
• Technical documentation (if relevant).

Avoiding mistakes

Overly superficial due diligence

Many investors, particularly those in the early stages, restrict themselves to speaking with the founders, viewing the pitch deck and examining one or two documents. But that's not enough. Startups often appear convincing in presentations, but may have significant underlying issues, such as hidden debt, diluted IP and unsettled partnerships.

Ignoring the team

Sometimes investors focus too much on the product, market, or numbers and underestimate the most important thing: the team. It's worth asking:

• Do the founders have relevant experience?
• Are there any conflicts between them?
• How long have they been working together?
• Do key participants have motivational incentives?

Intellectual property uncertainty

It is always significant to check who owns the code, design, name, and patents. If the hired developer has not signed a transfer of rights, the IP does not belong to the company. This can pose a serious risk, particularly during an exit or the next funding round.

Failure to fulfil legal obligations

Are there any ongoing legal cases? Are there any outstanding obligations to former co-founders? Do you have contracts in place with suppliers? All of these issues need to be checked at the outset; otherwise, there may be unpleasant surprises further down the line.

Inadequate market valuation

Founders often claim to have a 'billion-dollar TAM', but fail to explain how they plan to capture it. Assess:

• What is the real available market (SAM)?
• Is there real demand?
• Who are the competitors, and how does the startup differ?

Investing out of emotion

Just because the founder is charismatic, gives a good presentation and seems promising, doesn't mean there are no risks. Emotions typically overshadow critical thinking. Don't confuse charisma with competence. Financial loss is not an effective way to become objective.