Angel Investor or the Devil of Duplicity
The #1 neglected area of investment for entrepreneurs, start-ups, and mid-sized firms: executive and investor due diligence.
To many people the Silicon Valley is a Shangri La paradise for startups and investors, a honey hive of ideas and disruptive innovations, but it is also attracting the killer bees of fraud to it. This should be no surprise, as fraud is nothing new to the tech industry and other business sectors. A quick look at the not so long ago dot bomb era through the early 2000’s, from empty offices of supposed vibrant companies to Enron and WorldCom shows it only too well. Now with companies staying private longer, there is less transparency and investors from Singapore to Bangladesh are eager to be part of the next new thing. For the investor this is a high risk, high reward endeavor, and only experienced investors will take a thorough look a company’s potential before funding often inexperienced teams and handing over large sums of cash.
Volatility and high risk exposures are often present in company acquisitions, often leaving the acquirer with substantial risk post-deal. Investors who do not conduct due diligence on their start ups often face dismal outcomes ranging from lack of integrity, to bribery and corruption, and other behaviors including sexual harassment and intimidation, or even a criminal past which may be exposed by the media resulting in huge financial losses, or significant deal carve-outs costing millions, not to mention serious reputation damage. Managing such risks and reducing deal volatility should be an essential step in every investors risk management portfolio.
For start-up executives the interest of an investor can be a dream come true, but if they do not do their own due diligence on the investors, their dream can quickly become a nightmare.
What is Due Diligence?
In its most basic definition, “due diligence” is the term for various concepts involving an assessment of a business or person(s) prior to conducting business. For most entrepreneurs, mid-sized companies, and start-ups due diligence is often relegated only to the financial and legal keeping of company records in order, to show the health of their company to present to potential investors, buyers and regulators.
Why Do Due Diligence on a Potential Investor?
Many start-ups and entrepreneurs think it’s unnecessary to conduct due diligence on investors or simply do not think of it at all, but it is of foremost importance when doing business. The risk is too great not to. All the blood, sweat, and tears you’ve invested in growing your idea, is worth the investment in making sure that the people offering to back you really are who they say and have the funds they claim. Will they take offense at having a due diligence conducted on them? Any legitimate investor should not only, not be offended, but should be impressed by such professionalism and savvy business practice. If they do get upset, it may be a red flag. It is important for any entrepreneur to make sure the deal being made with an angel investor isn’t a devil’s deal.
Due diligence should be a standard business practice of any company, and it should start early in the company development. This should also be standard when dealing with investors, onboarding your advisory board, hiring a board of directors and C-suite executives.
Due Diligence is Not a Background Check
Due diligence on executives is often confused with routine employment background checks. There is a defining difference. Routine background checks are usually limited to five or six component reviews: verification of employment, degree or education, social security number, and address, along with a look at possible criminal records and, sometimes, credit history. A proper due diligence check will incorporate a wide variety of other components (all available public records), cross-referenced with known facts about the person and combined with extensive deep media and deep internet searches to reveal hidden and undisclosed information that may be key. One in five executives have serious issues hidden in their backgrounds.
Most companies that perform due diligence checks do not look at all the areas that need investigation in order to provide lower costs to attract clients, but thereby also lowering the value of the investigation and increasing risk for the client—a dangerous practice.
An effective due diligence should include: checking for hidden aliases, money-laundering, murder/man slaughter, embezzlement, bribery/racketeering, IP theft, interstate bankruptcies, social media negative concerns, historical issues, con-artistry and other behavioral/lifestyle issues, litigious behavior, perceptions of impropriety, signs of malfeasance/misconduct, presence of undisclosed information, financial pressures, undisclosed business ownership, undisclosed business or board involvement, other code violations, convictions for manslaughter and even murder. Criminals are often brazen and will sign any document while hiding their dark past at all costs.
Cost and Commitment
With all the cost of entrepreneurship and running a start-up, often due diligence on investors, executive hires, and board members seems like something that can be set aside. The cost of not making it a general business practice endangers the success of your dream. True commitment to your vision, however, is one that includes protecting your investment, your business, yourself, and your team. Understanding your exposures in business underscores best management practices. It sets a culture of transparency and ethics that should be valued by everyone involved in your business.
Identifying risks early in the process enables effective risk mitigation, proactive damage control and will protect your business reputation that has taken years to develop but can be crashed in a single revealing media exposé.
Due diligence checks on investors, executives, and board members, should be a regular practice. Remember, “the devil’s in the details.”
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