All You Need to Know About Technical Due Diligence For Startups
Having a startup, you dream about fast growth and big success. But, the path to successful investment rounds and millions of users have a lot of obstacles and barriers. One of them is technical due diligence.
Tech due diligence allows to understand the quality of code and evaluate development processes. Its primary purpose is to reveal all the risks for investors who are going to fund the product.
We’ve created the full guide on how startups can handle due diligence.
What Is Technical Due Diligence?
Let’s start with the technical due diligence definition. This term stands for analyzing and reviewing every tech aspect of the product or service. Due diligence usually takes place before acquisition of the business by another company or round of investment.
During the tech due diligence, it’s common to answer the following questions:
- What's the technical state of the product: Is it on the initial phase of development, in progress or already released?
- Is the code written properly: Are all coding guidelines met?
- Is the software scalable: Is it prepared for unexpected growth?
Technical due diligence can bring various benefits to the startup and the investor:
- Due diligence lets understand the condition of the product.
- It’s possible to establish the suitability of the property for the intended use.
- Allows to find out future expenses for product improvements.
- Technical due diligence processes highlight possible risks for both — company and investor.
Technical Due Diligence Process: 6 Steps to Follow
The typical tech due diligence process has six main steps. But there can be even more stages depending on your company’s requirements and business goals.
Steps to do technical due diligence
It’s common to start tech due diligence beforehand. The first thing that participants should do is being open and honest with each other. Trustful relationship with future partners or investors is a must-have for any startup company that wants to be successful.
Usually, this period begins after all the details and requirements of the tech due diligence process are discussed. Parties also set deadlines for preparing the necessary documents like APIs documents, architectural description.
The company tends to have some technical documentation like architecture, design documents, and more. Share these docs before meeting in person.
The investors prefer personal sessions to find out the inner processes of the startup. Such a meeting may last one or two days and allows analyzing the services or products personally.
The two previous stages typically bring a lot of questions. Discuss all the details and give investors full transparency. During this step, you can have several personal meetings with partners, considering their questions about the tech part of your service or product.
The final stage of performing technical due diligence for startups is preparation of the final report. Investors usually to hire independent specialists to fulfill due diligence. As a result, they get the report describing all possible risks, benefits, expected revenue.
Key Elements of Technical Due Diligence for Startups
While preparing for the tech due diligence, you need to consider all the strong sides of your service or product.
Technical due diligence questions also depend on the investment stage of your startups. Below you can find various investment stages.
- Stage #1. Seed funding. During this stage, you need to release the product to the market. The investors can see first results and make a decision about your startup’s potential.
- Stage #2. Series A. The startup already has a working business model and get stable revenue. The company needs investments for further development and improvements.
- Stage #4. Series B. This stage is similar to the previous one. Additionally, firms focus on customers’ demands and scaling-up.
- Stage #4. Series C and beyond. The company needs investments to create new products or services. During this stage, the startup tends to reach new markets and even cooperate with other startups.
As you can see, there are four main investment phases for startup firms. The tech due diligence and its elements may vary depending on them.
However, there are six primary elements that you need to consider beforehand.
Key elements of technical due diligence (Part 1)
#1. Architecture and Infrastructure
The main thing about the technical due diligence process is discussing your company’s technology. Get ready to describe your technology and provide tech documentation, architectural charts, scalability, and so on. Additionally, you need to compare your solution to the competitors making sure you’re offering something unique.
As for infrastructure, you need to explain the constituents of your product like programming languages, databases, or any other technologies. The investors pay a lot of attention to this factor to avoid security issues.
Challenge: Prepare detailed documentation beforehand.
It’s common to examine the architecture utilizing the ‘4+1’ view model by Philippe Kruchten. According to this model, you can look through the system from various points of view.
The ‘four’ stands for development, logical, physical, and process views. As for the ‘one,’ it means scenarios that show different options of using the system.
The list of required documents can vary according to your business field. Typical documentation looks as follows:
- Product design documents
- Architectural descriptions
- APIs documents
#2. Code and Data Quality
No doubt that code quality is one of the most significant factors for technical due diligence. A badly built system can cause a lot of bugs and malfunctions.
During tech due diligence, investors pay attention to the code since poor-written code leads to additional development time and costs.
Challenge: Hire a qualified team of developers that can write high-quality code.
It’s good to have unit testing since it shows all the possible pitfalls. But, you need to test not only the back end of your project but also the front-end and data repository. Look through UI and fulfill the regression testing to avoid malfunctions.
One more point to consider is scalability of your product. It can become a crucial point, especially if your product will be deployed to the investors’ solution. For example, you can give information about the test your team has done.
During the technical due diligence process, it’s common to find out how the system works and what kind of problems can appear during the growth.
Challenge: create a scalable product that is ready for growth.
There are several aspects that you need to consider in this area. For instance, extensibility. Is your system ready for unexpected growth? It’s necessary to highlight the problems that can appear and ways on how to solve them.
Since the security issues are significant, you need to prepare all the documents about the security tests performed. By the way, some automated tools can collect such information and provide reports (SoupUI, Apigee).
Key elements of tech due diligence (Part 2)
The team of software developers creates and maintains your product, so they tend to have a significant impact on your business and success. Of course, investors are interested in your team of professionals during the technical due diligence process.
You need to give them information about the team members, highlighting team leads, and their responsibilities. If you cooperate with outsourcing companies, it’s better to introduce outsourced team members to the investors.
Challenge: Keep your contracts and workers prepared.
You need to keep the organizational chart up to date. You can even have a database with all the contracts of employees and their associated costs. Additionally, you can prepare a list of your employees and their skills connected to your project development and deployment. Make sure that your software development team consists of engineers, designers, and product managers.
Let’s move on with the inner processes. To build and maintain an exciting product, you need to have a working system. That’s why you need to consider such issues as quality assurance, security testing, product support, and deployment processes. Investors want to see that these processes are cost-efficient and effective.
Challenge: Well-designed documentation with detailed workflows.
It’s better to document all your inner processes. For example, the information about the schedule, expenses, and team members. It’s also good to prepare performance metrics and KPIs.
#6. Intellectual property
Last but not least is intellectual property. Investors pay a lot of attention to this factor. You need to ensure your future partners that the intellectual property is completely protected. It’s better to pay attention to any third party components like free or open-source software.
Challenge: Update the company’s patents regularly.
You need to carefully track all the open-source components of your software solution like dependencies, licenses, and more. In this case, you can prevent any legal issues.
Technical Due Diligence Checklist
If you are not an expert in the technical due diligence, you’d better hire professionals. They can prepare all the required documentation to evaluate and protect the investment.
There are several more reasons to hire a third party to walk you through this process:
- Various metrics. It’s possible to look through the code utilizing different analytical tools. That allows seeing the architectural design, code complexity. Such metrics give a full picture of code quality.
- Senior professionals. There are automated tools, but you can also hire an experienced software engineer to estimate the code quality.
- Fast delivery. Cooperating with third parties allow getting more rapid results, since they already know the process and work faster.
To do the tech due diligence properly, you can look through our checklist. There is a list of due diligence questions to start understanding the structure and maintenance of the product.
There are questions according to various factors like code quality, scalability, architecture, and more:
- What is the architecture of software solution?
- Organizational chart. What are the roles and responsibilities of the key team members?
- What open-source software is used?
- What did the software development and delivery processes go?
- What is the technology team budget?