No two investors conduct due diligence the same way. Learn what you don’t know
January 16, 2024
Adam Wakefield

Due diligence (or DD) is a term that every investor and founder encounters at some point in their career and multiple times. In 2023, DD has taken on increased significance as the African tech ecosystem experiences a slowdown in investment activity. Tougher economic conditions are leading more investors to dedicate more time and resources towards DD in the ecosystem to protect their investment.

If you are a founder who has never been through a DD process nor has high-level knowledge of what such a process entails, that feeling of going into the unknown not knowing can be highly unsettling. Furthermore, there’s no standard playbook founders can use to understand whether their DD process is too much, too little, or just right.

This question is what a panel of experts convened by A&A Collective and Founders Factory Africa sought to answer at an event hosted at Ikigai Riverside in Nairobi on Thursday, 3 August. The panel featured Eugene Gikonyo, Investment Associate at Global Innovation Fund, Eric Muli, CEO and Founder at Lipa Later, and Zaina Otieno, Associate Principal at CrossBoundary. Loraine Achar, Senior Investment Associate at Founders Factory Africa, moderated the panel.

A simplified way to view DD from an investor’s perspective

For founders looking for a simplified way to understand DD, Peter and Zaina defined what DD meant to them in their own context.

Zaina said that DD, in layman’s terms, is “trying to attain comfort, and it’s the minimum level of comfort that you can receive on something in order to trust whatever they’ve [the founders] shared.”

Eugene leaned in on Zaina’s answer.

“You’re not going to always get all the answers that you have [sought], but you have to get comfortable with the gaps that you identify. It’s having a track and a plan as to how you can eventually have those questions answered post-investment,” he said.

There is no standard DD process, but it takes time

A theme that emerged from the panel is that while there is no standard way to conduct a DD process, a thorough DD on a venture or organisation takes time, months even. The relationship between those conducting the DD and those being reviewed also significantly influences how a DD process can play out.

Zaina described the DD process from a fundraising perspective. It usually begins by preparing materials internally, such as the pitch deck, the information memorandum, and the financial model, followed by startups often onboarding advisors on the various aspects of that specific DD process. Around this time, they would also contact investors to learn more about the venture. These discussions are complemented by reference calls to people who have worked with the advisors to understand better what it’s like to work with them. The advisors are then onboard into the process. At this point in the process, the investors they would be working with would have been identified. Regarding time, Zaina noted that the process can take two to five months.

This is compared to the two to three months that Eugene has experienced. The process he’s familiar with — from an impact investment angle — begins with a preliminary impact and financial assessment, with the assessments designed to understand the problem, the theory of change and the impact pathways. Preliminary ESG and background checks are conducted on the directors and the company. The Global Innovation Fund also leverages climate and gender “markers” applied to each investment they make. Analytics also plays an important role.

The founder’s DD challenge: Not knowing how unprepared you are

As a founder, Eric’s experience of DD has been directly related to the journey he and Lipa Later team were on at that point in their careers.

“When we started our first due diligence process, we probably did not know what we were doing and, from a fundraising point of view, what to expect from due diligence,” he told those in attendance and listening online.

At the angel investor level, the question most on Eric’s mind was, “Can you sell?” not DD. However, at a certain point, Lipa Later had to learn how to prepare themselves for DD and put in place processes to serve that need.

Eric related a story about when Lipa Later went to market, which saw them interacting with an ecosystem stakeholder who was “very open with us and very straightforward.”

“He basically told us how unprepared we were for the due diligence process without mincing words. He was very clear. I took that as a challenge for us to get prepared. In the very beginning, our first [DD] process was extremely tough because a lot of people will just not tell you that you’re not prepared,” Eric said.

“You don’t know that you’re not prepared at that point. We learned that, and I learned soon after that that it’s very important to prepare ourselves. We borrowed a lot of things from people that had done it well and learned from that.”

The DD process can help to identify blind spots

Eric shared that no two investors conduct the same level of DD for the same cheque. He’s encountered investors who did not require intensive DD even though the cheque size was substantial and others who conducted a comprehensive DD process even though their cheque was small by comparison.

Notably, while the DD may not necessarily match the size of the cheque offered, Eric said that you have to do your part because “you might need the money, or you never know. Maybe that 50 might turn into 500. You never know.”

The best DD processes Eric has been involved in as a founder are those where, as he says, “we both feel that it’s fair. We’re not really wasting each other’s time. The relationship is relatively transparent, and we’re not going to speak about the same thing for 3 to 4 months.”

“I am encouraged by a highly mutual due diligence process where the investor at hand is trying to understand and actually cares about the business… It’s an opportunity for them to give you opportunities to extract blind spots that you may not know about.”

You can learn more about Founders Factory Africa here.

You can learn more about A&A Collective here.