Many of us in the investigative due-diligence profession have seen a considerable increase in requests for pre-closing background and track record examinations by banking and investment organizations.

Previously, they had presumed that their dealmaking staffs were being given sufficient time and resources to independently conduct such a fundamental exercise.

These lenders and investors now recognize that the ever-increasing amount of time consumed in negotiating and structuring the movement of money out into the marketplace frequently has left too little time for the efficient application of precaution and prevention in advance of making new financing commitments.

The leaders of these institutions are encouraging their staffs, when appropriate, to reach outside the organization for the extra transactional comfort that so often is provided with discreet investigative assistance.

Lessons from the Recession

We believe this renewed emphasis on closer examination of the stability and historical performance of prospective financing candidates is a direct outgrowth of the hard lessons learned during the broad-based recession that has so severely affected the financial services community in recent years.

Financiers from all categories appear to be embracing the merit and substantial benefit that can be derived from quality third-party investigative services in advance of making major commitments to new borrowers, remote companies, or emerging specialties.

Let's discuss some of these benefits, and also the many rationalizations for debt and equity institutions to seriously consider the establishment of investment policies and funding thresholds that, when encountered, will automatically trigger the required engagement of an approved due-diligence investigator before financing decisions are made.

Internal Credit Enhancement

Actively demonstrating to stockholders, board members, security analysts, limited partners, liability insurers, and other interested observers that you are utilizing the services of third-party background examiners as a matter of newly adopted due-diligence policy is exactly what they want to see and hear. The investigation becomes an internal credit enhancement.

As a marketing vehicle, the ability to raise a pool of funds or to syndicate an investment or loan can also be enhanced pursuant to the commissioning and promotion of a professional third-party due-diligence report.

Further, credit policies that specifically integrate the required use of outside services at preestablished financing levels have been found to be an effective means of silencing government regulators.

Not for Everyone

Certainly we are not suggesting that all financing candidates under consideration should be subject to outside examination

In fact, a leading element that influences the need for unbiased due-diligence assistance is, ironically, the financing institution's own reputation for risk orientation in the marketplace, coupled with the aggressiveness of its funding objectives and the depth of internal due-diligence resources that are already in place.

Ultimately, however, a decision with respect to the need for outside services can be determined only after carefully consideration of elements such as quality and thoroughness of financial disclosure statements, geographic stability and perceived quality of candidate, prior history and experience with candidate, degree of comfort and experience in dealings with business type and/or industry, transaction size and expense capacity, and circumstances leading to introduction.

Critical Juncture

All too frequently, outside due-diligence advisers are engaged at a critical juncture during the investment or loan consideration process.

Some point of concern or discomfort has surfaced. Driven by concern with the potential damaging of the mutual trust relationship, the client typically will ask that we conduct a discreet examination of the potential problem without alerting the subject to our investigation.

Certainly our firms can be thorough in the performance of such an assignment, despite the research constraints.

However, just as banks at the outset require the submission of financial statements and tax returns along with permission to run a credit report as conditions of "going forward," we strongly recommend that a third-party due-diligence investigation should, in appropriate cases, be included in that list of understandings.

Cards on the Table

Proceeding in this right-from-the-start manner permits all of the cards to be on the table at the outset and thereby avoids placing the relationship at risk further down the road.

Furthermore, and of more significant benefit, the investigation becomes unbounded by constraints, thereby resulting in a far superior product.

Simply put, third-party due diligence makes sense.

We are impressed that some in the lending and investment community are beginning to step back and consider its merits. They are preserving the present and future interests of depositors, shareholders, employees, and taxpayers.

Subscribe Now

Access to authoritative analysis and perspective and our data-driven report series.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.