To successfully finance a start-up, potential investors and business partners must be convinced of its attractiveness as an investment. An important tool for this is the due diligence process. In a due diligence process, a company discloses all relevant information and documents in a data room, which today is almost exclusively electronic. While smaller private investors who are already familiar with the company may waive this requirement, strategic investors or venture capital funds usually insist on it. Typical occasions for due diligence include financing rounds, collaborations, licenses, the sale of a start-up (exit), or applications for government grants.

Effective Data Room Design

For founders, setting up a data room for the first time can be a considerable challenge. It is therefore crucial for them to consult their advisors – such as attorneys, patent attorneys and tax advisors – at an early stage. It is further recommended that founders ask the other party which areas they would like to examine as a priority. Particularly for companies whose business model is largely based on intellectual property and technological inventions, a potential investor will first want to review the corresponding documents. They need to be convinced that the technology they are considering investing in delivers what it promises. Depending on their working style, they may as a first step send a list of questions ("request list"), outlining the topics they would like to review.

Subsequent reviews of corporate housekeeping items, contract law and tax aspects take place once the potential of the technology has been established beyond doubt.

Legal due diligence usually requires the latest up to date documentation on the aspects below. For corporate and tax law documents prepared annually, the last three to five years are generally considered relevant:

• Company and strategy: pitch deck, business plan, vision, business model, sales and marketing strategy

• Company and organization: current corporate law documents such as extract from the commercial register, articles of association, share register, share certificates, share transfers since incorporation (title chain), shareholders' agreement, board of directors meeting minutes

• External financing: List of investors, cap table, list and terms of convertible loans

• Finances: Annual financial statements, liquidity planning, auditor's reports

• Legal and contracts: Important customer and partner contracts, terms and conditions, confidentiality agreements, data protection guidelines, lawsuits and legal disputes

• Product and technology: product description, patents and licenses

• Team and HR: organizational chart, founder and employee contracts, participation programs (ESOP/VSOP), pension plans and social security

• Real estate: Rental agreements or information on land ownership

Depending on the complexity, several rounds of written questions and answers ("Q&A") on the disclosed information are exchanged during the due diligence process. Where appropriate, a telephone conversation may be held and formally documented to facilitate the Q&A process. A well-designed data room helps to keep queries to a minimum and makes it easy to access additional information.

Do's and Don't's

A virtual data room is designed to give counterparties a quick and accurate overview of a start-up. Simply uploading all potentially important documents to any platform does not achieve this. Careful data room design is therefore essential: it saves time and money of the counterparty and builds confidence in the start-up.

It is recommended that the start-up's advisors carefully review the data room before opening it up to counterparties and check it for clarity, completeness and appropriate scope. Further, it helps to engage a professional data room provider. This does not have to be the most expensive product, but depending on the scope of the disclosures, a combination of a professional provider and advisors helps to ensure a solid foundation when preparing the data room. By showing that it takes also formal matters seriously, a startup signals professionalism which can create trust at the counterparty. In addition, access rights for third parties are often easier to manage, and the company's own systems can be better protected.

Do's

• Folder structure and index: Folders and subfolders should be created based on general themes. In addition, a provider that allows the index to be exported at any time as a PDF or Excel file should be selected. An index that contains direct links to the documents is most efficient.

• Correct and informative document names: It is advisable to label documents clearly so that the other party's advisors do not have to randomly click through documents with names such as "scan_2023-07-01" or "Contract_v2_FINAL". Better names are "Licence agreement with company XY" or "Liquidity plan 2024-08-03". Subsequent changes to a document should also be disclosed in a comprehensible manner (e.g. rental agreement dated [DATE], addendum 1 dated [DATE], addendum 2 dated [DATE]).

• Clear labelling of updates: The data room will likely need to be updated during the due diligence process. New disclosures should be labelled in a way that the other party's advisors immediately know which documents they still need to review. Ideally, the data room should have a function that automatically notifies the other party of updates.

Don't's

• Arbitrary document release: On the one hand, sensitive information (such as employee personal details) and trade secrets should be redacted. On the other hand, counterparties should not be overloaded with irrelevant details. Staggered disclosures, which gradually lead from non-confidential to highly confidential documents, can help to reduce arbitrariness. If several counterparties are granted access, staggered disclosure also ensures that they have access to the relevant information in the same way and at the same time.

• Uncontrolled access rights: Access authorization should be restricted to clearly defined individuals and for clearly defined timelines. Especially in the event of a counterparty withdrawing from a planned transaction, it is important to delete their access immediately to avoid data disclosure outside of confidentiality.

• Poor user experience: The data room should be easy to navigate and have a search function. Relevant information should be accessible with just a few clicks. A well-thought-out structure that can be easily expanded to address investor's queries serves as a useful basis.

Ultimately, a data room is much more than a collection of documents and contributes to the start-up's professional image in transaction processes. It is therefore worthwhile to consult with advisors at an early stage.

More blogs from the series:

• From Concept to Reality: A Practical Guide for Start-up Founders on In-corporating a Swiss Legal Entity (Nr. 1)
• Successfully growing a Start-up: Stages of Funding (Nr. 2)
• The shareholders' agreement in the Start-up (Nr. 3)
• Best Co-Founders Forever? Anticipating Legal and Tax Considerations for Founders of Swiss Startups (Nr. 4)
• Preferential rights for start-up investors (Nr. 5)
• Transfer restrictions in a shareholder agreement (No. 6)
• Due Diligence: Effective Data Room Design (No. 7)
• Communication with shareholder groups during fundraising (No. 8)

Explore the start-up blog series

Author: Rahel Widmer