Due Diligence Checklist

What is Due Diligence?

Due diligence (DD) is the formal investigation that a buyer conducts before acquiring a company. It is the PE industry’s version of “trust, but verify.” The seller and their investment bank present the company in the most favorable light through the CIM; due diligence is where the buyer independently validates every claim, uncovers hidden risks, and determines the true value of the business. DD is organized into workstreams — parallel tracks of investigation each led by specialists. Financial DD is typically conducted by an accounting firm (e.g., Deloitte, KPMG, or a boutique QoE firm). Legal DD is handled by a law firm. Commercial DD may be done by a strategy consulting firm (e.g., Bain, L.E.K.) or the deal team itself. IT, HR, and environmental DD involve additional specialists as needed. The output of DD directly impacts the deal: findings can change the purchase price (through adjustments to the working capital peg, identification of debt-like items, or QoE adjustments to EBITDA), change the deal structure (representations and warranties, indemnities, escrows), or kill the deal entirely (if a deal-breaker is discovered).

Why It Matters

Incomplete diligence is the single biggest source of PE deal failures. A customer concentration risk that was not investigated, an environmental liability that was missed, or a quality of earnings adjustment that was too aggressive can turn a promising investment into a loss. The DD checklist ensures every critical area is covered, tracked, and escalated appropriately. The diligence process also generates institutional knowledge. Even if a deal does not close, the findings inform future deal evaluation. A firm that rigorously tracks DD outcomes — what was found, what was missed, what ultimately mattered post-close — builds a compounding advantage in deal evaluation over time. DD costs are significant. A typical lower middle market deal (

50-200M EV) may incur

500K-

1.5M in diligence costs across all workstreams. An upper middle market deal (

500M-

2B) can easily exceed

3-5M. Given these costs, disciplined tracking ensures that money is spent on the highest-priority items first.

Key Concepts

Term	Definition
Quality of Earnings (QoE)	An independent analysis of a company’s earnings to determine “normalized” or “run-rate” EBITDA, adjusting for one-time items, owner perks, and accounting anomalies
Data Room	A secure virtual repository (e.g., Intralinks, Datasite) where the seller uploads company documents for buyer review
Working Capital	The operating cash tied up in the business (accounts receivable + inventory - accounts payable); typically normalized and set as a “peg” in the purchase agreement
Red Flag	A significant finding that may be a deal-breaker or require material changes to price or structure
P0 / P1 / P2	Priority levels — P0 items are gating to LOI or close, P1 items are important but not gating, P2 items are nice-to-have
LOI	Letter of Intent — a non-binding agreement on key deal terms that typically precedes full diligence
Debt-Like Item	An obligation that behaves like debt but may not appear on the balance sheet — examples include deferred rent, unfunded pension liabilities, or certain litigation reserves
Reps and Warranties	Seller’s contractual statements of fact about the business; findings in DD often result in specific reps or indemnities to protect the buyer
Net Working Capital Peg	The agreed-upon level of working capital the seller must deliver at closing; deviations result in a dollar-for-dollar price adjustment

How It Works

Scope the Diligence

Define: target company name and sector, deal type (platform acquisition, add-on, growth equity, recap, carve-out), deal size/complexity, key concerns to prioritize, and timeline (LOI/close targets).

Generate Workstream Checklists

Generate a comprehensive checklist across all major workstreams, tailored to the sector. Covers Financial DD (QoE, working capital, debt, capex, tax), Commercial DD (market size, competition, customers), Legal DD (contracts, litigation, IP, regulatory), Operational DD (management, IT, supply chain), HR DD (org chart, compensation, key person risk), IT DD (tech stack, security, scalability), and Environmental/ESG.

Track Status

Each item tracks: workstream, priority (P0/P1/P2), status (Not Started, Requested, Received, In Review, Complete, Red Flag), owner, and notes.

Escalate Red Flags

Maintain a running red flag summary: what was found, which workstream, severity (deal-breaker / significant / manageable), mitigant or path to resolution, and impact on valuation or deal terms.

Output

Excel workbook with tabs per workstream, summary dashboard (% complete, outstanding items, red flags), and weekly status update format.

Worked Example: SaaS Company Acquisition DD

Below is a numerical walkthrough of a due diligence process for a hypothetical $120M EV acquisition of a B2B SaaS company.

Deal Context

Target: CloudMetrics Inc., a B2B SaaS company providing analytics dashboards
Revenue: $18M ARR, growing 35% YoY
Stated EBITDA: $3.6M (20% margin)
Asking price: $120M EV (33x EBITDA, or ~6.7x ARR)
Deal type: Platform acquisition
Timeline: LOI signed, 45 days to close

Financial DD: Quality of Earnings Deep Dive

The QoE provider (boutique accounting firm) reviews 3 years of financials and identifies the following adjustments:

Item	Management EBITDA Impact	QoE Adjustment	Adjusted Impact
Reported EBITDA	$3,600,000	—	—
Owner salary above market	+$200,000	Normalize to market rate	+$200,000
One-time legal settlement	+$150,000	Non-recurring, add back	+$150,000
Capitalized development costs (should be expensed)	-$400,000	Reduce EBITDA	-$400,000
Revenue recognition timing (2 months early on 3 contracts)	-$180,000	Adjust to proper period	-$180,000
Under-market rent (related party landlord)	-$60,000	Normalize to market	-$60,000
Adjusted EBITDA			$3,310,000

The QoE analysis reduces EBITDA from

3.6M to

3.31M — an 8% haircut. At 33x EBITDA, this represents a $9.6M reduction in implied value. The deal team must decide whether to renegotiate price or accept the adjustment.

Working Capital Analysis

Component	Average (12 mo)	Current	Peg Proposal
Accounts Receivable	$2.1M	$2.8M (elevated)	$2.1M
Prepaid Expenses	$0.3M	$0.3M	$0.3M
Deferred Revenue	($3.2M)	($3.8M) (elevated)	($3.2M)
Accounts Payable	($0.4M)	($0.3M)	($0.4M)
Net Working Capital	($1.2M)	($1.0M)	($1.2M)

If the NWC peg is set at (

1.2M) and the company delivers (

1.0M) at close, the buyer receives a $200K credit (the company has less negative working capital than the peg, meaning more cash is tied up in the business than agreed).

Commercial DD: Customer Analysis

Metric	Finding	Severity
Top customer concentration	Customer A = 22% of ARR ($3.96M)	Red Flag — single customer >20%
Top 5 concentration	52% of ARR	Yellow — elevated
Logo churn (annual)	8%	Green — acceptable for SMB SaaS
Net dollar retention	112%	Green — healthy expansion
Contract structure	60% annual, 40% month-to-month	Yellow — high month-to-month

Red flag identified: Customer A accounts for 22% of ARR and is on a month-to-month contract. If Customer A churns, ARR drops from

18M to

14M, and the deal’s effective multiple jumps from 6.7x ARR to 8.6x ARR. The deal team must interview Customer A, assess retention probability, and potentially negotiate a price adjustment or escrow.

DD Checklist Status (Week 3 of 6)

Workstream	Total Items	Complete	In Review	Outstanding	Red Flags
Financial	24	18 (75%)	4	2	1 (capitalized dev costs)
Commercial	16	10 (63%)	3	3	1 (customer concentration)
Legal	20	8 (40%)	5	7	0
Operational	12	6 (50%)	2	4	0
HR/People	10	4 (40%)	2	4	0
IT/Security	14	3 (21%)	2	9	0
Total	96	49 (51%)	18	29	2

At week 3, the team is 51% complete. IT/Security is lagging (21%) — the deal team should escalate to ensure critical items (SOC2 compliance, data privacy, security audit) are addressed before close.

Sector-Specific DD Additions

Sector	Additional DD Items
Software/SaaS	ARR quality, cohort analysis, hosting costs, SOC2 compliance, code review, technical debt assessment, customer data privacy (GDPR/CCPA), product roadmap viability
Healthcare	Regulatory approvals, reimbursement risk, payor mix, compliance history, HIPAA, state licensing, malpractice history, credentialing
Industrial	Equipment condition, environmental remediation, safety record (OSHA), maintenance capex vs. growth capex, union agreements, permits
Financial Services	Regulatory capital, compliance history, credit quality, BSA/AML, state licensing, fiduciary obligations
Consumer	Brand health, channel mix, seasonality, inventory management, product liability, recall history, supply chain resilience
Technology-Enabled Services	Client contract structure, revenue recognition, consultant utilization rates, offshore delivery, IP ownership

Full Workstream Checklist Detail

Financial Due Diligence

Quality of Earnings (P0)

Revenue recognition policies and consistency across periods
EBITDA adjustments: one-time items, owner add-backs, pro forma run-rate
Customer-level revenue analysis (top 10/20 customers by year)
Revenue by type: recurring vs. non-recurring vs. professional services
Gross margin analysis by product/service line
Cost structure analysis: fixed vs. variable
Working capital normalization and peg calculation
Debt and debt-like items identification
Capital expenditure analysis: maintenance vs. growth
Cash flow quality: EBITDA to free cash flow conversion

Tax (P1)

Federal, state, and local tax compliance history
Net operating loss carryforwards
R&D tax credit history and supportability
Transfer pricing (if international operations)
Sales tax nexus and compliance
Change of control implications on tax attributes
338(h)(10) election feasibility

Audit and Accounting (P1)

Audit history (audited, reviewed, compiled, or none)
Accounting policy changes in last 3 years
Related party transactions
Off-balance-sheet liabilities

Commercial Due Diligence

Market and Competition (P0)

Total addressable market (TAM) sizing and growth rate
Market share and competitive positioning
Key competitors and differentiation
Barriers to entry
Regulatory or technology disruption risks

Customers (P0)

Customer concentration (top 1, 5, 10, 20 as % of revenue)
Customer retention and churn rates (logo and dollar)
Net Promoter Score or satisfaction data
Contract renewal rates and terms
Pricing power assessment
Customer reference calls (minimum 5-8)
Sales pipeline and backlog

Go-to-Market (P1)

Sales team structure and quota attainment
Sales cycle length and trends
Channel mix (direct, partner, online)
Marketing spend effectiveness
Win/loss analysis

Legal Due Diligence

Corporate (P0)

Corporate structure and entity chart
Capitalization table and equity agreements
Material contracts review (customer, supplier, partner)
Change of control provisions in key contracts

Litigation (P0)

Pending and threatened litigation
Historical litigation and settlements
Regulatory investigations or inquiries

IP and Technology (P1)

Patent portfolio and protection status
Trademark registrations
Trade secret protections
Open-source software compliance
Key technology licenses

Regulatory (P1-P2)

Industry-specific regulatory compliance
Permits and licenses
Data privacy compliance (GDPR, CCPA, state laws)
Environmental compliance

Operational Due Diligence

Management (P0)

Management team assessment (strengths, gaps, retention risk)
Organizational structure and key person dependencies
Employment agreements and non-competes
Compensation benchmarking

IT and Systems (P1)

Technology stack assessment
Cybersecurity posture and penetration test results
Disaster recovery and business continuity plans
Technical debt assessment (for software companies)
System scalability

Operations (P1)

Supply chain analysis and vendor dependencies
Facilities and real estate review
Insurance coverage adequacy
Process documentation and SOPs

HR and People Due Diligence

Organization chart and headcount trends (P0)
Compensation and benefits benchmarking (P1)
Pension and retirement plan obligations (P0 if DB plan exists)
Key employee retention risk assessment (P0)
Culture assessment and employee engagement data (P1)
Union or collective bargaining agreements (P0 if applicable)
Employee handbook and policy compliance (P2)
Workers’ compensation claims history (P1)

Environmental and ESG

Environmental liabilities (Phase I/II assessments) (P0 for industrial)
Regulatory compliance history (P1)
ESG risks and reporting (P2)
Carbon footprint and sustainability initiatives (P2)

Daily Workflow for Deal Teams

Day 1-3 (Scoping): Define the DD scope based on deal type and sector. Generate the initial checklist. Assign workstream leads. Send the first data request list to the seller. Week 1 (Initial Review): As documents arrive in the data room, check them against the checklist. Flag items where the seller is slow to respond — delays may indicate issues. Begin reviewing financial statements and key contracts. Week 2-3 (Deep Analysis): QoE provider delivers preliminary findings. Legal team reviews material contracts. Commercial DD begins with market research and customer interviews. Hold the first weekly DD status call. Week 3-4 (Red Flag Assessment): All P0 items should be addressed by now. Any red flags should be escalated to the deal lead. Begin assessing impact on price, structure, or deal viability. Update the IC with interim findings. Week 4-6 (Completion): Push to close all open items. Finalize the QoE report and working capital analysis. Compile the red flag summary. Prepare the DD findings section of the IC memo. Negotiate specific reps, warranties, and indemnities based on findings. Post-Close (Day 1-30): Validate any DD assumptions that could not be confirmed pre-close. Begin integration planning based on operational DD findings. Monitor working capital delivery vs. peg.

Practice Exercise

You are leading diligence on a $75M EV acquisition of a regional healthcare services company with the following profile:

Revenue: $40M, growing 12% YoY
EBITDA: $6M reported (15% margin)
Sector: Outpatient physical therapy, 12 locations across 3 states
Deal type: Add-on to your existing rehab services platform
Key concern: The company recently expanded from 8 to 12 locations in 18 months

Tasks:

Generate a prioritized DD checklist with at least 30 items across 5 workstreams. Label each P0, P1, or P2.
Identify the 5 highest-priority P0 items for this specific deal and explain why each is critical.
The QoE provider finds that $800K of EBITDA is from locations open less than 12 months that are not yet at run-rate profitability. How does this affect the valuation? Should you adjust the offer price, and by how much?
Two of the 12 locations are leased from a company owned by the seller’s brother at $15/sq ft when market rate is$ 22/sq ft. What are the DD implications?
Draft a red flag summary with 3 potential findings and their severity, mitigants, and impact on deal terms.

Common Mistakes

Prioritize P0 items that are gating to LOI or close. Flag items where the seller is slow to respond — it may indicate issues they want to hide.

Treating the checklist as static. A DD checklist is a living document. As you discover new information, add items. If the QoE reveals unusual revenue recognition, add specific revenue recognition items to the commercial workstream. Update weekly.
Not prioritizing P0 items aggressively. With 96+ checklist items, the deal team must focus on what matters most first. Spending time on P2 items while P0 items remain open is a resource allocation failure.
Assuming missing information is benign. If the seller has not uploaded a document after two requests, it is more likely that the document reveals something unfavorable than that someone forgot. Track response times and escalate persistent gaps.
Failing to cross-reference across workstreams. Financial DD may reveal a customer concentration issue that commercial DD should investigate. Legal DD may find a contract with change-of-control provisions that operational DD needs to assess. Hold cross-workstream syncs weekly.
Not quantifying red flags in dollars. A “red flag” without a dollar impact is not actionable. Every red flag should answer: “If this risk materializes, what is the financial impact in dollars?” This drives the price adjustment or indemnity negotiation.
Over-relying on management representations. “Management told us” is not diligence. Verify every material claim with independent data: customer interviews, third-party market data, public records, and advisor confirmation.
Ignoring the working capital peg negotiation. Working capital adjustments are dollar-for-dollar price changes. A $500K swing in the NWC peg is equivalent to a$ 500K price change. Analyze the trailing 12-month average carefully, and watch for seller manipulation (accelerating collections or delaying payables before close).
Starting legal DD too late. Legal review of material contracts often reveals change-of-control provisions, assignment restrictions, or termination rights that can fundamentally affect deal viability. Start contract review in Week 1, not Week 3.
Not documenting the “why” behind passes on items. When you decide an item is low-risk and deprioritize it, document why. If the deal closes and that issue later becomes material, the documentation shows the decision was deliberate, not negligent.
Underinvesting in IT/security DD for tech-enabled businesses. A SOC2 gap, a cybersecurity vulnerability, or technical debt that requires $2M to remediate can materially affect post-close value. For any technology-dependent business, IT DD should be a P0 workstream, not an afterthought.

How to Add to Your Local Context

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Customize the checklist for your firm by editing the skill file:

## Firm-Specific DD Items
- Board observer rights and information rights
- D&O insurance tail policy
- Management rollover and employment agreements
- Post-close IT integration assessment
- [Add your firm's standard items]

## Standard DD Providers
- QoE: [your preferred firm]
- Legal: [your preferred firm]
- Commercial: [your preferred firm]
- IT/Cyber: [your preferred firm]

## Firm DD Policies
- Minimum customer interviews: [number]
- Required environmental assessment for: [sectors/deal sizes]
- Insurance requirements: [your firm's standard]

Connect to your data room provider (Intralinks, Datasite) via MCP to auto-check document availability against the checklist.

Best Practices

Cross-reference data room contents against the checklist to identify gaps
Update the checklist as diligence progresses — it is a living document
Hold weekly DD status calls with the full deal team to review progress and escalate issues
When you find a red flag, immediately assess: is it a deal-breaker, a price adjustment, or a manageable risk?
Never assume missing information is benign — always follow up and document the response
Track cumulative diligence spend by workstream to manage costs against the DD budget
Use the DD findings to draft specific reps and warranties in the purchase agreement — every material finding should map to a contractual protection
After close, conduct a DD retrospective: what did we find, what did we miss, and what would we do differently next time?

Overview

Financial Analysis

Equity Research

Investment Banking

Private Equity

Wealth Management

LSEG

S&P Global

What is Due Diligence?

Why It Matters

Key Concepts

How It Works

Worked Example: SaaS Company Acquisition DD

Deal Context

Financial DD: Quality of Earnings Deep Dive

Working Capital Analysis

Commercial DD: Customer Analysis

DD Checklist Status (Week 3 of 6)

Sector-Specific DD Additions

Full Workstream Checklist Detail

Financial Due Diligence

Commercial Due Diligence

Legal Due Diligence

Operational Due Diligence

HR and People Due Diligence

Environmental and ESG

Daily Workflow for Deal Teams

Practice Exercise

Common Mistakes

How to Add to Your Local Context

Best Practices

​What is Due Diligence?

​Why It Matters

​Key Concepts

​How It Works

​Worked Example: SaaS Company Acquisition DD

​Deal Context

​Financial DD: Quality of Earnings Deep Dive

​Working Capital Analysis

​Commercial DD: Customer Analysis

​DD Checklist Status (Week 3 of 6)

​Sector-Specific DD Additions

​Full Workstream Checklist Detail

​Financial Due Diligence

​Commercial Due Diligence

​Legal Due Diligence

​Operational Due Diligence

​HR and People Due Diligence

​Environmental and ESG

​Daily Workflow for Deal Teams

​Practice Exercise

​Common Mistakes

​How to Add to Your Local Context

​Best Practices

What is Due Diligence?

Why It Matters

Key Concepts

How It Works

Worked Example: SaaS Company Acquisition DD

Deal Context

Financial DD: Quality of Earnings Deep Dive

Working Capital Analysis

Commercial DD: Customer Analysis

DD Checklist Status (Week 3 of 6)

Sector-Specific DD Additions

Full Workstream Checklist Detail

Financial Due Diligence

Commercial Due Diligence

Legal Due Diligence

Operational Due Diligence

HR and People Due Diligence

Environmental and ESG

Daily Workflow for Deal Teams

Practice Exercise

Common Mistakes

How to Add to Your Local Context

Best Practices