When founders think about raising, almost all the attention goes into the deck, or nailing the 3-minute pitch.
That's what gets the door open. But it's nowhere near enough for a VC to actually wire you money.
Today I want to go deep on due diligence, and specifically on legal DD. For that, I got on a call with a law firm that has done close to 200 investment due diligences, and knows this process by heart.
TL;DR
→ A signed term sheet means you're 90%+ likely to close. Legal DD is what still stands between you and the money
→ Due diligence happens twice: informally before the term sheet, formally after it
→ Three types run after the term sheet: financial, technical, legal. Legal runs on almost every deal
→ Cap table, IP and material agreements are the bare minimum you need ready
→ Being prepared can save weeks on your process
Plus I created a detailed checklist with everything you need to prepare for your legal DD. Grab it from here.
But first, some context on where DD sits in the process.
There are two stages of due diligence
The first one happens before the term sheet.
After the first call, if the investor is interested, they start asking for more. Access to your data room. Follow-up calls with different people from the fund. Reference calls with your customers, advisors, sometimes your former colleagues. Ad hoc questions, constantly.
The goal at this stage is conviction. They're deciding whether they want to invest at all. Internally, this ends with an investment memo, a document one partner writes to convince the rest of the partnership that you're worth backing. I broke that whole process down in a previous newsletter (check it here).
If they're convinced, you get a term sheet.
The second stage happens after you sign it. And this is what investors normally mean by "due diligence."
Good news first: once you have a signed term sheet, your chances of closing are above 90%. But you're not there yet.
The three types of DD after the term sheet
Not all of them apply to every company.
Financial DD. Only relevant if you have real financial history. At pre-seed there's usually nothing to analyse. At later stages, it's often one of the Big Four when the amounts justify it, or a contractor the fund picks. In early stages, funds frequently just do it in-house.
Technical DD. Applies when the technology is complex enough to need evaluating, so mostly seed and beyond, and deep tech earlier. Usually outsourced to a third party that reviews the stack, the architecture, and the team, because most VCs aren't technical enough to judge it themselves.
Legal DD. This one happens in some form on almost every deal. The investor hires a law firm, and that firm digs into your corporate structure, cap table, IP, contracts and compliance.
That last one is what applies to almost every deal. So let's get into it.
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Interview: Bilyana Dimitrova, DSP
DSP (Dimitrova, Staykova & Partners) is known as "the startup lawyers." Bilyana heads their investments and M&A practice and has worked with startups for 12 years.
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Tell us a bit about DSP and the scale of what you've seen.
We're a corporate firm covering the full life of a company: registrations, restructurings, contributions in kind, employment, commercial contracts, IP, plus specialised areas like AML, GDPR and KYC. But we're best known for startups and investments over the last 10+ years.
I run the investments and M&A department. We started with Eleven's portfolio companies, doing their first financings, and later worked with Launchub, New Vision, Sofia Angels Ventures, funds financed by the Bulgarian Fund of Funds, private equity, registered alternative funds. Ten years ago we set up the Bulgarian Angels Club, which is still running.
So we see it from all sides: funds, angels, and companies. On due diligence specifically, we've done close to 200.
At what point do you get involved?
When we work for the investor, almost always after the term sheet is signed. The term sheet itself is usually fairly standard per fund, and it explicitly states that investment documentation only follows a due diligence. It often also states the cost of that DD and who bears it, which is frequently the company.
Sometimes, in faster early-stage deals, we run the DD and draft the investment documentation in parallel, and fold the findings in as we go.
How long does it take, and what slows it down?
The clock only starts when we have the documents. We don't work in pieces, because if half the documents are in one folder and half arrive later, you can end up redoing the whole analysis. So we start when about 90% of what we asked for is uploaded.
For the earliest companies, we can do the analysis in under a week, because there's almost nothing to analyse. But we may have waited a month before that to get the documents.
At later stages, two to three weeks is typical.
What actually stretches it: regulatory questions, and gaps that force the company to create documents mid-process. A common one is a company registered with one founder when there should be three, because the other two were working informally and nothing was ever signed. Now we wait while they fix the corporate registration before we can continue.
Regulatory is the expensive one. Founders often say "we looked at it, we don't think we need a licence." If that turns out to be wrong, it doesn't just delay the deal. It changes cost and time to enter markets, which changes the business plan, which changes the financial model the valuation was built on.
What gets requested, and what do founders never have ready?
Three areas are the backbone, and they're in almost every DD: corporate, material agreements, and IP.
On corporate: founders agreement, shareholders agreement, everything filed correctly in the commercial register including ultimate beneficial owners and annual financial statements. Then everything affecting the cap table but not yet reflected in it: convertible loans, SAFEs, loans from investors or from friends and family, additional cash contributions, and ESOP arrangements. Option pools are cap table, in practice. And very often they exist only as verbal promises, which we then have to address in the investment documentation so they don't turn into unexpected dilution later.
On material agreements: customer relationships and key partners. If there are general terms covering most customers, we look at those plus any individual contracts, usually the top 10 by revenue. On the supplier side, only what's specific to the business. Nobody reviews your internet provider or your Amazon terms.
On IP, we look at two separate periods, before the company existed and after, because they produce different problems. Before: what were the founders bound by at their previous employers? Those contracts often assign everything created in and outside working hours, plus non-competes. If there's product overlap, a former employer can have a claim.
After: whether IP created by founders, freelancers and contractors was ever actually assigned to the company. Founders often assume that because they're the owners, the IP is the company's. It isn't.
Most common red flags?
Unresolved relationships with co-founders and key people. Founder IP that was never assigned. Financings that happened but were never properly documented, personal or third-party.
And the two cap table extremes: investments structured badly, or early investors holding rights wildly disproportionate to what they put in.
One more that gets ignored constantly: data protection. Founders treat it as an annoying obligation, but you're collecting and processing serious volumes of personal data from the very first product experiments. Then it turns out you either can't legally use that data, or you use it without having followed the process and you're exposed under the reps and warranties in the investment agreement.
And actual dealbreakers?
Genuinely unfixable things are very rare. We've almost never lost a deal.
When it happens, it's usually people. If DD surfaces someone with real control rights outside the founders, and that person won't cooperate, or makes outsized demands, that's a signal. Even if they concede this time, everyone can see they'll be a problem in the next round.
The other one is a former co-founder who left on bad terms and still holds part of the IP, and is now demanding a large sum to transfer it. That's a company without its own IP, and investors have no interest in that fight.
Beyond people: large debts that the investment would effectively go towards repaying, when investment money is meant for growth and usually explicitly excludes repaying loans.
What should founders do from day one?
Two things.
Sort out the documentation for the core relationships in the company. Anyone who holds equity or has been promised equity. Everything that ensures the product belongs to the company.
Then organise it in a data room that's actually shareable, with sections and access levels.
Nobody expects perfection at this stage. Policies will be missing. But cap table, IP and material agreements need to be solid.
And there's a bonus: a prepared data room is itself a signal. It tells investors these are founders who can organise a process. Messy documentation shows chaos in how the company is run.
Something to help you with the process…
I turned everything Bilyana walked me through into a checklist you can work through, document by document, with what "done properly" looks like for each.
10 steps. Every document an investor's law firm will ask for during a legal due diligence.
PS: Big thanks to Bilyana Dimitrova and the team at DSP for the time!
Ciao for now,
Geri
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Gergana Stoichkova | VC Compass
Thanks for reading! Let's connect!
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