Due Diligence is a process of collecting and analyzing information before making a decision or entering into an agreement or contract. For example, having a building inspector checking over a house for structural integrity before make a decision to buy it or not.
Due diligence can be a legal obligation or a voluntary investigation.
Your due diligence process
As an AFSL holder you have the legal obligation to conduct due diligence on all service providers to your business. In some cases, you will have to ask for their most recent GS 007 audit report.
Due diligence on you
Institutional superannuation funds and companies who manage money on behalf of others, will subject you to a through due diligence process before they make any decision to grant you an investment mandate or not. Your company is a service provider to them.
They will use their own internal team or engage a due diligence company to review you. Fail assessment and the investment mandate will not be given to you. Pass, and it might be granted to you. Get a high score and you will win that investment management mandate.
The higher the score, the lower the operational / compliance risk your client will consider you to be. A bare pass will mean that you will be subjected to on going scrutiny of your policies and procedures including more on site visits in the future. This is very time consuming and stressful.
The due diligence process on you
There are many different approaches to conducting due diligence. From our experience the common elements are:
Collect information from you.
This will include:
Your current FSC Investment Management Questionnaire, completing a comprehensive questionnaire (80+ questions) and supply various documents such as annual financial reports, internal compliance reports and IT reports.
Some of the questions they will ask will take you no time at all to answer. For example, provide a copy of your gift giving and receiving policy.
Other questions will be very time consuming, finding and compiling the data and writing the answer to the question.
Conference call(s)
You providing explanations about the information you provided. Typically 2 to 4 hour calls.
If you get though that stage, then there will be a full day onsite visit. Possibly, two full days.
Onsite visit
This is the most dangerous stage.
The due diligence team will want to see your policies and procedures in action on a trading day.
They will separately interview team members often asking the same question of each person to see if they get the same answer. Inconsistent answers or guesses are fatal.
Draft report for your response
By this stage, the due diligence team have already made of their mind. They are really only looking for you to correct any errors of fact. For example, number of employees, their title, years of service and so on.
Aftermath
If you failed the due diligence process, it is unlikely that you will pass any due diligence process with this due diligence company in the near future. Changing a no to a yes could take years.
This will impediment to growing your business if this due diligence compant acts for of institutional investors.
One way to circumvent this negative outcome is to engage the due diligence company to write policies and procedures for you in the areas that you failed.
What does all this cost?
Your potential client’s investment team has already spent a lot of time doing invesment due diligence on you.
You have probably pitched to them several times and if they are interstate, that is expensive.
The due diligence process has cost the potential client $35,000+ (more if an external due diligence company is used).
The external due diligence company will have quoted a fixed fee (e.g. so many hours plus a rate per hour, say $40,000).
Completing their questionnaires and providing supporting documents (and in some cases creating documents and procedures), will take 1 to 2 weeks full time. Based on $400 per hour, that is an internal cost of $32,000. Telephone conferences another $3,200+. Onsite visit and follow-up questions, $19,200. So the real cost to you of a potential client’s due diligence to you is $54,400+
How we can help
Intrinsic can save you a lot of money completing the due diligence process as we have a library of over 300 policies and procedures that can be quickly modified to suit your business as well as many responses to due diligence questionnaires already written.
We are also skilled at how to answer a question. For example, what follows is a common question asked by institutional investors, their advisers and research houses.
Have you changed your investment process in the last 3- 5 years?
It is tempting to respond along the lines of We are constantly looking at ways to improve our investment processes. We have made changes where we thought that would improve our investment decisions.
This is a dumb answer.
The right answer is no.
Why? Because those groups want certainty that the same investment process was in place and produced the investment results over that period. If you say the investment processed changed, they will simply say, okay, lets see how the new process works going forward. See you in 3 years.
By changing the process, you created uncertainty about the past investment returns. The will think, will future returns be better or worse that those achieved over the last 3 to 5 years?
If your recent investment returns have been great as a result of the change in investment process, (and they were mediocre or poor before the change), then that is a good story and the answer is yes. They are still likely to wait and see if the changes produce good results in the future. If they do, some potential clients might not wait that long before they award a mandate.
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