Alex is Sprintlaw’s co-founder and principal lawyer. Alex previously worked at a top-tier firm as a lawyer specialising in technology and media contracts, and founded a digital agency which he sold in 2015.
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Getting investors on board with your startup is not just about pitching a great idea. Investors also want confidence that the business they are backing is legally sound, properly organised and ready for growth.
That is where legal due diligence comes in. It is not simply about proving the startup is complying with the law. It is about showing that the business has strong legal foundations, owns its key assets, has properly documented its arrangements and is prepared to scale.
Why Due Diligence Matters
Imagine you are an investor considering putting a significant amount of money into a startup. The idea is strong, the market opportunity looks promising and the founders seem capable. However, when you look closer, the company has not properly secured ownership of its intellectual property, key contractor agreements are missing and the founders have never formalised their relationship in a shareholders’ agreement.
This creates uncertainty. Who owns the company’s core technology? What happens if one of the founders leaves the business? What if a dispute arises between the founders or with a key contractor?
These issues can create significant legal and commercial risk. Most investors will be reluctant to invest in a business that has not taken steps to protect itself properly. Investment is not just about the product or the pitch deck. Investors want to know that the startup owns its assets, has reliable records and is not carrying hidden legal risks.
What Is Legal Due Diligence?
Legal due diligence is the process where an investor, buyer, lender or strategic partner reviews a startup’s legal documents, structure and obligations before completing a transaction.
The purpose of this process is to understand whether the business has been properly established, whether key risks have been managed and whether there are any legal issues that could affect the investment or transaction.
In simple terms, legal due diligence is a detailed review of the company’s legal health before someone commits money, resources or commercial trust to the business.
When Does It Happen?
Legal due diligence commonly takes place during fundraising rounds, acquisitions, venture debt transactions, strategic partnerships and large commercial deals.
For early-stage startups, due diligence is often more limited and focused on core issues such as ownership, intellectual property and company records. For later-stage funding rounds or acquisitions, the process is usually more extensive because the level of investment and risk involved is significantly higher.
What Actually Happens During the Process?
Legal due diligence is not usually resolved in a single meeting. It is a structured process involving several stages.
The process will often begin with the investor or their lawyers sending the startup a due diligence request list. This is a list of documents and information they want to review before proceeding with the transaction.
The startup will then prepare a data room. A data room is usually a secure online folder containing the company’s key legal, financial and commercial documents. Organised and complete records can help the process move more smoothly and create a stronger impression with investors.
Once the documents have been uploaded, the investor’s legal team will review them and may ask follow-up questions or request additional information. If issues are identified, the startup may need to fix them, disclose them or explain how they will be managed.
At the end of the process, the investor may decide to proceed with the transaction, renegotiate certain terms, require additional protections or, in some cases, walk away from the deal altogether.
What Documents Are Usually Reviewed?
The exact scope of legal due diligence will depend on the size of the transaction, the stage of the startup and the nature of the business. However, there are several categories of documents that investors commonly review.
Company Records
Investors will usually review incorporation documents, Companies House filings, statutory registers, PSC records, articles of association, shareholders’ agreements and board resolutions. These records help confirm that the company has been properly incorporated, maintained and managed.
Shares and Equity
A startup’s ownership structure is one of the most heavily scrutinised aspects of due diligence. Investors may review the company’s cap table, share allotments, statutory registers, EMI option scheme documents, convertible loan notes, vesting arrangements and any SEIS or EIS-related documents to understand who owns the business and whether there are any tax, ownership or investor eligibility risks.
Intellectual Property
For many startups, intellectual property is one of the company’s most valuable assets. Investors may review IP assignment agreements, contractor agreements, trademark registrations, software ownership arrangements and licensing agreements to ensure the company properly owns and controls its intellectual property.
Employees and Contractors
Employment and contractor arrangements can create substantial legal risk if they are not properly documented. Investors may review employment contracts, consultancy agreements, confidentiality obligations, restrictive covenants and workplace policies to assess whether the company has protected itself appropriately.
Commercial Contracts
Key commercial agreements are also commonly reviewed. This may include customer terms, supplier contracts, partnership agreements, platform terms and other important trading arrangements. Investors will often focus closely on agreements that are critical to the company’s revenue, operations or growth.
Compliance
Depending on the industry, investors may also examine the company’s compliance obligations. This can include UK GDPR compliance, ICO registration requirements, data protection practices, consumer protection obligations, FCA authorisation for regulated financial activities and sector-specific licensing requirements.
Disputes
Investors will usually want visibility over any current or threatened disputes involving the business. This may include founder disputes, employment claims, unpaid debts, customer complaints or ongoing litigation.
Common Red Flags
During legal due diligence, investors are usually looking for issues that create uncertainty, increase legal risk or may affect the value of the business.
Common red flags include missing intellectual property assignment agreements, unclear or inaccurate cap tables, undocumented equity promises, unsigned agreements, employee and contractor classification issues, data protection or compliance gaps, and founder disputes or ownership disagreements.
Not every issue will stop a transaction from proceeding. However, unresolved legal problems can delay investment, reduce investor confidence or lead to renegotiated deal terms.
What Happens If Problems Are Found?
Finding issues during due diligence does not necessarily mean the deal will collapse. In many cases, legal issues can be fixed before the transaction completes.
For example, the startup may need to formalise missing agreements, correct company records, strengthen its compliance processes or transfer intellectual property into the company properly. In other situations, investors may require additional protections, revised deal terms or specific conditions to be satisfied before proceeding.
More serious issues, particularly those involving intellectual property ownership, regulatory compliance or founder disputes, may have a more significant impact on the transaction.
How Startups Can Prepare
Preparing for legal due diligence early can make fundraising and investment discussions significantly smoother.
Startups can improve investor confidence by keeping company records organised and up to date, using properly drafted written agreements, ensuring all intellectual property is assigned to the company, maintaining a clear and accurate cap table, preparing a data room early, reviewing data protection and compliance obligations regularly and addressing known legal issues before fundraising begins.
Good legal preparation not only helps startups avoid delays during due diligence, but also demonstrates professionalism and strong business management.
Final Thoughts
Legal due diligence is not simply a box-ticking exercise. It is a process that helps investors understand whether a startup is legally prepared for growth, investment and increased scrutiny.
For founders, preparing early can make the investment process smoother, reduce delays and give investors greater confidence in the long-term stability of the business.
If you would like a consultation on preparing for your startup's legal due diligence process, you can reach us at 08081347754 or team@sprintlaw.co.uk for a free, no-obligations chat.
Alex SoloCo-Founder
