Technical Due Diligence: The Ultimate A-to-Z Guide
Let's pretend you want to purchase a yacht. Before you decide to buy it, you'll need a proper and accurate evaluation of its state to determine whether the price correlates with the promised quality. Such a health check carried out by the pros is necessary to verify the condition of the vessel's frame, engine, and other vitals, as well as to allocate corrosion or signs of decay that might be costly to fix. The inspection will likewise be handy if you're the owner planning to sell the yacht.
Why did we bring this up? Well, because the pattern is more or less the same with tech products. Numerous businesses and investors alike request compliance audits to make informed decisions based on the given information about a product's ups and downs.
On this page, we take a close-up look at such product assessment processes. As a bonus, we'll provide you with a technical due diligence checklist and give answers to the most commonly asked technical due diligence questions.
What Is Tech Due Diligence?
Technical due diligence (TDD) is a comprehensive, structured, and thorough tech audit aimed at reviewing and evaluating a project's tech peculiarities. It goes over various tech-related aspects of the project, including the:
- code quality;
- UX/UI design;
- QA testing, deployment, and other processes;
- product security;
- data storage;
- and other vitals.
One of the major purposes of the process is to note strengths and allocate vulnerabilities or issues that may affect the product's cost and value. In essence, such an examination allows you to ascertain that the product is of decent quality, works properly, has a qualified team, and has real scaling opportunities, which are all crucial points influencing investment and other decisions.
As a result of the audit, you get a detailed report describing the current level of the solution, information about the possible risks, assumptions, enhancement tips, and conclusions. The report may also come with a tech due diligence checklist that notes the specific points which have to be taken care of or considered.
When Does Tech Diligence Take Place?
As a rule, this process is performed during various startup stages, for instance, before or during acquisitions or business mergers (M&As), initial public offerings (IPOs), or in the course of funding rounds.
Plus, it's a common startup valuation or assessment step during partnership formation, VC financing, investment deals, or other kinds of business deals when the product has to be evaluated in terms of the associated opportunities and potential technology and cost-related risks.
The process can take two weeks or more, depending on the complexity of the project and the peculiarities of the technical due diligence deliverables you agree on.
Who Needs Technical Due Diligence?
In general, such an assessment can be applied for various purposes and may serve as the backbone for numerous decisions. For instance, startups, businesses, and product owners can make use of a technology due diligence process in several cases:
- when they're seeking investment and are planning to go through a funding process;
- if they're planning to sell their product shares or wish to make an exit;
- if they need an embracive look into the product (e.g., to improve the project development plan, to learn about the solution's compliance with regulations and standards, its reliability and security, scalability opportunities, etc.).
Plus, technical due diligence is often initiated by acquirers, product buyers, or investors. It's a powerful decision-making pillar, allowing to get an in-depth understanding of the target company's technical side, allocate possible risks, opportunities, and major product values, all influencing the deal's outcome. The process helps them determine whether the project aligns with their overall investment strategy and business priorities and gain confidence in their final decisions.
Who Performs Technical Due Diligence?
Regardless of who initiated the process (e.g., an investor or startup owner), tech due diligence is either carried out in-house or, more commonly, handled by a third-party organization. For example, startup owners can put their product up for sale on a specialized marketplace like BitsForDigits (one of Upsilon's partners) and entrust Upsilon to handle technical due diligence before the acquisition process begins.
Involving an independent third-party expert team (for instance, by delegating the task to an outsourced CTO) allows for getting an unbiased and well-rounded evaluation, especially if the auditor can offer a level of expertise and industry knowledge that the product owner or investor lacks. Such an approach provides an objective perspective, showing the product's pros and cons.
Why Technical Due Diligence Is Important
As you see, various parties can need such an expert consultation as it's an essential decision-making component. And since the overall startup failure rate is rather high, let's go over the technical due diligence benefits and why it is necessary to conduct this procedure.
Falling back on the yacht example, it might look clean and shiny on the outside, but what's under the hood? One of the first things that can be achieved via tech due diligence is evaluating the quality of the current version of the product. With a deep understanding of what the solution is really like (for instance, the code quality and how the solution is equipped), you can get a clearer picture of its true value and make weighed assumptions about its opportunities.
A Plan to Improve Imperfections
Moreover, according to the technical due diligence findings, you may get an outline of the possible improvements that can or should be made once you launch a startup. Be it a list of revealed flaws to fix, detected process inefficiencies, or areas to optimize, a lot can be done to address the issues, streamline the processes, and pick up a company's game in terms of operations.
Similarly, you may also uncover the paths toward innovation. Such knowledge can highlight competitive advantages and the product's real worth, showing the possible directions to move in.
Being aware of technical risks is another point worth mentioning. As such, vulnerability detection is essential during tech due diligence because it rates the overall reliability of the solution. Cybersecurity is a vital aspect, as security breaches, malware, data theft, and other defects usually lead to serious consequences that can harm the reputation and result in legal complications and money loss. The bottom line is that these are issues you'd want to avoid at all costs.
The same goes for checking whether the product meets industry and regulatory standards, doesn't require non-stop maintenance, and is stable (without constant downtime). It is best to elude possible "oops" scenarios or unexpected challenges that might come up in the future. And lots of risks can be mitigated by thoroughly cross-checking compliance.
Staying on the safe side and going through a health check certainly makes sense when money is at stake. And you can get one step closer to realistic estimates regarding the upcoming expenses as well as omit possible negative impacts on investment through technical due diligence. Accuracy is important when predicting expenses. Therefore, you can base your calculations and forecasts on specific areas and work scope.
Both product owners and parties interested in its purchase care about the product's capabilities for future growth and expansion. That's why determining scaling opportunities in the course of technical due diligence is also high on the agenda.
Bringing up an example, some startups begin by developing an MVP, which is reasonable. However, while rushing to get the product live as soon as possible, they often make sacrifices (say, regarding the infrastructure quality, code review, and test coverage time). Although the minimum version of the product may look good, there might be obstacles to scaling it further caused by irrational platform, architecture, or tech stack choices. This may result in various challenges, all the way down to the need to recode the solution from scratch to fit it with extra functionality and scale it. Such roadblocks can also be uncovered thanks to tech due diligence.
Tech Due Diligence Process: 6 Steps
There's no single algorithm or standard set of technical due diligence steps. However, we'd note six distinct stages based on how we handle tech due diligence for clients at Upsilon.
Step 1: Preparing for the Audit
The tech due diligence process should start with the preparation phase. As such, if the procedure is carried out by a third-party expert team, you can begin by signing several vital documents, including a letter of intent and a non-disclosure agreement.
Step 2: Holding an Initiation Meeting
The first kick-off call or meeting is then necessary to get all parties on the same page. On a very primary level, you get to learn the major information about the product. Such background info can include the aims, niche, vision, target audience, unique selling point, competitors, and the basics of the tech side.
At this point, you also go over the upcoming technical due diligence process objectives and areas of focus. For instance, what it'll encompass (from the scope and deadlines to how documents will be transferred, and so on). Once that's covered, the product owner's team begins collecting the documentation that'll be reviewed.
Step 3: Screening the Documentation
Documentation review is one of the most important steps, as this is when the solution's tech side gets investigated by the assessment team. This includes the quality of the code, used architecture, integrations, backups, and other tech constituents.
Step 4: Personal Meetings with the Developers
Once the documentation is assessed, the tech due diligence can conduct performance testing to see the solution in action. This step often includes one-on-one meetings with the product's tech lead and developers. The reviewer needs to gain insights into the internal development processes and may thus ask questions regarding the selected software development methodology, why this or that path was taken or a decision was made.
Step 5: Sharing Intermediate Results
At this point, a lot can already be stated about the product, so the party handling the technical due diligence assessment can follow up with some preliminary results of the audit. If required, additional reviews and tests can be carried out during this stage.
Step 6: Compiling the Report
The final part of tech due diligence is providing the report. The auditor puts together a detailed report showing the collected results after screening, testing, and discussions. The document is usually fitted not only with an evaluation of the condition of this or that aspect. It also includes comments on the findings, predictions, and recommendations regarding how a specific area can be improved, how difficult the process will be, and the possible risks.
What Does Technical Diligence Review?
Frankly, the answer to this question greatly depends on the product itself and its scale. For example, even the investment stage or founding round can influence the level and areas for assessment. If you're just at the seed round, you might want the audit to focus on your product's prospects, whereas rounds A to C and beyond generally have more in-depth focus areas.
On the whole, quality technical due diligence not only highlights a project's or product's strengths. It also has to allocate flaws and evaluate them. As such, you may use various "health" criteria or indicators for assessment. This way, you can grade the current state or level of a part you're looking into and note how hard it'll be to fix or improve it.
Below we list some of the aspects that can get evaluated during tech due diligence:
- tech stack (programming languages, used frameworks, libraries);
- project documentation and test specification;
- development and testing environments;
- automated code checks and code organization;
- project architecture;
- UX/UI designs;
- existing integrations;
- cloud platforms and web servers;
- task management and repository organization;
- hardware, backups, logging, etc.;
- security (DDoS protection, SQL injection prevention, etc.);
- and other aspects.
How Startups Can Prepare for Tech Due Diligence
Going through technical due diligence can make product owners nervous. It's like having a regulator from the Safety, Hygiene, and Health Administration run a sanitary check at your restaurant. But don't get psyched out too soon; there are some things you can do to prepare for a smoother process. Below we share a preparation-phase technical due diligence checklist for pre-audit groundwork and preliminary internal assessment.
1. Prepare for the Initiation Meeting
As we've mentioned earlier, there's a technical due diligence step where you introduce your product basics to all parties. Essentially, these are the fundamentals that you'd include in your pitch deck, like:
- your product vision, goals, USP;
- competitor analysis and market research;
- business strategy;
- startup budget estimates;
- and other vitals
Therefore, be ready to dwell on these points.
2. Check Your Documentation Quality
Your technical documentation has to be organized, relevant, and brushed up. Documenting as much as you can is considered a best practice. For example, your documentation should include a logical representation of your internal processes, workflows, architecture, and other vitals. If you lack documentation or it's sloppy, this will lower your chances of successfully passing the tech due diligence "health check test". Hence, take care of this beforehand.
3. Justify Your Tech Stack Choices
Train your employees and be prepared to explain your tech stack choices during technical diligence, e.g., at meetings. As such, your developers can be asked about why you selected a specific web app architecture, programming language, framework, infrastructure, database, API, integration, or tool.
Back up the rationale of your decisions with arguments. For instance, this was done due to the peculiarities of the existing product development roadmap; since the product is headed here in the future, the logic behind this path choice is optimal for sustaining the product as it matures. Having supporting materials like charts, statistics, and proof at hand will also be helpful.
4. Review the Code Quality
Ideally, your product's code has to be written by qualified and experienced developers. If your solution's codebase was quickly cobbled together, tech due diligence will unveil all the flaws and workarounds that were implemented to speed things up. To prepare for the procedure, go through the code to see whether the guidelines are met.
Code coverage metrics that'll show the percentage of the code you've tested should be included likewise. This regards unit testing and regression testing too.
5. Tidy Up Your Security Documentation
Moreover, prepare documentation that can show all the work you've done and tests you've run to ensure the solution's security is top-notch. In fact, make sure you've taken care of this long before the technical due diligence begins. Deal with your authentication protocols, SQL injection prevention, credentials security and encryption, firewall setups, and other points.
6. Go Over Your Licences and Patents
Are you using open-source components or free software for your project? If so, scan your code to make sure you've checked all the licenses to adhere to requirements (including third-party software license compliance, assets, and dependencies that are part of the product). This is especially crucial if technical due diligence is conducted for investors as they care about patents, copyrights, ownership, and intellectual property rights.
7. Team Structure
Having an up-to-date staff directory or organizational chart showing your departments, outsourcing partners, team roles and responsibilities can be helpful too. So it's important to use an organizational chart maker to build your chart. As such, you can make use of tools like OrgaNice to keep your startup team structure organized and relevant at all times.
Similarly, investors may ask to see the contracts or resumes of the team behind the product or inquire about the related costs for their employment in the course of technical due diligence.
Technical Due Diligence Checklist for Startups
All projects differ from each other somehow. That's why there is no universal sequence for determining a product's strengths and weaknesses. Nonetheless, we've prepared a sample tech audit report template which can serve as an actionable tech due diligence checklist.
What can you expect from this technical due diligence checklist template? It portrays the project assessment methodology that Upsilon uses. The template allows to evaluate five major tech areas and thirty vital criteria (from the testing environment and repository organization to user credentials encryption and beyond).
Each criterion can be assessed according to Level and Complexity.
- The Level column is used for assessing the criterion's current state by giving a grade from 0 to 3 (where 0 means "not implemented on the project", 1 — "the level is low", 2 — "the level is good", and 3 — "the level is excellent").
- What's for Complexity, the grade from 1 to 4 to marks how much work is necessary to fix or improve this or that criterion (in this case, 1 means "very easy to fix or improve", 2 — "quite easy", 3 — "rather difficult", 4 — "very difficult or impossible to fix").
Then, based on the inputs, the algorithm automatically calculates the score of each tech area (from 1 to 10) and the overall project score (from 0 to 100).
Certainly, as there are no strict grading rules, the scores will reflect the given expert's evaluation. And without any doubt, such a report will only bring the utmost value if the technical due diligence is conducted by a tech expert or a hired CTO who can give comments and explain each issue in detail, noting the possible ways to make improvements. This is why it is reasonable for startups to outsource TDD to another company.
As a bonus, if you decide to use our TDD template to audit your product, you can get a free one-hour consultation from our tech expert. And if you're looking for an experienced team to analyze your product, don't hesitate to contact us, Upsilon's specialists will be glad to help!
Over to You
Technical due diligence is all about transparency. It's like a full body health exam of your product with X-rays and MRIs done to ensure everything functions correctly and flag possible areas of concern.
Although going through the procedure may be nerve-wracking, there's a lot a product owner can do to get prepared for the audit in advance. Not to mention that it's twice as important to straighten out all the documentation if you're a startup planning to raise funding, undergo a round of investment, or make an exit.
If you need a product tech audit and are seeking an external TDD team to handle technical due diligence for your startup, Upsilon provides tech due diligence services with further development support. We'll thoroughly examine your project and provide you with a detailed report that'll be fitted with all calculations, risk evaluation, assumptions, and conclusions.