due diligence

noun
Updated on: 26 Jul 2017

Definition of due diligence

  1. 1 law :  the care that a reasonable person exercises to avoid harm to other persons or their property failed to exercise due diligence in trying to prevent the accident

  2. 2 business :  research and analysis of a company or organization done in preparation for a business transaction (such as a corporate merger or purchase of securities)

Doing Your Due diligence

Due diligence has been used since at least the mid-fifteenth century in the literal sense “requisite effort.” Centuries later, the phrase developed a legal meaning, namely, “the care that a reasonable person takes to avoid harm to other persons or their property”; in this sense, it is synonymous with another legal term, ordinary care. More recently, due diligence has extended its reach into business contexts, signifying the research a company performs before engaging in a financial transaction. This meaning may also apply to individuals: people are often advised to perform their due diligence before buying a house, signing a loan, or making any important purchase.

First Known Use of due diligence

1598


Financial Definition of DUE DILIGENCE

due diligence

What It Is

Due diligence is the careful, thorough evaluation of a potential investment, whether on a corporate or individual level.

How It Works

For individual investors, due diligence often means studying annual reports, SEC filings, and any other relevant information about a company and its securities. The objective is to verify the material facts related to the purchase of the investment, as well as to understand whether the investment fits an individuals return requirements, risk tolerance, income needs, and asset allocation goals.

An individual's due diligence might include reading the company’s last two or three annual reports, several recent 10-Qs, and any independent research they could find. In doing so, they would develop a sense of where Company XYZ is headed, what market factors might affect the stock’s price, and how volatile the stock is. This in turn might give them guidance about whether the investment is right for you, and if so, the size and timing of their investment.

In a merger scenario, due diligence often involves a team of people specially tasked with reviewing and verifying every aspect of an investment in another company. In many cases, this team might include lawyers, accountants, and investment bankers.

Why It Matters

Due diligence helps people and companies understand the nature of an investment, the risks of an investment, and how (or whether) an investment fits into a particular portfolio. Due diligence isn’t just good sense, it’s a duty investors owe to themselves -- doing this sort of "homework" on a potential investment is often essential to making prudent investment decisions.


Law Dictionary

due diligence

noun

Legal Definition of due diligence

  1. 1 :  such diligence as a reasonable person under the same circumstances would use :  use of reasonable but not necessarily exhaustive efforts —called also reasonable diligence Editor's note: Due diligence is used most often in connection with the performance of a professional or fiduciary duty, or with regard to proceeding with a court action. Due care is used more often in connection with general tort actions.

  2. 2a :  the care that a prudent person might be expected to exercise in the examination and evaluation of risks affecting a business transaction b :  the process of investigation carried on usually by a disinterested third party (as an accounting or law firm) on behalf of a party contemplating a business transaction (as a corporate acquisition or merger, loan of finances, or especially purchase of securities) for the purpose of providing information with which to evaluate the advantages and risks involved the greatest exposure…for failure to conduct adequate due diligence arises in the context of public offerings of securities — G. M. Lawrence c :  the defense (as to a lawsuit) that due diligence was conducted


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