Conducting due diligence background checks on potential franchisees, business partners, acquisition targets, vendors and other relevant counterparties has become increasingly popular in the wake of the recent explosion of financial frauds. But a poorly conducted background check is just as dangerous as no background check at all.
Whether you conduct background profiles internally, use an outside firm, or are considering implementing a background check program or policy, here are some tips to help and some pitfalls to avoid.
Typical Components
A real background check should include the following components at a minimum:
Verification of Identity
On individuals this would include verification or validation of the subject’s name, address history, date of birth and social security number. This insures that you are running subsequent searches against the proper names, in the proper time frames, and in the proper jurisdictions. On businesses this is usually a check with the Secretary of State to confirm company name, name history, business type, corporate status, etc.
Credit Reports
Whether it’s a personal credit report on an individual or a commercial credit report on a business, these reports give you a decent idea on the subject’s payment history as well as a cursory search for public records such as bankruptcies, liens and judgments. Note that you may need a signed release/authorization to pull credit on an individual.
Verification of Regulatory or Occupational Licenses
Whether it’s a personal or business license or certification, verification should be conducted with the governing body or issuing agency or association. Ask for confirmation of license status as well as any history of complaints or discipline.
Media and Internet Scans
This should include comprehensive, thorough searches of internet search engines, appropriate social media and social networking platforms and available newspaper and trade journal articles. In addition, searches should be conducted through complaint sites such as ripoffreport.com. At a minimum, the search should attempt to reveal negative items such as complaints, lawsuits, regulatory actions, etc.
Public Record Searches
At a minimum this should include thorough searches for bankruptcies, civil litigation, judgments, tax liens, criminal records and UCC filings.
While this is no means a perfectly comprehensive background search, the above components represent a reasonable search under most circumstances. Following these guidelines yields a report which should catch most major red flags or significantly negative pieces of information. Additional components should be added based on the type of business, the structure of the transaction and the overall risk associated with the deal.
Ongoing Monitoring
Depending on the length of the relationship and other factors, consider ongoing monitoring to detect negative items during the course of the relationship. A background check is only as current as the date it is conducted. Business and individuals change over time and you don’t want to be the last to know if negative changes are occurring.
Common Pitfalls
The following examples are common mistakes when conducting due diligence background profiles:
Over reliance on database records
More and more court records are available “online” or through “comprehensive database” offerings. However, there is still no substitute for on-site, manual research when it comes to official court records and government agency records. Most online sources are incomplete, outdated or simply not comprehensive. Ask your provider if they have on-site researchers that visit local courthouses on a daily basis. These researchers are familiar with the court databases and know how to properly conduct research in their jurisdiction. Despite the increased availability of information on the internet, this is still the gold standard for legitimate background check agencies.
Over reliance on internet scans. A Google search is not a background check. While internet scans are useful, they are simply one component in a comprehensive background profile.
Additional Benefits of Proactive Due Diligence
A proper background profile can help franchisors, business owners, lenders or investors avoid getting involved in deals in which the likelihood of default or litigation is great. This is obvious. But the initial background profile also provides a wealth of information to the persons responsible for litigation, work outs, or collection if the deal goes bad. The information contained in the initial background profile provides a perfect foundation for the asset investigation. In addition, the background profile gives a snapshot of the potential debtor for a specific moment in time. This information can be extremely valuable if you are trying to prove fraudulent transfers or conveyances have occurred at some point during the litigation or collection process.
Best Practices for Choosing a Background Check Vendor
Licensing Make sure your background check vendor is licensed. Many states, including Minnesota, require a private detective license for companies engaged in background investigations.
Insurance Make sure your vendor carries adequate Errors & Omissions (E&O) insurance. Ask for their certificate and confirm it with the insurance company or agency.
Compare apples to apples The cost of a “background check” can vary greatly from agency to agency. If the price or turnaround time you have been quoted sounds too good to be true, it probably is. This usually means the background check company is using purely online or database-driven information sources which are cheaper and faster to run but can lead to major gaps and deficiencies in the report.
Flexibility Find a vendor that can customize reports to meet your needs on a case by case basis. No two deals are the same and your provider should be able to tailor solutions to meet changing budgets and turnaround times. If your vendor has a one-size-fits-all mentality, look elsewhere.
Conclusion
Whether your business is getting involved in a small deal, a larger merger or acquisition, or you simply want to know more about a prospective franchisee, vendor, partner, or borrower, take the time to set up an effective policy regarding due diligence background checks and choose the proper vendors or information sources. A little time and a reasonable investment in proper due diligence can save a lot of headache and a lot of money in the long run as well as mitigate risk to your reputation.
ABOUT THE AUTHOR
Tom Jaeb is the President of Heartland Investigative Group, a licensed private detective agency headquartered in Minneapolis, MN. Heartland has served the franchise, corporate, legal, financial, real estate and insurance communities for over 25 years providing state of the art investigative and forensic services to a broad array of clients. Tom Jaeb has conducted or managed over 20,000 investigations in his 20 years as a professional investigator. His areas of expertise include due diligence background profiling and asset investigation. www.heartlandinfo.com
