Due diligence is a critical process that must be executed with care and integrity. Its proper execution is essential to make informed choices. When this process is performed merely as a procedural formality, it fails to fulfil its core purpose. In certain cases, due diligence that is not just inadequate but deeply flawed or neglected is referred to as egregious due diligence.
This occurs when organizations engage in risk and compliance checks merely to comply with regulatory requirements. This negligent approach can have severe consequences, including legal exposure, reputation damage, financial losses, and erosion of stakeholder trust.
Reasons Behind Egregious Due Diligence
- Regulatory complexity: India’s legal and financial system is highly complex and involves multiple overlapping regulations, such as the Companies Act, SEBI, and RBI. Frequent updates to these rules require constant monitoring.
- Over-reliance on trust: In many Indian business cultures, decisions are based on relationships rather than proper verification. This approach can create blind spots and increase exposure to risk.
- Time pressure in deals: Fast-paced M&A or investment decisions often skip deeper checks, especially in startup or VC environments. Rushed legal reviews can also lead to unclear terms and hidden liabilities.
- Wilful Blindness to Fraud: Complex ownership and limited transparency often expose red flags that are knowingly overlooked due to deal pressure or internal neglect, leading to significant financial and reputation damage.
Inadequate vs Egregious due diligence
- Inadequate due diligence refers to a process that was conducted but lacked sufficient scope, depth, or accuracy. This usually happens because of time constraints, limited resources, or a lack of expertise. While it may result in missed opportunities or minor inefficiencies, the damage is often manageable and stems from oversight rather than intent.
- Egregious due diligence, on the other, refers to more serious lapse in the due diligence process, marked by oversight that goes beyond simple error. It may involve overlooking critical checks, dismissing warning signs, or failing to conduct necessary verifications. Such cases can result in substantial financial loss, legal complications, and reputation setbacks, often because key risks were not just missed, they were disregarded.
Risks of egregious due diligence
- Uncovered fraud: Failure to detect unethical practices, hidden liabilities or deliberate misconduct due to ignored red flags.
- Regulatory breaches: Non-compliance with laws and sector specific regulations can lead to penalties and investigations.
- Reputation fallout: Due diligence failures can lead to loss of trust among stakeholders, negative media attention, and harm company’s reputation.
- Strategic setbacks: A flawed deal may misalign with the company’s goal, leading to stalled growth and long-term strategic setbacks.
Steps to ensure proper due diligence
- Assess financial records deeply: Look beyond surface level reports and thoroughly review records to identify flaws or errors.
- Cross check information: Apart from verifying the information provided by the individual, it is essential to do an in-depth check through reliable sources.
- Engage third-party specialist: Hiring an experts would ensure that all the compliance requirements are met, and no red flags are ignored.
- Avoid rushing into deals: Start the due diligence process early before finalizing the deal to allow for thorough checks.
- Continuous monitoring: Due diligence should not be a one-time task. Ongoing reviews and monitoring help identify new risks and ensure accountability.
Conclusion
Egregious due diligence is more than a careless oversight; it’s a dangerous practice where warning signs are ignored despite formal checks. This kind of failure can expose companies to fraud, legal trouble, and lasting reputation harm.
By taking due diligence seriously, investing in expertise, and acting on red flags, organizations can protect themselves and make smarter, more secure decisions.