Seed Round Due Diligence Preparation: What Investors Will Check and You Must Know

The Hong Kong Securities and Futures Commission’s (SFC) updated Licensing Handbook (effective January 2025) now explicitly classifies certain pre-seed and seed-stage advisory activities as “advising on corporate finance” under the Securities and Futures Ordinance (SFO), Cap. 571. This regulatory clarification, combined with a 37% year-on-year increase in SFC enforcement actions against unlicensed fundraising intermediaries in 2024 (SFC Annual Report 2024), means that founders who treat due diligence as an afterthought are no longer just risking a failed round—they are exposing themselves to potential regulatory liability. For a seed-stage founder in Hong Kong or Shenzhen, the investor’s due diligence process is no longer a simple check of a pitch deck; it is a structured examination of legal, financial, and operational fundamentals that can make or break a term sheet within 14 days. This article outlines the specific data points, legal documents, and operational metrics that investors will verify, drawing on HKEX Listing Rules, SFC codes, and standard market practice for seed rounds in the Hong Kong-Shenzhen corridor.

The Legal Entity and Cap Table: The First 48 Hours

Investors will verify the legal structure of the entity within the first two days of formal due diligence. For a Hong Kong-incorporated company, this means confirming the company’s registration with the Companies Registry under the Companies Ordinance (Cap. 622), including the current register of members, directors, and company secretary. For a Cayman Islands or BVI exempted company, the investor will request a certificate of incorporation, a certificate of good standing (issued within the last three months), and a register of members from the registered agent. The SFC’s Code of Conduct for Persons Licensed by or Registered with the SFC (paragraph 16.3) requires that licensed corporations “take reasonable steps to establish the identity of the ultimate beneficial owners” of any entity they advise or invest in. This means the investor will require a full beneficial ownership chain, including any trusts or holding companies, with supporting documentation such as trust deeds or partnership agreements.

Shareholder Agreements and Pre-Emptive Rights

The investor will request a copy of the shareholders’ agreement (SHA) or, if none exists, the articles of association. The SHA must clearly define pre-emptive rights, drag-along and tag-along provisions, and any veto rights held by existing shareholders. A common gap at the seed stage is the absence of a formal SHA, which forces the investor to rely on default provisions under the Companies Ordinance (Cap. 622, s. 168). This default regime provides no drag-along mechanism and gives minority shareholders the right to demand a buyout under certain conditions, creating a structural risk for the incoming investor. The investor will also verify that all previous share issuances—including any convertible notes or SAFEs (Simple Agreement for Future Equity)—have been properly documented and that the conversion mechanics are clearly defined. The HKEX’s Guidance Letter HKEX-GL85-16 (updated 2023) on pre-IPO investments explicitly states that any “irregularities in the shareholding structure” may require disclosure in the prospectus, even for seed-stage companies that later apply for a Main Board listing.

Option Pools and Vesting Schedules

The investor will examine the option pool, typically set at 10% to 15% of fully diluted shares for a seed-stage company. The key question is whether the pool is pre- or post-money. A pre-money pool dilutes existing shareholders only; a post-money pool dilutes the investor as well. The investor will request the option plan document, which must include a formal vesting schedule—standard market practice in Hong Kong is a four-year vesting with a one-year cliff. The SFC’s Licensing Handbook (2025 edition) notes that any “equity-linked incentive scheme” that involves the offer of securities to the public may require a prospectus under the Companies (Winding Up and Miscellaneous Provisions) Ordinance (Cap. 32). For seed-stage companies, the investor will confirm that the option pool has been granted only to employees, consultants, or directors, and not to any person who could be classified as a “member of the public” under Cap. 32.

Financial Due Diligence: Beyond the Pitch Deck Numbers

The investor will request management accounts for the last 12 to 18 months, even if the company has no revenue. The SFC’s Code of Conduct (paragraph 16.5) requires that any financial information provided to investors be “accurate and not misleading.” For a pre-revenue company, this means the investor will scrutinise the cash burn rate, the runway (months of cash remaining at current burn), and the accuracy of the cap table’s fully diluted share count. A common error at the seed stage is the failure to account for accrued but unpaid expenses—such as legal fees, software subscriptions, or contractor payments—in the cash flow statement. The investor will cross-reference the management accounts against bank statements for the same period, looking for any discrepancies in the timing or amount of recorded expenses.

Revenue Recognition and ARR

For companies with early revenue, the investor will apply the five-step model under HKFRS 15 (Revenue from Contracts with Customers) to verify revenue recognition. The investor will request a schedule of customer contracts, including the contract date, the scope of services or goods, the payment terms, and any performance obligations. The key metric for SaaS companies is Annual Recurring Revenue (ARR), calculated as the monthly recurring revenue (MRR) multiplied by 12. The investor will verify ARR by requesting a list of active subscriptions, the churn rate (monthly or annual), and the average contract value (ACV). The HKEX’s Listing Rule 18A.06 (applicable to biotech companies) requires that revenue from “unrelated party transactions” be verified by the sponsor, but for seed-stage companies, the investor will simply require a signed customer contract for each top 10 customer, with the customer’s name, contract value, and payment history.

Unit Economics and CAC Payback

The investor will calculate the unit economics: Customer Acquisition Cost (CAC), Lifetime Value (LTV), and the LTV/CAC ratio. For a seed-stage company, a ratio above 3.0x is considered healthy. The investor will request a breakdown of CAC by channel (e.g., paid search, content marketing, referrals) and the conversion rate from lead to paying customer. The CAC payback period—the number of months required for the gross profit from a customer to equal the CAC—is a critical metric for cash-intensive startups. The investor will also request a list of any “churned” customers and the reasons for churn, as this data provides insight into product-market fit and retention risk. The SFC’s Code of Conduct (paragraph 16.6) prohibits the provision of “false or misleading information” regarding financial projections, so the investor will treat any unit economics projection as a forward-looking statement that must be supported by historical data from the management accounts.

Operational and Technical Due Diligence

The investor will conduct a technical review of the company’s core product or service, focusing on the technology stack, intellectual property (IP) ownership, and data privacy compliance. For a Hong Kong-based startup, the Personal Data (Privacy) Ordinance (Cap. 486) requires that any collection of personal data be for a lawful purpose directly related to the data user’s function, and that the data subject be informed of the purpose. The investor will request a copy of the company’s privacy policy, data retention schedule, and any data processing agreements with third-party vendors. The SFC’s Guidelines on Cybersecurity (published 2023) apply to licensed corporations but set a market standard for all financial technology startups: the investor will expect to see a documented cybersecurity policy, including incident response procedures and regular penetration testing reports.

Intellectual Property Ownership

The investor will verify that all IP—including software code, algorithms, trademarks, and patents—is owned by the company, not by individual founders or contractors. This requires a review of the assignment of inventions clauses in employment agreements and independent contractor agreements. A common gap at the seed stage is the absence of a formal IP assignment agreement for any code written by a contractor or a founder who is not a full-time employee. The investor will request a copy of the company’s IP register, listing all registered trademarks, patents, and domain names, with the company listed as the registered owner. The Companies Registry’s Guidance Note on Intellectual Property (2022) notes that a failure to properly assign IP can result in the company being unable to enforce its rights against third parties, a material risk for any investor.

Data Privacy and Cross-Border Data Transfers

For companies operating in the Hong Kong-Shenzhen corridor, data privacy compliance is a two-jurisdictional issue. The Personal Data (Privacy) Ordinance (Cap. 486) in Hong Kong and the Personal Information Protection Law (PIPL) in the PRC both impose restrictions on cross-border data transfers. The investor will request a data flow map showing where user data is collected, stored, and processed, and whether any data is transferred to or from the PRC. The HKMA’s Circular on Cross-Border Data Transfers (2023) requires that any authorised institution (bank) that transfers customer data to the PRC must have a legal basis under both Hong Kong and PRC law. For a seed-stage fintech startup, this means the investor will expect to see a data processing agreement that complies with both Cap. 486 and the PIPL, including a data protection impact assessment (DPIA) if the data involves sensitive personal information.

The Management Team and Reference Checks

The investor will conduct a formal background check on each founder and key executive, including a review of their professional history, any regulatory sanctions, and their reputation in the industry. The SFC’s Code of Conduct (paragraph 16.7) requires that licensed corporations “take reasonable steps to ensure that the directors and senior management of the company are fit and proper persons.” For a seed-stage company, this means the investor will request a copy of each founder’s CV, a list of previous board memberships, and any disciplinary actions by a professional body (e.g., the Hong Kong Institute of Certified Public Accountants, the Law Society of Hong Kong). The investor will also conduct reference checks with at least three people who have worked with the founders in a professional capacity—former employers, co-founders, or investors in previous ventures.

Founder Vesting and Lock-Up Arrangements

The investor will insist on a founder vesting schedule, typically four years with a one-year cliff, even if the founders have already been working on the company for several years. The rationale is to align founder incentives with long-term value creation. The investor will request a formal founder vesting agreement, which must be signed before the investment closes. The HKEX’s Listing Rule 8.10 (applicable to Main Board applicants) requires that “any lock-up arrangement” for controlling shareholders be disclosed in the prospectus. For seed-stage companies, the investor will typically require a 12-month lock-up on founder shares from the date of the investment, with a gradual release thereafter.

Conflict of Interest Disclosure

The investor will request a disclosure of any actual or potential conflicts of interest involving the founders, including any other businesses they own or control, any related-party transactions, and any personal relationships with service providers (e.g., legal counsel, accountants). The SFC’s Code of Conduct (paragraph 16.8) requires that any “material conflict of interest” be disclosed to the investor before the transaction is completed. A common issue at the seed stage is a founder who also serves as a director or shareholder of a supplier or customer, creating a related-party transaction that must be disclosed and, if material, approved by the board or the shareholders. The investor will request a copy of the company’s conflict of interest policy and a signed declaration from each founder.

Actionable Takeaways

1. Prepare a due diligence data room at least 30 days before approaching investors, including the certificate of incorporation, register of members, and a fully diluted cap table with all convertible instruments documented.
2. Ensure all IP is formally assigned to the company via written agreements with founders, employees, and contractors, and maintain an IP register with registration numbers for all trademarks and patents.
3. Verify that your revenue recognition policy complies with HKFRS 15, and prepare a schedule of customer contracts with payment terms and performance obligations for the top 10 customers.
4. Obtain a data flow map and a privacy policy that complies with both the Personal Data (Privacy) Ordinance (Cap. 486) and the PRC Personal Information Protection Law if you handle cross-border data.
5. Secure a signed founder vesting agreement with a four-year schedule and a one-year cliff, and prepare a conflict of interest disclosure signed by each founder before the term sheet is issued.