HR records for acquisition: a practical due diligence checklist for founders

How to Organize HR Documents for Due Diligence

When an acquisition offer materializes, the initial excitement is quickly followed by an intense due diligence process. Suddenly, an acquirer’s legal and finance teams request a comprehensive data room, and a significant portion of that request focuses on your people. For founders without a dedicated HR team, this can trigger a frantic scramble to locate scattered employment contracts, payroll reports, and equity grants. Learning how to organize HR documents for due diligence is not about building a perfect, enterprise-grade function overnight. It is about being ‘diligence-ready’ by ensuring your employee documentation is accurate, complete, and accessible. This preparation demonstrates operational maturity and can prevent easily avoidable delays or valuation adjustments, turning a potential liability into a well-managed asset. For more, see our Acquisition Readiness hub.

The Goal: From Scattered Files to a System of Record

The reality for most pre-seed to Series B startups is that HR data lives in multiple places: a payroll system like Gusto or Rippling, a secure cloud folder, various spreadsheets, and a cap table platform like Carta. The first step toward diligence readiness is not to buy a new, expensive system, but to establish a single source of truth. At the earliest stage, this can be a meticulously organized folder structure in Google Drive, forming the basis of an Always-Ready Virtual Data Room. As you grow, a PEO or HRIS becomes the natural hub for centralizing this information.

The objective is to answer an auditor’s request in hours, not weeks. Acquirers value speed and accuracy, and a centralized system provides both. When all offer letters, signed agreements, and payroll data are in one place, you remove ambiguity and reduce the time spent pulling reports from disparate systems. This simple act of organization has a significant impact; organizing existing documents can put a company ahead of 80% of its peers in diligence readiness. It shifts the focus from a chaotic search for information to a clean presentation of workforce data for a business sale, signaling to a buyer that your operations are sound and transparent.

Part 1: Answering "Is This Business Legally Compliant?"

Before an acquirer even considers your financials or talent, they must confirm your business is legally compliant. This is the non-negotiable foundation of HR due diligence, and errors here can create significant deal friction. The required employee documentation for due diligence varies by location, but the principle of verification remains constant.

Employment Eligibility and Right-to-Work

For US companies, every employee file must contain a correctly completed Employment Eligibility Verification (Form I-9). Acquirers will scrutinize these forms for missing signatures, dates, or improper document verification, as simple administrative errors can call into question your hiring practices. Advisors recommend sampling 10-20% of I-9 forms for completion errors during a self-audit to identify and correct issues proactively. In the UK, the equivalent is the Right-to-Work check. Diligence teams will look for clear evidence that you have verified every employee's legal right to work in the country before their start date, including retaining copies of the verified documents.

Intellectual Property Assignment Agreements

For technology and IP-intensive companies in sectors like SaaS, Biotech, and Deeptech, intellectual property assignment is paramount. Proprietary Information and Invention Assignment Agreements (PIIA) are critical legal instruments that assign IP created by employees to the company. A scenario we repeatedly see is a startup where an early, crucial engineer never returned their signed PIIA. Based on diligence reviews by major law firms, missing or incomplete PIIAs for early technical hires is a frequent red flag that can delay tech acquisitions. An acquirer may halt the process until the IP ownership is legally secured, sometimes requiring a cash payment to the employee to sign the document retroactively. Deeptech firms with international teams should also consider export-control rules such as deemed exports.

Data Privacy and Employee Consent

Finally, data privacy compliance is essential. If you operate internationally, particularly with employees in Europe or the UK, you must demonstrate adherence to strict data protection regulations. You may need to show that you have obtained the necessary GDPR consents for employee data processing. This includes documenting how you handle, store, and share personal employee data, which will be transferred to the acquirer post-sale.

Part 2: Answering "What Are the True People-Related Costs and Liabilities?"

Once legal compliance is established, an acquirer's focus shifts to understanding the complete financial picture of your workforce. This goes far beyond the top-line salary figures in your payroll system. Diligence teams are searching for hidden liabilities and future costs that could impact the post-acquisition business.

Contractor Misclassification Risks

A primary area of risk is contractor classification. The distinction between a 1099 contractor in the US and a full-time W-2 employee (or PAYE employee in the UK) is critical. If a contractor functions like an employee, such as having their hours dictated, using company equipment, and being deeply integrated into the team, they may be misclassified. Audits often focus on long-term contractors performing core business functions. 1099 contractor misclassification can result in significant liabilities for back taxes, benefits, and penalties, a financial burden the acquirer would inherit.

Equity and Stock Option Compliance

Equity is another area of intense scrutiny. For US companies, stock option grants must comply with 409A valuation rules, which require a formal, independent appraisal of the company’s fair market value at the time of the grant. Failing to adhere to these rules can create serious tax consequences for your employees and the company. Diligence teams will meticulously match every signed option grant agreement against your cap table, board meeting minutes authorizing the grants, and your 409A valuation reports to ensure consistency and compliance.

Hidden Costs in Employment Contracts

Your employment contracts themselves can contain financial liabilities. Acquirers review offer letters and employment agreements for non-standard clauses. These may include guaranteed bonuses, unusual severance packages, single-trigger acceleration on equity, or specific change-of-control provisions that could trigger large, immediate payments upon acquisition. This is where the difference between having data and having 'clean' data becomes clear. A well-organized file of standard, consistent employment agreements is a strong positive signal.

Alignment with Accounting and Tax Records

Finally, your accounting and tax records must align perfectly with personnel costs. This is particularly relevant for R&D-heavy companies in Biotech or Deeptech. Under US Section 174 (R&D Capitalization) or the HMRC R&D Scheme (UK), specific employee costs may be capitalized or used for tax credits. The supporting HR documentation, such as timesheets and payroll records from a system like QuickBooks (US) or Xero (UK), must be flawless to substantiate these claims. This requires alignment with US GAAP or FRS 102 (UK) accounting standards. For global teams, see IAS 19 recognition and measurement rules.

Part 3: Answering "Are We Acquiring the Talent We Think We Are?"

Ultimately, an acquirer is buying your team and its potential. The final piece of HR due diligence involves validating the quality, stability, and culture of that team. This helps the buyer de-risk the integration and hedge against post-merger attrition. An inability to provide clear workforce data for a business sale can lead an acquirer to discount your valuation; it's a data-driven cultural fit assessment in acquisitions.

Compensation, Performance, and Retention Risk

The key data points acquirers examine include compensation, performance, and tenure. They will analyze salary and equity bands to identify potential pay gaps or key employees who are significantly under-market, posing a retention risk. They will ask for performance review records, not to judge individual employees, but to see if a structured process for managing and developing talent exists. The presence of a consistent review cycle, regardless of its methodology, signals operational maturity.

Attrition Data as a Cultural Indicator

Tenure and attrition data, which can be easily pulled from your payroll system, provides a powerful indicator of team stability. High turnover in a critical department, such as engineering at a SaaS company or research at a Biotech firm, is a major red flag that requires a clear explanation. This data provides a more accurate picture of your company culture than any employee handbook. The lesson that emerges across cases we see is that acquirers look for the difference between a documented culture and the actual, lived culture reflected in the data. A low, stable attrition rate is more convincing than a perfectly worded mission statement, as it demonstrates you are successfully retaining the talent they intend to acquire.

A Practical Checklist for Personnel File Management for Exits

Preparing your HR records for an acquisition does not require a massive budget or enterprise software. It requires a pragmatic, organized approach that begins today. The goal is not perfection but readiness. By taking a few deliberate steps, you can position your company to navigate due diligence smoothly.

1. Establish a Central Repository. Create a single, secure digital folder, perhaps in Google Drive, and label it “HR Diligence Data Room.” This will be your central source of truth for all personnel files. Organize it with subfolders for each employee and for general documents like handbooks and benefits plans.
2. Conduct a Compliance Self-Audit. Proactively check your most critical compliance documents. For US companies, sample 10-20% of your Form I-9s for errors. For UK companies, do the same for Right-to-Work checks. For any tech or IP-based business, confirm that every single technical employee has a signed PIIA on file. Correct any errors you find now.
3. Centralize All Agreements. Gather all employment contracts, offer letters, contractor agreements, and equity grant documents. Scan physical copies and place them in the correct folders within your new data room. Ensure every document is signed and dated correctly.
4. Reconcile with Finance and Legal. Ensure your cap table platform, like Carta or Pulley, perfectly reflects the signed grant agreements you just organized. For US companies, verify your 409A valuations are current and correspond to the option strike prices.

The reality for most startups is more pragmatic than perfect; simply having these documents organized and complete already puts you far ahead. It demonstrates foresight and operational control, allowing you to answer an acquirer's key questions with confidence and speed. Continue your preparations at the Acquisition Readiness hub.

Frequently Asked Questions

Q: What is the most common HR red flag found during due diligence for tech startups?
A: The most frequent and disruptive issue is missing or incomplete Proprietary Information and Invention Assignment Agreements (PIIAs). This is especially critical for early technical hires, as it creates ambiguity over who owns the core intellectual property. An acquirer will almost always halt the deal until this IP ownership is legally secured.

Q: How far back do acquirers look at HR records?
A: Acquirers typically review records for the past three to five years. However, for foundational documents, they will look at the entire company history. This includes all equity-related grants (stock options, RSUs), signed PIIAs, and employment contracts for the current leadership team, regardless of when they were executed.

Q: I use a PEO/HRIS. Does that mean my HR records are automatically diligence-ready?
A: Not necessarily. While a PEO or HRIS is excellent for centralizing payroll, benefits, and basic employee data, it does not guarantee completeness or accuracy. You are still responsible for ensuring every required document, like a signed offer letter or I-9 form, has been correctly uploaded and is error-free. A self-audit is still essential.