Cyber Due Diligence: Non-Negotiable for Private Equity Firms Success

Introduction 

Due diligence is a pivotal step in private equity (PE) investments, involving the comprehensive evaluation of a target company’s financial, operational, and legal aspects to gauge its risk and potential return.  

However, amidst the increasing prevalence of cyber threats, cyber security has emerged as a critical consideration for organisations across all industries, including PE firms. Considering this, PE firms must now prioritise cyber security when assessing potential investments to make well-informed decisions before finalising deals. Yet, many PE firms face challenges due to a lack of knowledge and formal standards guiding the cyber due diligence process, leading to potential confusion.  

Moreover, prevalent misconceptions about cyber security often hinder businesses from taking necessary actions to protect themselves and their data. Therefore, this article aims to address these challenges by outlining key cyber due diligence best practices tailored specifically for PE firms. By implementing these practices, PE firms can safeguard their investments and ensure the long-term success of portfolio companies in an increasingly digital landscape. 

The Importance of Cyber Due Diligence for PE Firms 

The significance of cyber due diligence in private equity cannot be overstated. It serves as a cornerstone in the investment decision-making process, allowing firms to identify risks and vulnerabilities within target companies. By addressing these concerns, PE firms can safeguard their investments and ensure the sustained success of portfolio companies.  

Recent data from IT Governance underscores the urgency of this matter. Despite being early in 2024, we’ve already surpassed the totals of 2023 in both publicly disclosed incidents and known records breached. This emphasises the critical need for PE firms to prioritise cyber security in their due diligence endeavours. (source:

Introduction 

Due diligence is a pivotal step in private equity (PE) investments, involving the comprehensive evaluation of a target company’s financial, operational, and legal aspects to gauge its risk and potential return.  

However, amidst the increasing prevalence of cyber threats, cyber security has emerged as a critical consideration for organisations across all industries, including PE firms. Considering this, PE firms must now prioritise cyber security when assessing potential investments to make well-informed decisions before finalising deals. Yet, many PE firms face challenges due to a lack of knowledge and formal standards guiding the cyber due diligence process, leading to potential confusion.  

Moreover, prevalent misconceptions about cyber security often hinder businesses from taking necessary actions to protect themselves and their data. Therefore, this article aims to address these challenges by outlining key cyber due diligence best practices tailored specifically for PE firms. By implementing these practices, PE firms can safeguard their investments and ensure the long-term success of portfolio companies in an increasingly digital landscape. 

The Importance of Cyber Due Diligence for PE Firms 

The significance of cyber due diligence in private equity cannot be overstated. It serves as a cornerstone in the investment decision-making process, allowing firms to identify risks and vulnerabilities within target companies. By addressing these concerns, PE firms can safeguard their investments and ensure the sustained success of portfolio companies.  

Recent data from IT Governance underscores the urgency of this matter. Despite being early in 2024, we’ve already surpassed the totals of 2023 in both publicly disclosed incidents and known records breached. This emphasises the critical need for PE firms to prioritise cyber security in their due diligence endeavours. 

 Top Four Risks to Explore During the Due Diligence Process  

When conducting cyber due diligence private equity firms should closely examine four key areas:  

Technology Infrastructure 

Assessing the target company’s technology infrastructure is a crucial initial step in cyber due diligence. Outdated network equipment, systems, and applications pose significant risks, potentially leading to vulnerabilities exploited by cybercriminals.  

Consider whether its IT systems are modern and up to date and if there is a clear understanding of all IT systems, including those managed by third parties. Additionally, evaluate if these systems are suitable for the targeted market and if there are adequate processes and procedures in place to protect them. 

External Risks and Threats 

Third-party data breaches are increasingly common, as organisations outsource key functions to focus on their core objectives and reduce costs. However, outsourcing services doesn’t absolve companies from vendor oversight responsibilities. It’s essential to review critical third parties with access to company data and conduct regular assessments of all third-party remote connections. 

Key considerations include whether third-party risk assessments and penetration testing have been conducted, if any past breaches or exposures have been identified and if the company complies with regulations. 

Cyber Awareness Culture 

Are employees adequately trained on cyber risk? What governance processes govern cyber training? 

While a company may tick all compliance boxes during cyber due diligence, the security mindset of its leaders and employees is critical. Cyber security isn’t just a tech issue; it’s a people issue. A negative mindset toward cyber security can undermine even the most robust cyber plans. 

Ensuring top-down buy-in to security awareness is vital for evaluating a company’s security posture. Leadership must demonstrate a cyber-secure mindset and integrate cybersecurity into the organisation’s overall strategy. 

Incident Response Capabilities 

Does the company have cyber risk management procedures? How does it approach cyber from a general risk and controls perspective? 

As part of cyber due diligence, PE firms assess the target company’s incident response plan, including procedures for handling cyberattacks, data breaches, or other security incidents. 

While organisations often prioritise attack prevention, detection, and response capabilities are frequently lacking. It’s essential to review the company’s incident response plan, its ability to detect and respond to attacks and conduct periodic plan testing. 

Controls and Coverage: Pillars of PE Cyber Security Due Diligence 

Once firms identify their cyber pain points, they can concentrate on strengthening cyber programmes to mitigate risks. These programmes should be grounded on two key pillars: controls and coverage.  

Foundational Cyber Security Controls 

Security Policies and Procedures

Ensuring the organisation maintains well-documented and current security policies and procedures is paramount. These guidelines form the bedrock of a resilient cyber security framework, delineating protocols for safeguarding sensitive data and addressing security incidents. Periodic testing of the plan ensures its effectiveness in real-world scenarios. 

Network Security

Safeguarding high-value assets like customer data and business intelligence necessitates securing the network infrastructure. Implementing measures such as firewalls, intrusion detection systems, and encryption protocols is essential to prevent unauthorised access and data breaches. Additionally, conducting internal vulnerability scans and external penetrations as part of the cyber due diligence process is recommended to evaluate the company’s infrastructure and systems thoroughly. 

Identity and Access Management (IAM) and Insider Threat Management

Effective management of data access is crucial in thwarting malicious internal actors from compromising security. IAM solutions play a pivotal role in controlling user access privileges, ensuring individuals access only the data pertinent to their roles. Moreover, implementing measures to detect and mitigate insider threats further fortifies the organisation’s cyber security posture. 

Third-Party Vendor Management

While organisations often depend on third-party vendors for diverse services, these collaborations come with inherent cybersecurity risks. It’s imperative to comprehend and assess vendors’ security practices to safeguard sensitive data effectively. Contractual agreements should stipulate adherence to security standards and mandate regular security assessments to mitigate third-party risks. Reviewing critical third parties with access to company data ensures proper oversight, alongside periodic evaluations of all third-party remote connections. 

Employee Training and Awareness

Employees frequently represent the weakest link in cyber security defences, underscoring the importance of education and awareness initiatives. Offering thorough training on recognising and thwarting common threats like phishing or social engineering attacks empowers employees to proactively address potential security risks. Regular awareness programmes reinforce cyber security best practices and cultivate a culture of security within the organisation. Periodic reviews of security awareness training programmes are essential to gauge their adoption and effectiveness. 

Cyber Security Coverage 

Just as cyber threats evolve, so too must the measures private equity firms take to safeguard their investments. The decisions made regarding cyber security directly impact coverage options, whether through insurance procurement or self-insurance. Working together with a knowledgeable broker, private equity firms navigate the complexities of cyber risk management with a focus on informed decision-making. 

Conclusion 

Cyber security stands as a cornerstone of success for private equity firms. As cyber threats proliferate, robust cyber due diligence is no longer a choice but a necessity to safeguard investments and ensure the resilience of portfolio companies. By prioritising comprehensive assessments that encompass technology infrastructure, third-party risks, cyber awareness culture, and incident response capabilities, PE firms can proactively identify and mitigate vulnerabilities, fortifying their investments against potential cyberattacks and data breaches. 

To navigate this complex landscape effectively, PE firms must focus on two key pillars: controls and coverage. Implementing foundational cyber security controls and understanding cyber security coverage options ensures comprehensive protection against evolving cyber risks. Embracing cyber due diligence isn’t merely about mitigating risk—it’s about seizing opportunities and positioning for long-term success in an increasingly digital world. 

Empower your firm with the tools and knowledge needed to navigate the complexities of cyber due diligence. Contact us today to learn more about our tailored cyber security solutions and ensure the success of your investment portfolio in an increasingly digital world.