Legal Services for Business Audit

Practically all organizations are familiar with financial audits conducted by external auditing or accounting firms. The subject of such audits includes accounting and tax reporting and other financial documentation, and the results consist of conclusions provided to the board of directors, founders, investors, and other stakeholders. Business legal audit is a less common but equally necessary procedure. Primarily, compliance with laws and other regulations in the organization is checked, aiming to prevent fines, commercial and corporate disputes, reputational risks, and losses.

The overview from Lawrange AA specialists gathers everything essential to know about legal due diligence in 2024. When should one order these services? Why are only external specialists suitable for such checks? How does the audit proceed step by step? What exactly do auditors examine? What important information is contained in the reports compiled based on the audit results?

What Is a Business Legal Audit?

This term refers to a structured analysis of the legal status of an organization, resulting in determining the level of compliance of activities and documentation with legislative criteria, norms, and corporate standards. Legal aspects and risks affecting the organization currently and potentially in the future are considered during such an examination.

Over what period is the audit conducted? The check can be conducted from the moment of the state registration of the entity (company or nonprofit organization) or over a certain clearly defined period, for example, from the start of cooperation with a particular contractor.

Who is the audit conducted for? It can be a single organization or a multi-level business structure (such as a group of companies or a holding). However, it could also be a division, branch, or representation of the company.

The Essence of Conducting a Company Legal Audit

The most valuable aspect of a business is awareness: awareness of the market trends, competitors, counterparts, and oneself. The more a company owner knows about their business, the more confident and agile they become. All opportunities can be maximized without missing out on lucrative deals, attracting investors, government contracts, etc.

Important! The essence of an audit lies in the involvement of external specialists who provide a fresh and unbiased perspective. Moreover, these specialists possess practical experience in identifying business vulnerabilities and legal weaknesses. Often, such aspects cannot be discerned from within. Human nature tends to overlook its own mistakes even with a strong desire to notice them. Therefore, a diligently working legal department sometimes proves powerless in uncovering hidden threats and risks.

Problems with legal compliance within an organization are identified at the earliest stage through auditing, when they can still be rectified without consequences such as sanctions from regulatory bodies, lawsuits from counterparts, or company employees.

The Role of Legal Audit in Business Support

We are talking about a powerful tool that allows you to a) determine your current legal position and b) create a response algorithm to risks and threats in the future. In particular, a company’s legal audit confirms that the legal entity indeed owns the assets it is believed to own. Additionally, it opens up opportunities to utilize overlooked assets.

However, the main point is eliminating the element of surprise in case of problem discovery. For instance, an unfriendly competitor might uncover and publicize these issues. Instead, they are identified promptly when there is still time to address them without hindering the organization’s everyday operations.

Note! If, as a business owner, you are confident in the absence of problems in your organization, it is a grave oversight. Most likely, employees make mistakes with varying frequency and severity. Causes of staff mistakes include negligence, inattentiveness, or a single employee holding multiple positions. Consequences may range from market position loss to legal proceedings. For example, an employee may incorrectly receive pension benefits and, after several years, may file a lawsuit seeking justice.

As a result of a legal audit, businesses gain:

A clean reputation in the eyes of potential investors, partners, and banking institutions.
Cessation of error and oversight practices, and even potential criminal activities, if present.
Increased resilience and liquidity.

Areas of Legal Audit

During the audit, the most vulnerable areas prone to risks are analyzed, including organizational structure, contracts, legal proceedings and disputes, intellectual property (trademarks, patents, licenses), and human resources policies. These are just the areas commonly examined. For organizations with complex structures or specializations, the audit covers additional areas. Furthermore, the industry-specific nature of the organization’s operations and jurisdictional peculiarities must be considered.

When is Legal Due Diligence Needed?

Before selling a business or assets.
When facing the threat of hostile takeovers (legal shortcomings can serve as leverage).
Before entering into significant transactions for the company, starting cooperation with a partner or forming a joint venture.
When proving the impeccable image of the company to investors, representatives of banking institutions.
When facing the prospect of audits by tax authorities or other regulatory bodies.
Before investing, restructuring, reorganizing, merging, or acquiring.
Before entering the domestic and international stock markets.

Types of Legal Audit Services for Business

The specific set of services depends on the company’s business model, industry, and similar criteria. However, it is mandatory to examine the founding documents (identifying problematic provisions in the charter), study contract archives, and financial reports. Since legal audit services for businesses are provided by external specialists, such audits provide a good opportunity for the company owner or manager to assess the effectiveness of their own legal department.

Let’s take a closer look at the most important types of legal audit services!

Assessment of Legal Aspects of Contractual Activities

Contracts form the foundation of a company’s business operations. However, alongside the potential for significant revenue from each contract, there may also be numerous risks, threats, and hidden conditions. During the audit of contractual activities, the auditor’s task is to review both signed agreements and drafts.

Firstly, contracts’ legitimacy and compliance with current legislation are evaluated. Secondly, a clear distinction is made between the company’s obligations and the obligations of counterparties.

The results of this audit direction may reveal risks such as:

Non-fulfillment of obligations by counterparts.
Imposition of sanctions by tax authorities.
Counterparties lodging claims and filing lawsuits.

FYI! In their report, the auditor provides recommendations for rectifying mistakes and improving contractual provisions. If necessary, methods are developed to ensure the fulfillment of contractual obligations.

Analysis of Legal Aspects of Personnel Management

Employees is a company’s most valuable resource. But managing people is no less risky than managing contracts. During the audit, the following are studied: 1) hiring and firing practices; 2) employment contracts; 3) compliance of HR documentation with current legislation and corporate standards; 4) practices of signing non-disclosure agreements, and so on.

Such an audit provides the opportunity to effectively prepare for inspections by regulatory bodies, particularly the State Labor Inspectorate. It is also a means of preventing individual and collective labor disputes. If necessary, templates for employment contracts, job descriptions, and staffing schedules are developed or improved for future use. In addition, recommendations for maintaining and storing HR documentation registers are provided.

Audit of Branches and Representative Offices

The question of whether to conduct a legal audit of a particular isolated unit of an enterprise should be based on criteria such as complaints about the operation of this branch/representative office, business volume, and the further development prospects of this entity. In some companies, regular inspections of branches are part of corporate policy norms.

FYI! As with a company, the inspection of a branch can cover either the entire period of its activities, from the moment of state registration of this unit, or a specific period.

Legal Audit in the Context of Transactions

Large transactions invariably require preliminary legal audits, which are aimed at analyzing compliance with legislation and carefully examining the conditions, stages of implementation, rights, and obligations of the parties. Primarily, this concerns transactions involving the sale/purchase of businesses or assets. If the subject of the transaction is property, the payment and transfer processes are analyzed to minimize risks and prevent future disputes.

Based on the audit results, recommendations are developed:

for pre-sale preparation;
to protect the interests of the company/its owners;
on the transaction implementation scheme;
to ensure non-disclosure and confidentiality guarantees;
for obtaining guarantees of the transaction’s validity recognition.

Stages of Legal Audit

The procedure for conducting the audit roughly looks as follows:

Stage 1. Setting tasks, coordination with the client.

Initially, the client formulates the task in writing. The client discusses the task with Lawrange AA specialists, jointly identifying the problems, and assessing d the level of complexity of the upcoming work. Consequently, a work plan, approximate cost, and deadlines for completion are determined.

FYI! The scope of the audit will depend on your industry, past legal issues, and the time elapsed since your last legal audit. The audit plan serves as a foundation that helps understand what to expect from the audit team.

Stage 2. Signing the audit execution contract.

A non-disclosure agreement for confidential information is also signed along with the main contract.

Stage 3. Examination of documents, business processes of the enterprise.

A whole team of specialists usually works on fulfilling the tasks, each in their own area. We systemize and study the obtained information.

FYI! During the audit, the audit team may send questionnaires and requests for information to specific departments and individuals specified in the plan who may possess specific relevant knowledge or have access to key documents. The audit team may also conduct interviews with some organization employees.

Stage 4. Providing the client with the conclusion.

The results of the work are transmitted to the client in the form of a written conclusion, which contains detailed recommendations for eliminating identified shortcomings. Additionally, a corresponding certificate of completion of work is signed with the client.

Checking the Legal Status of the Legal Entity

It is necessary to check the legal foundation on which the business is built. In particular, the following aspects are analyzed:

Legitimacy of the company management scheme.
Grounds for ownership of shares/stakes.
Appointment/election and scope of authority of management bodies.
Correct formation of authorized capital.
Existence/absence of the risk of challenging the company’s transactions with counterparts.
Compliance with securities and stock market legislation, antimonopoly standards, etc.
Compliance with requirements for combating money laundering obtained illegally.

Important! This section of the audit thoroughly examines founding and permitting documentation, including subsidiaries if any were established. It is essential to clearly define the legal entity’s capacity to further develop and conduct business activities unhindered.

Documentary Analysis

The following documents are checked:

Corporate/ founding documents.
Permitting (licenses, patents, certificates, etc.).
Personnel.
Contracts with counterparts and other documentation related to business activities.
Documents for real estate and other assets.

Evaluation of Property Rights

It is crucial to answer the question: Does the company legally own all movable and immovable property? The audit examines the history of property ownership transfer and the tax history of real estate objects, land plots, machinery, equipment, etc.

If any gaps or risks are identified, recommendations are developed for their elimination. For example, if the organization lacks a system for tracking lease agreement expiration dates, relevant dates may be missed, leading to problems. In such a case, the lawyer-auditors’ recommendation would involve developing the mentioned system.

Analysis of Asset Rights

Assets refer to resources with the potential to generate economic benefit. These include capital, real estate, equipment, transportation, and intellectual property objects—so-called intangible assets. They all are reflected in the company’s balance sheet.

FYI! The role of intangible assets is increasing in modern business. These include copyrights, patents, licenses, trademarks, and goodwill (business reputation). It is crucial for a company to have documents confirming the right to dispose of these assets.

During the audit, documents transferring rights to assets, whether ownership, lease, or usage rights, are analyzed. If temporary transfer is involved, it is clarified whether the term has expired and whether an extension of the relevant document is required.

Compliance with Environmental Standards

For industrial enterprises, the issue of documenting an environmental control system is extremely relevant. It concerns waste management (especially hazardous waste), greenhouse gas emissions, and the use of natural resources. How well are these issues documented? Are environmental legislative standards complied with? Auditors seek and find answers to these questions.

Presentation of Evaluation Results

The format for presenting results is agreed upon in advance. Generally, the audit team prepares a report that 1) highlights errors, inaccuracies, and legal discrepancies in the company’s documents; 2) explains the seriousness of these shortcomings, potential consequences, and sanctions if not addressed; and 3) provides recommendations for optimal ways to rectify the shortcomings. The main goal is to prevent harm to the company or, at the very least, mitigate negative consequences.

FYI! In some cases, Lawrange AA specialists are ready to continue working with the client directly to implement the recommendations outlined in the report, including:

Developing missing documents, acts, contract drafts, internal policies, and rules.
Supporting the implementation of legal risk management at the enterprise.
Proposing schemes for buying and selling assets.
Establishing necessary interaction with regulatory authorities.
Conducting pre-trial and litigation work.

Evaluation Aspects During Legal Audit

During the audit, the company’s assets and financial information—such as funding sources for the business, obligations to counterparts and tax authorities, accounts payable and accounts receivable, disputes, and lawsuits, if any—are scrutinized. Minutes of general meetings of shareholders and board meetings, tax reporting, contracts, and so on are among the documents examined with particular scrutiny.

Methods of Acquiring Businesses and Assets

Reminder: There are several ways to acquire a business:

Asset deal – by purchasing assets, all fixed and current assets are acquired based on purchase and sale agreements, followed by renegotiating contracts with suppliers and customers, and so on;
By acquiring the enterprise as a whole property complex;
Share deal – by purchasing a controlling stake in a joint-stock company or shares in a limited liability company.

In any case, it is important to properly and legally formalize the transaction and all related documents. Otherwise, the previous owner of the business (and not only them) may be tempted to initiate a dispute, resulting in losses.

Optimization of Corporate Governance and Structure

Effective company management is based on balancing the interests of many stakeholders: founders/shareholders, management, customers, investors, suppliers, government agencies, and so on. Legal audit of the enterprise, particularly corporate compliance, helps achieve this balance.

As a result of the audit, gaps and “weak spots” in areas such as the protection of participants’/shareholders’ rights, management accountability, and compliance of corporate documentation with legal norms are addressed. Recommendations are developed for the optimal management structure, both for an individual company and for a group of companies/holding. Their implementation directly affects the profitability of the business.

Improving Business Processes

Understanding that a particular business process needs improvement is quite challenging. To do this, it is necessary to conduct an analysis of several criteria and identify a range of signs. For example:

The company misses deadlines for service delivery, or the quality of the product does not meet requirements.
Some procedures seem excessively complex.
Employees do not fully carry out their duties or do so with delays.
The organization lags behind competitors in its business performance.
The company’s reputation/brand in the market has deteriorated.

Among the solutions to the problems identified during the audit are the development of new job descriptions and the implementation of a system to monitor their execution, as well as the introduction of a reporting system for business processes by departments, divisions, directions, etc.

Required Documents for Legal Audit

Documentation is provided to our lawyers in the form of copies, including:

Registration/incorporation documents.
Licenses, permits, certificates.
Contracts with major suppliers and other counterparts.
Documents for real estate and land, movable property, confirming ownership or lease rights.
Documents for intellectual property objects.
Personnel documents – employment contracts, orders, job descriptions, confidentiality agreements.
Checklists for various procedures, for example – for actions of employees in the event of inspections by regulatory authorities.
Documents for legal proceedings, including those in which the company was involved previously.
Document packages from branches and representative offices, if any.

Cost of Business Legal Audit

The cost of legal audit services is determined individually based on criteria such as the complexity of the business structure, the objectives of the audit, and the period for which the evaluation of documents and legally significant events is conducted.

The basic conclusion based on the audit results must include:

Conclusions on the analysis of internal documentation and company contracts.
Results of asset rights verification.
Description of identified problems, vulnerabilities, and risks for the business.
Recommendations for addressing shortcomings.

Why Choose Lawrange

Lawrange Attorneys Association is a company with over a decade of experience in providing legal support for businesses, including international ones. Our clients include complex multi-level business structures operating in different tax regimes. Our team has also accumulated experience in legally supporting high-risk business directions.

Important! Legal audit services from Lawrange are aimed at strengthening the legal foundation of the enterprise. Each of our lawyers strives to ensure that business owners can fully focus on implementing their core commercial objectives without being distracted by interactions with regulatory authorities, lawsuits, or disputes with counterparts.

Conclusions

From time to time, any business needs a fresh, unbiased perspective. If it’s a large business, the need increases manifold. Even a well-coordinated and efficient legal department within a company cannot notice all mistakes and potential risks from within. The lawyers themselves draft many documents, and it’s human nature not to notice one’s own mistakes.

Our team recommends conducting a legal audit regularly, including an examination of corporate documents, contracts, and personnel records. Special attention should be paid to analyzing disputes and legal proceedings currently or previously involving the company.

FAQ

How does the auditor assess contractual obligations and related risks for the company?

Contractual obligations carry the risk of creating accounts payable and receivable. At some point, the accumulation of such debts can sink a business. Among the main tasks of the audit is to assess the debt situation and determine its criticality for the enterprise. Recommendations are then provided for its elimination.

How is the assessment of potential tax risks and liabilities of the company conducted?

Tax risks include a) risks of sanctions by tax authorities (tax surcharge, fines, penalties) due to non-compliance with tax legislation; b) risks of potential profit loss due to failure to use tax benefits, preferences, or incorrect selection of the tax regime. A business legal audit involves evaluating the risks of both groups mentioned and preparing recommendations for their elimination.

How does the lawyer assess the company’s compliance with applicable laws and regulations?

To understand how well the company’s activities comply with the law, documentation, business processes, history of disputes with partners and clients, and legal proceedings are analyzed. If necessary, various types of surveys and questionnaires are conducted.

ORDER A LEGAL AUDIT