Checklist for M&A Due Diligence: Cybersecurity Edition
10-Steps to Assess Cybersecurity in Mergers and Acquisition Deals
In a mergers and acquisitions (M&A) deal, evaluating the cybersecurity posture of the target company has become a critical step to prevent costly risks and liabilities. Cybersecurity is no longer just an IT concern but a central issue for overall business risk management. A robust cybersecurity evaluation can protect both parties from potential threats, operational disruptions, and reputational damage post-acquisition.
This checklist aims to guide organizations through the essential steps needed to evaluate the cybersecurity posture of a target organization in an M&A transaction, based on industry best practices and considerations.
1) Preliminary Cybersecurity Due Diligence
Start with an initial assessment to understand the baseline level of the target company's cybersecurity measures. This involves gathering all relevant cybersecurity documentation, including policies, procedures, risk management frameworks, and certifications. By doing this, you get a sense of whether the organization has a security-first mindset and whether its basic controls are in place.
Key documents to request include:
- Cybersecurity policies and incident response plans
- IT infrastructure and architecture overview
- Risk assessments and third-party audit reports
- Certifications such as ISO 27001 or SOC 2 compliance
Once this documentation is reviewed, a preliminary risk rating can be assigned based on the general strength of the company’s cybersecurity program.
2) Regulatory Compliance and Legal Obligations
Understanding the regulatory environment that governs the target company’s operations is vital. Different industries and regions are subject to different cybersecurity regulations, such as GDPR (General Data Protection Regulation) in Europe, HIPAA (Health Insurance Portability and Accountability Act) in the United States, and others. Failing to comply with these regulations can lead to significant financial penalties and legal challenges after the deal closes.
During due diligence, ensure that the company complies with all applicable cybersecurity laws and industry-specific standards. This includes:
- Reviewing data protection policies for compliance with GDPR, CCPA, or other regional data protection laws
- Checking for adherence to industry-specific regulations, such as those in finance (GLBA) or healthcare (HIPAA)
- Ensuring proper breach notification procedures are in place
Ask for evidence of past regulatory audits and remediation efforts if non-compliance was found.
3) Third-Party Risk Management
Third-party vendors and partners often represent a weak link in cybersecurity defenses. If the target organization relies heavily on outsourcing or uses multiple third-party services, the due diligence process must include a thorough review of its third-party risk management practices.
Consider the following:
- Request a list of all third-party vendors and their cybersecurity policies
- Determine if the target organization regularly audits or assesses its vendors
- Review contracts and agreements for any liability clauses related to data breaches
Ensure that the company has robust vendor management policies in place, as third-party risks could quickly escalate post-acquisition if overlooked.
4) Incident Response and Breach History
Understanding how the target organization responds to security incidents can be a significant predictor of its overall cybersecurity posture. In this step, assess the company's incident response plan and review any past security incidents or breaches.
Key points to investigate:
- Request records of past breaches or security incidents
- Assess how quickly and effectively the company responds to incidents
- Verify whether any past incidents led to regulatory fines, lawsuits, or public disclosure
If the company has a history of major breaches, it’s essential to understand whether these vulnerabilities have been resolved, and if not, what risks might be inherited by the acquiring organization.
5) Security of Core IT Infrastructure and Architecture
A fundamental part of cybersecurity due diligence is analyzing the architecture of the target organization’s IT infrastructure. This includes an evaluation of both hardware and software systems to ensure they are secure, up-to-date, and not easily exploitable by hackers.
Critical components to assess include:
- Network architecture and segmentation practices
- Access control measures, such as multi-factor authentication (MFA) and least-privilege principles
- Cloud infrastructure, including the security of cloud service providers used
- Patch management practices and vulnerabilities in operating systems, applications, and other software
A well-structured, modern IT infrastructure with strong security features can be a green flag during the evaluation process, whereas outdated or poorly secured infrastructure can present a significant risk.
6) Data Governance and Asset Management
Data is one of the most valuable assets in any M&A deal, and its governance is critical. Data governance refers to the way data is collected, stored, managed, and shared within an organization. Poor data management practices can expose sensitive customer data or intellectual property to unnecessary risks.
As part of the due diligence process:
- Review the company's data classification and retention policies
- Ensure that sensitive data, such as personal identifiable information (PII) and intellectual property, is encrypted
- Evaluate how data flows across systems, both internally and externally
If data governance practices are weak or lacking, it could be a sign of potential security vulnerabilities down the line.
7) Employee Training and Insider Threat Mitigation
One of the most significant cybersecurity risks comes from within the organization. Employees can inadvertently or maliciously cause data breaches or other security incidents. As such, it's essential to evaluate the organization’s approach to cybersecurity training and how it mitigates insider threats.
Things to consider include:
- Reviewing the company's cybersecurity training programs for employees
- Verifying if phishing simulations or other practical exercises are conducted regularly
- Assessing whether the company has controls in place to detect and mitigate insider threats
A well-trained workforce that understands cybersecurity risks can act as a first line of defense against potential attacks.
8) Cyber Insurance Coverage
In today’s risk landscape, many organizations choose to take out cyber insurance policies to mitigate potential financial losses from breaches or other cybersecurity incidents. As part of the M&A process, it’s critical to review the target company’s cyber insurance policy.
Key factors to assess include:
- Reviewing the policy for coverage limits, exclusions, and deductibles
- Understanding what kinds of incidents the policy covers, such as data breaches, ransomware attacks, or legal costs
- Verifying whether the policy will carry over post-acquisition, or if new coverage will need to be purchased
Having sufficient cyber insurance can mitigate the financial risk of cyberattacks, but inadequate coverage can leave the acquiring company exposed to unexpected costs.
9) Post-Closing Cybersecurity Integration Plan
A common oversight in M&A deals is failing to plan for post-closing integration of cybersecurity systems. Once the deal is complete, both companies' IT and security systems will need to be integrated in a way that ensures continued security while minimizing disruptions.
The post-closing integration plan should include:
- Identifying which systems and tools need to be merged, and which can be retired
- Developing a timeline for integrating the cybersecurity teams and processes
- Conducting a gap analysis to identify areas where additional security measures may be needed
- Planning for an immediate post-acquisition security assessment
This integration plan is crucial to avoid security gaps that could be exploited during the transition period.
10) Ongoing Monitoring and Reporting
Cybersecurity is not a one-time concern in an M&A deal; it requires ongoing monitoring. After the acquisition is complete, regular cybersecurity audits and reporting should be conducted to ensure that both the acquiring company and the newly acquired business maintain strong defenses against emerging threats.
Steps to ensure ongoing monitoring include:
- Establishing regular cybersecurity audits and assessments
- Setting up key performance indicators (KPIs) to monitor the effectiveness of security measures
- Developing a reporting structure to keep executives and board members informed of cybersecurity risks
Maintaining transparency and vigilance in cybersecurity management post-acquisition will ensure that risks are continually assessed and mitigated.
Closing Thoughts
Evaluating the cybersecurity posture of an organization during an M&A transaction is no longer optional. With the increasing frequency and cost of data breaches, acquirers need to take proactive steps to assess and mitigate cybersecurity risks before closing a deal. Following this checklist can help ensure that the target company’s cybersecurity program is robust and that the acquiring organization is protected from unexpected liabilities and risks.