By Jon Groussman, J.D.
Dec. 3, 2007 | The Deal.com

During a deal's due diligence period, private equity firms are consumed with evaluating the financials and management of the company, spending days poring over financial statements, income projections and production forecasts.

However, most acquirers overlook one additional assessment that can potentially cost — or save — enormous sums of money: a crime risk analysis.

This simple, affordable tool can help an acquiring company assess the potential for crime at the new business and take steps to minimize risk.

Consider the case of a group of investors who purchased a low-income housing complex several years ago. Their due diligence convinced them they could manage the property profitably. However, they neglected to assess adequately the crime risk involved.

Within months of their purchase, the investors were sued on three separate occasions for crimes that occurred on the premises. Security companies refused to assign guards to the property, deeming it too dangerous, and estimates on security upgrades ran upwards of $75,000. Ultimately, the investors unloaded the property — at a loss — the following year.

A crime risk analysis before the deal was closed would have given the investors a clear understanding of the true risk that crime posed in that community. By calculating the cost of crime and the price tag for necessary security improvements, the investors would have had leverage to negotiate a lower purchase price because of the crime downside at the site.

Crime risk analyses, which are relatively inexpensive, especially compared to the loss potential associated with not conducting one, do more than just calculate the risk of crime and the cost to minimize it. They also address hidden costs associated with crime, including business interruption, damage to reputation and decreased employee morale.

What is involved in a crime risk analysis, and how does an investor group go about conducting one?

Many investors request a claims history from the seller, mistakenly believing that it will provide adequate insight into the risks associated with the property. Unfortunately, they have no way of determining the accuracy of the report. Most insurance companies, for example, won't report an incident unless it results in a potential or existing lawsuit.

A crime risk analysis, conversely, is an in-depth report of past incidents along with predictive modeling that helps an investor ascertain the potential for crime and the steps they should take to minimize that risk. It begins with a complete understanding of the operating environment of an acquisition target. Investors should request a complete history of events at the site, including the amount and severity of criminal activity in the surrounding neighborhoods. A good crime risk assessment will benchmark the acquisition target against similar properties in the area, helping investors understand local business and security practices. Finally, an assessment includes conversations with local law enforcement officials.

For only several hundred dollars, an investor group can purchase a report from a crime forecasting company that examines the neighborhood of the acquisition target.

Companies seeking a more in-depth assessment often hire a specialist to visit the site and speak with local law enforcement officers and business operators to understand crime-related issues. The consultant will also interview the seller regarding their experiences in dealing with crime and conduct a review of the building and property to assess whether current countermeasures adequately address risk, or whether the new owner will incur expenses to comply with industry and local standards.

After completing a crime risk analysis, a business can then design a comprehensive security plan, which is an essential business practice, as organizations without such plans can be found negligent in a lawsuit. The days are long past when companies facing litigation can plead ignorance about crime risks.

Many industry observers believe that shareholders will soon begin pressuring CEOs to provide a better accounting of company losses associated with crime. Most large corporations would not consider opening a new location without conducting a complete crime risk assessment. Smart investors now have access to the same tools as part of their due diligence efforts.