A data room is used by a company seeking debt or equity financing. Prior to making a binding offer, the investor or banker will usually want to see all contracts, title documents, tax returns, and other relevant documents. These may either be provided in a physical data room (i.e. a room filled with filing cabinets containing documents, which may be viewed by the investor and their advisers), or a virtual data room, which provides web-based access to the same information. Investors may then view the information from the comfort of their offices or homes, saving travel expenses as well. For larger data room exercises, the travel and accommodation costs for dozens of staff and advisers can be substantial. 

This article first discusses some of the positive arguments for using a virtual data room, followed by a critique of the disadvantages when compared to a physical data room. I conclude with some comments on which type of data room might be more appropriate in different circumstances.
 

Reasons for using a virtual data room

A physical data room ties up considerable physical space (e.g. at least a fair-sized board room), usually for several weeks, as each investor will need to have several days' access to a physical data room (and sometimes considerably more). Hence, access to a physical data room needs to be carefully coordinated and, in the interests of ensuring that various potential investors do not become aware of each others’ identity, every physical data room exercise must be fully terminated prior to commencing the process with the next investor. This considerably lengthens the amount of time required. Also, the process requires at least one full-time person – either a staff member of the company seeking financing or its advisor – to be present throughout the period during which the data room is open.

Because a virtual data room is online, it requires no physical space. Online investigations by different investors may therefore occur simultaneously. Furthermore, the company seeking financing does not need to tie up a staff member (or someone from its advisor) for many days or weeks in a physical data room. If one adds new documents to a physical room, one has to provide access again to all bidders; whereas in a virtual data room it is possible to add documents, simultaneously advantaging all bidders.

Another big advantage of a virtual data room is that most enabling software has a different password for each user, in order to preserve confidentiality. This also has the advantage of allowing the company to monitor which investors are expending the most effort on the data room. For example, if an investor has not spent much time in a virtual data room, it remains open as to how much reliance one should place on an offer coming from such an investor, or at least it should be easier to resist requests for subsequent access to the virtual data room if it is clear that they did not take sufficient advantage of their earlier access privileges.

.Disadvantages of a virtual data room

The big disadvantage of a virtual data room is that investors with access to the data room may walk off with sensitive information. While participants in a virtual data room typically sign a document in which they agree not to copy information from the data room, in practice this is very difficult to enforce. While the software may contain options to prevent printing or saving documents, it is almost impossible to verify that an investor with access to a virtual data room is not using screen save features, photographing the screen, or copying the content of the screen by hand. I am not aware of any provider of virtual data room software that provides a 100 percent guarantee that it is impossible to copy the contents of the data room.

Another disadvantage of a virtual data room is that it either assumes that documents are available electronically or it means considerable effort must be expended on scanning and organizing data.

Concluding comments

From the above analysis, it is evident that physical and virtual data rooms are appropriate in different circumstances, depending on confidentiality requirements, the level of trust among the parties, the availability of space and human resources, the availability of information electronically, etc. One option that I have found to be a workable compromise is to have a virtual data room for less confidential information, and a physical data room for the most confidential information.