What is vendor due diligence?
Vendor due diligence (VDD) is the process of evaluating third-party service providers to ensure they meet an organization’s regulatory, security, operational, and contractual requirements — before onboarding and throughout the vendor relationship.
Organizations perform vendor due diligence to assess:
- Financial stability and business continuity
- Cybersecurity and data protection practices
- Compliance with regulations (e.g., SEC, FINRA, GDPR, HIPAA)
- Operational capacity and performance history
- Risk mitigation and contractual safeguards
Regulatory foundation (depending on sector and region) includes:
- FINRA Regulatory Notice 21-29 (vendor supervision)
- SEC guidance on outsourcing and recordkeeping
- GDPR, HIPAA, and industry-specific compliance rules
Why vendor due diligence matters
Effective vendor oversight helps organizations:
- Reduce operational, compliance, and reputational risk
- Ensure third-party adherence to laws and contractual obligations
- Protect sensitive data and prevent breaches
- Maintain audit readiness with documented oversight
- Prevent business disruption from vendor failure or non-compliance
Regulatory and compliance framework
SEC, FINRA, and industry rules
- Regulators expect strong third-party supervision and governance
- FINRA Rules 3110 and 3120: supervision and written supervisory procedures (WSPs)
- SEC: oversight of systems integrity, data protection, and operational risk
- Additional requirements for sectors like healthcare, telecom, and financial markets
Vendor assessment and risk management
- Standardized questionnaires and risk scoring
- Security audits and penetration testing
- Financial due diligence and viability checks
- SLAs, contingency plans, and exit strategies built into contracts
Ongoing monitoring and oversight
- Periodic vendor audits and performance reviews
- Alignment with evolving regulatory expectations
- Clear escalation, remediation, and documentation procedures
Vendor due diligence across other sectors
Vendor oversight impacts multiple industries:
- Healthcare: HIPAA compliance for cloud and Electronic Medical Records (EMR) providers
- Financial Services: Trade surveillance, communications archiving, fintech integrations
- Government: Secure cloud hosting and IT outsourcing
Common challenges and risks
Organizations often struggle with:
- Large and growing vendor ecosystems
- Inconsistent assessment and monitoring processes
- Cybersecurity vulnerabilities and privacy risks
- Regulatory fines from insufficient oversight
- Poor contract structure and unclear accountability
Best practices for vendor due diligence
To build a strong vendor risk program:
- Establish centralized vendor governance policies
- Conduct thorough pre-engagement evaluations
- Review vendor cybersecurity, stability, and compliance posture
- Continuously monitor performance and regulatory alignment
- Maintain cross-functional coordination (compliance, IT, legal, procurement)
Quick compliance checklist
- How should vendors be risk-tiered and oversight tailored?
- How can organizations confirm regulatory, privacy, and security compliance?
- What SLAs, audits, and incident reporting should be required?
- How should full records of reviews and approvals be maintained?
How Smarsh supports vendor due diligence
Smarsh solutions help organizations:
- Maintain auditable supervision over vendor-managed systems
- Support SEC and FINRA requirements for vendor oversight
- Capture and archive communications for monitoring and reporting
- Provide WORM-compliant storage and secure cloud environments
- Enable automated audit trails and risk review workflows