When investing in private market assets such as venture, it is extremely important to diligence every single opportunity and to never take any shortcuts. It can often be much more difficult than researching public market assets, as the data is less accessible and less transparent. While this is not an exhaustive list, considering these factors is a good start when researching a company:
Founder(s)/Management
There’s a reason that founders of highly successful companies become icons - Steve Jobs, Jeff Bezos, Elon Musk - because a lot of what separates successful startups from the rest is the strength of its founders and team at inception. Particularly when evaluating early-stage startups, the track record of the team is the biggest factor that investors and VC funds look at. Have members of the executive team started a successful business before? Do they have experience in a relevant industry or for an established company within the sector? What is their educational background? What positions have they held before? Have they held leadership or executive positions before? There should be some indication that they have what it takes to shepherd a startup from inception to exit.
Other Investors
Who else is investing, or has invested in prior funding rounds? Look at the pedigree and success rate of VC funds that you are investing alongside. Are there high profile, well-known individual investors involved? While not a definitive indicator, you can feel a lot more confident if surrounded by seasoned investors and VC funds as opposed to just other retail investors. Of course, VC funds also miss on companies that eventually make it big - famously, the alarm company Ring was turned down by everyone on Shark Tank except one investor (who made a lowball offer) and later was sold to Amazon for $1 billion. If you have conviction that a particular startup has an incredible idea and a solid team, it may not matter who else is investing.
Product/Market Fit
Even with an impressive founding team, it won’t matter if the product or service offered does not meet an addressable market need. Is it for a niche market or could it be filling a more universal need? Is the service or product unique and proprietary or is it something that is easily replicable? Are there direct competitors, or is this company the first to market? Does their business model make sense and does it scale?
It is also important to research the overall industry or sector the company is operating in. Is it a growing industry or is it stagnant? How crowded is the overall market? A product or service might be unique but it may be difficult to stand out and gain traction. Investing in certain industries is inherently riskier than others but some offer more upside than others. It is always advisable to invest in sectors that you understand or have personal experience with, because it will be much easier to figure out whether a startup has the potential to be successful. If there is a product or service that you may use or are otherwise personally familiar with, that can also be a plus.
Financials/Valuation
When evaluating public companies, financials and valuations are of utmost importance, but they take a back seat for startups, particularly in early stages, when there just might not be any actual financial data. This makes it hard to rely on financial information as a basis for evaluating business quality in the early-stage, though looking at a forecast can give you insight into how the team is thinking and planning. Any financial projections provided by management should be treated with a high degree of skepticism. Every company is optimistic, both about the size and growth rate of the addressable market and the amount of market share they can capture once established. Still, it is important to determine what is reasonable to see what the potential best case scenarios are.
Since the valuations companies raise money off of are generally coming from these projections, or at best, early revenue numbers, it is no better than a guessing game most of the time. Indeed, early-stage valuations are more an exercise in measuring investor demand to accommodate a capital raise, as opposed to a P/E (price to earnings) calculation based on current or future revenues. Many startups will overestimate their valuations, particularly in early stages where revenue and income numbers are nonexistent. They often are aligned with valuations achieved by other startups in their industry that have shown success and may not be a fair comparison. A good way to determine whether a company’s valuation is in the right ballpark is to see what other, similar companies have raised rounds at in the past. For later stage companies, see what valuations they have raised earlier rounds at and whether the growth in valuation is justified by revenue numbers since then. Because of the imprecise nature of the numbers you are generally dealing with, this type of research can only get you so far.
Conclusion
Because of the unique nature of the asset class, it can take years of experience to feel comfortable making informed decisions when investing in venture. Vincent's team of experts source and diligence hundreds of potential deals for every one we invest in to ensure that we pick only the best companies to invest in. Even then, keep in mind that a large proportion of venture-backed companies fail or lose money, even those that are considered "late-stage".
