Investing in a startup: How I make the decision

Investing in a startup: How I make the decision

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It seems that we read a story about some new, exciting startup every single day. And many of those entities that shape the way we live our lives (Amazon, Uber, Facebook) started out in garages, dorm rooms, or studio apartments as dreams. And for the dream to become reality, sometimes all it takes is someone believing in you. I have had people believe in me, so now I want to pay that forward. And I do so by giving brilliant entrepreneurs the funding they need to make those dreams come true. However, this can be a gruesome process.

As an investor, I will, at any given time, receive multiple funding requests, far more than the number of businesses that I realistically can (and want to) get involved with. It’s a great position to be in when you can pick and choose from a myriad of exciting startups, but it does also entail some work on my part. Before I decide to dive in (and back that dive with a significant amount of cash), here are some steps I take to screen my potential new partners.

1. The opportunity assessment – addressing these four points:

  1. The idea – What is its unique selling point (the famous “USP” you will have undoubtedly heard about before)? And what are the larger market/industry/social issues the business addresses and solves? Is it scalable or, on the contrary, does it target a finite market? A brilliant, new idea, filling an empty space in an industry has far greater potential to be funded than one that is replicating older ideas. But I won’t discount the latter if their approach is novel and the market can take more players.
  2. Team experience – the entrepreneur’s/team’s track record – The background and knowledge that they have or can acquire in the chosen business sector. If someone is just entering a new market, I want to see what their approach is for understanding it and how they go about understanding the subtleties that we find in every single industry. You don’t have to know everything, but I do want to see that you’re striving to learn.
  3. Alignment with our goals – How investing in the business factors into our greater and overall development strategy. While I would love to always venture into new sectors, I have to consider my company’s greater goals before I get too excited about an idea. But I have been known to try new things now and again, so do send your pitch over. I’ll have a look.
  4. Timeline for the Return of Investment – While everyone knows that a startup will take time to become profitable, I do want to see them laying out a realistic timeline for when that may happen. However much one likes supporting entrepreneurship, we are all in business to make money.

2. SWOT Analysis

The famous chapter in every project management or leadership book. When looking at the “Strengths, Weaknesses, Opportunities, and Threats” facing a business, you can get a snapshot of how it fits within current and future developments in its market.

3. Financial Projections

This can be a tough one, especially in the beginning, when they are not really making money, but I want to see how they approach their projections and how realistic they are about them. Here, I look at the following things:

  • DCF (Discounted Cash Flows): Calculating a projected future cash flow based on the current one. Obviously, this only works if a business already has some money coming in.
  • Multiples: These are used to calculate a company’s valuation and they are usually applied to EBITDA. In the case of a startup that has just launched, it will be done based on those used by similar companies that already exist in the market. If there aren’t such companies, then it will be an exercise in imagination based on business skills to value the new company.
  • Yield: The return, as a percentage, that an investor can receive on their investment after a certain period. Another indicator to consider here is the Value at Risk, which quantifies the investment’s risk level.
  • TAM (Total Available Market): Essentially, the total potential audience for the company’s products. The bigger, the better (but an investor will also understand that a niche business will have a different audience to a mass-market one)

4. Due Diligence

Here is where I get to know the business up, close, and personal, through a series of financial and legal (and HR) audits. What this step usually does it verify the information and conclusions drawn at earlier stages, as well as flag any other problems we were unable to see before.

5. The gut feeling

This is the last step before “putting a ring on it”. After analysing all the available data, I make a decision based on my experience and my general feeling about the business.

While each investor may have their own set of rules, these guidelines can help you perk up your pitch when getting ready to approach someone. It can also help you address some tough questions about your own idea and plans, and allow you to adjust in advance before you are in the room with someone that can make the difference between your company become the next unicorn or it dying in the massive bin of “never was” ideas. And by putting yourself through the wringer first, you will be that much more prepared for the third degree you are likely to get from pitching. Trust me, those questions will (and should) be hard!


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