Written by: Alana Levin, Partner at Variant
Compiled by: Luffy, Foresight News
Just as VCs conduct due diligence on investment projects, founders should also conduct due diligence on potential investors.
The primary mission of VCs is to increase the chances of a company's success. VCs can achieve this in various ways, and identifying how each investor can effectively support their startup should be at the core of the founder's due diligence. If I were in the founder's position, I would filter VCs based on the following criteria.
First of all, can VCs really increase the chances of project success?
Do investors provide any value beyond pure funding?
I believe they can. Through communication with founders, here are some of the most frequently mentioned ways VCs can genuinely provide help.
Brand: Gaining support from 'first-tier' venture capital institutions typically elevates a company's brand, at least in the short term. This provides direct assistance in talent recruitment. The halo effect of the brand plays a smaller role when recruiting the initial 10 employees, but it becomes crucial for attracting talent as the company reaches Series A funding stage or later. Given that early hires significantly influence the company's trajectory and culture, founders ideally should draw these talents from their own networks.
A strong brand means that the institution or partner is well-known, respected, and seen as a key factor in project success. Success is the best brand.
Knowledge and insights: Do investors have experiences to draw from that can provide useful advice to entrepreneurs? Are they particularly skilled at identifying factors that impact the market or business?
This actually includes two points: first, the relevant experience that VCs may have gained from successful companies in their portfolios (or their own similar experiences as founders); second, their ability to provide clear insights into broader market dynamics and how these dynamics may impact the company in the next 6 to 12 months.
Network: Sometimes VCs can help founders (or heads of other functions) connect with the right people. The 'right people' may include other executives with relevant experience or potential clients. Founders still need to fight for business on their own; few clients are acquired solely due to the influence of a VC. However, investors can certainly help entrepreneurs at least open some doors they wish to enter.
Promotion channels: Some VCs have audiences, so becoming a 'KOL' is part of the value they offer. This is very apparent today: many VCs are trying to establish their own promotional channels through podcasts, newsletters, X accounts, etc. Sometimes, these channels can indeed be effective means to enhance the visibility and traction of new startups.
You've received an investment offer; what should you do next?
First of all, congratulations! Having the opportunity to choose from a range of competitive investment offers is both an achievement and a privilege. Take some time to enjoy the process.
You have likely already formed some gut judgments about whom you want to partner with. The due diligence process often reveals certain situations, such as the types of questions people ask, the insights they share throughout the process, their responsiveness in follow-ups, and whether there is a cultural fit, etc.
It's time to validate this intuition. Here is the process I would follow, in no particular order:
Conduct background checks on investors: These checks should cover successful companies in the VC's portfolio as well as those that are struggling or have already failed. It is important to understand how investors behave as partners in both successful and stressful situations. Ideally, these references are companies that have also worked with your potential investing partner.
Check for conflict risks: Does the institution have a history of investing in competing companies? More importantly, have they invested in any companies that could theoretically compete with yours?
Consider the partner's tenure at the institution: Usually, you are choosing both an institution and a personal partner. I encourage more founders to ask potential partners about their aspirations and future plans. A relevant thought experiment is to ask yourself: If this partner leaves tomorrow, would you still be interested in this institution?
Determine whether the institution matches the stage your company is in: whether a fund continues to invest in companies at the same stage as yours will affect the usefulness of its resources, the degree to which your company is prioritized in resource allocation, and the relevance of the advice investors can provide. A $1 billion fund providing a $5 million seed investment represents only 0.5% of its total allocation. Frankly, if a fund invests $50 million to $100 million in later-stage companies, it becomes more difficult for earlier-stage companies to gain attention and support from the institution internally.
Understand the institution's views on exits: This may sound a bit strange. However, in an era where IPOs are becoming increasingly rare, understanding investors' views on acquisitions or selling secondary equity can help you avoid many troubles down the road. Similarly, in the cryptocurrency space, knowing investors' views on token sales is a useful reference for token design and launch strategies.
Choosing partners is often a 'one-way street'. Selecting the right VC can never 'make' a company, but it can increase the chances of success and at least make the founder's life a bit easier. Spending a few extra days conducting due diligence on potential investors may yield long-term benefits.
