If you’re new to venture capital, know that it will require more than just having the money to burn. In order to succeed, you need to put in the time to build your network, stay on the prowl for top opportunities, and bet on the right horse when you can.
Read on and learn how to pick a winner from the crowd.
Impact versus Activity – A Compromise
What is your goal for investing? Entrepreneur-turned-VC Mark Suster once suggested to startup hires, ask yourself: Is it time for you to earn or to learn? This is useful advice for investors, too.
If you want some quick payback, pick a company that you think will deliver the greatest financial impact, have the right team, can build right and fast. This is not to say that learning startups don’t make good investments, too; early stage ventures are especially fluid and will likely switch, from earning to learning and back, as they mature with time.
The key here is to find a venture that aligns closely with your own goals. Visualizing helps! Develop a cross-chart of impact (x-axis) and activity (y-axis), and then rank your choices accordingly. Once you have seen and weighed your options, choose the one that maximizes utility for you.
Assessment of Risk
Risk is obviously one of the controlling factors, not only early stage investing, but in investing in general. You can dive into riskier investments, if your portfolio is well-diversified. Higher risk, of course, brings higher returns.
Risk is not limited only to financials. When investing in early stage ventures, it can also refer to product-market fit, readiness to scale, taxation and regulation, and so on.
So, should your goal then be to avoid risk altogether? Not necessarily, for success does not equate to risk aversion. Instead, find the right investment fit:
- Is this the right kind of product or service today? How about 10 years from now?
- Does my portfolio allow for an investment this risky?
- Might regulatory issues arise once the product is rolled out in the market?
- Should I need to, will I be able to take a safe exit from this investment?
If you answered “yes” to all these questions, you are looking at a high-potential investment.
Developing the Right Models
Are you one of those funders who can reliably use gut instinct to pick investments? It’s a skill and discipline that comes with wisdom and years of experience in trial and error experimentation.
For less savvy investors, financial models are the next best thing. But which models do you need to find those elusive unicorn investments? Have these two key figures on hand:
Reduce uncertainty in your investment and run the numbers to generate two key figures:
- The probability of success of the startup. You can calculate this by taking a close look at your investing prospects. Is the venture timed right with current conditions? What milestones have they achieved? What is the response of the market so far?
- The profit/loss, if the startup succeeds/fails. Assess the trend in their financial performance vis-a-vis their long-term financial outlook.
Once you have these metrics, you can then reduce certain uncertainties in your investment.
Effectiveness of the Team
The startup’s concept might be extraordinary and their numbers may exceed your expectations, but in every case, it comes down to the people behind the venture.
Besides your working relationship or the combination of skill sets among the team, there is the high opportunity cost: Investing in one means that you cannot invest in another that may present a stronger proposition. So, look beyond the numbers and consider if the founders have what it takes to take the idea straight to the finish line.
While there is no fool-proof way to determine whether you’re placing your bet on the next Google or Facebook, this guide provides some useful guidelines on how to separate the wheat from chaff. Talk to us about finding a venture that’s the right fit for your investing strategy.