Acing Due Diligence: Selecting Startups Like a Pro

Antonis Argyros is the CEO of Vesquad, in this guest post he shares advice about getting Due Diligence right – from setting up processes and using relevant tools, to getting to know the founders. Vesquad support investors by enabling them to provide hands-on support to their portfolio companies through an integrated approach.

As an angel investor, handpicking promising startups that actually do have the potential to succeed is one of the most challenging tasks you’ll have to undertake. Europe in 2021 had one of the best – if not the best- years in terms of startups’ revenue, which possibly exceeded $100 billion in total venture capital investment, according to a report created by Atomico for the investment firm Cambridge Associates. But how can you ensure that you’ll secure a piece of that revenue?

By creating a transparent and objective process of evaluating which ideas and early-stage startups are worth investing in, you’ll be able to identify the most profitable opportunities and increase your revenue through successful exits. Building and implementing such a process allows you to identify a startup’s weak points early on to evaluate which of these can be improved through operational support or which could lead to failure.

For a VC firm with multiple investors, one profitable exit for every ten investments might be an acceptable ratio. For an angel investor, however, a thorough due diligence process is essential in decreasing investment risk as much as possible. Bonus points, providing constructive feedback to the founders of startups that were not selected for funding, gives them the opportunity to improve any weak points and emerge again as a candidate startup with more potential in the future.

However, handling an entire portfolio of companies and at the same time evaluating new investments can be very time-consuming. To make things easier, we’ve gathered the most important steps that will help you during the due diligence process, and the things that you should look out for before investing.

Build a structured process

Before moving on to financials, you probably already have certain basic criteria that a candidate startup needs to meet before investing in it, such as a specific area of focus or a specific market both in terms of technology and geography. If not, make that your number one priority.

Assuming that you have, in order to better examine if those criteria are met, you’ll need to build a structured and transparent process that will ensure there will be a careful evaluation of all the desired parameters before a startup becomes part of your portfolio. The best way to do that is by dividing your process into stages and identifying what you need to examine during each stage. This will help you to quickly eliminate any startups that you don’t think would be a good addition to your portfolio and focus on the ones that seem fit.

Get to know the founding team

We’ll start with the basics, as this is something that is often overlooked, usually due to everyone’s hectic daily schedule or due to the fact that we tend to focus on business and forget about the people. Dedicating some time to grasp a founder’s vision can reveal a lot about the startup they’re trying to build. What their background is, what skills they have and what value they can bring during later stages, what inspired them, and what drives them are all questions that will help you establish a relationship with the people you’ll possibly be in contact with until that much-coveted exit.

Enrich your inventory with the right tools

To gather all the necessary information that will guide you in the right direction and help you conduct the due diligence in the most effective way, you’ll need a series of different tools for each stage of your process. You could start with simple tools, such as an extended questionnaire with targeted questions that will give you an idea about the basics, such as the vision, the value proposition, the market size, and the KPIs. Keep in mind that the entire process should be guided by a positive attitude since the goal is to find the ideal fit for both the investor and the startup so that there is a win-win situation.

At Vesquad, we’ve developed a series of tools exactly for this purpose, that can help you automate the due diligence process by going past the basics and defining in precision the maturity level of each venture.

Adopt the best negotiation tactic for your personality

When negotiating financing, it is important to aim for a result that will be fair for both sides, keeping everyone content, and that the relationship between everyone involved remains intact. The composition of a legal term sheet that will be beneficial to you and at the same time attractive to the startup’s founders, can be achieved through the right negotiation tactic that matches your personality. These tactics have analogs and can be useful or ineffective in reaching a negotiated agreement. It’s crucial to understand how different styles complement one other, how some conflict, and how some have inherent advantages.

Being prepared in advance of the meeting and having a specific plan is crucial. This will give you the opportunity to be prepared about which terms you will be willing to accept and when to abandon the deal, which if it is left to be decided during the meeting can lead to mistakes and ruin the relationship with the founding team. This is why building a relationship beforehand, as mentioned earlier, is crucial. Knowing the people who will attend the meeting could reveal their strengths, weaknesses, motivators, and insecurities, which can give you valuable insight and ensure a better deal.

Venture Building Framework

After the deal has been sealed, what’s next?

We said that selecting the right startups that will lead to a successful exit is one of the many challenges an investor will face. The next big challenge is everything that takes place during the interval right after the investment is made and during the startup’s exit. Maintaining a close relationship with the founding team is equally important even after the investment has been made. There is more and more data showing that founders expect more than money from all their funding sources. So how can you stand out and satisfy that ever-increasing need?

By offering an added value that goes beyond capital itself and focuses on the operational needs startups and their founding teams have in order to grow. This is exactly the value we offer both to investors and entrepreneurs at Vesquad. We can help you adopt an operational model and provide hands-on support to your portfolio companies in order to accelerate their growth and minimize failure rates. From sourcing new ventures to supporting your existing ones, we’ll connect the dots for you so that you can focus on the cool stuff.

Digesting 2020

In many ways there were two sides to 2020. On the one-side, there has been a monumental personal loss to so many families, we’ve all been taking the strain mentally due to our daily lives being uprooted, even if we have yet to admit it to ourselves, and many good businesses have been torn apart by COVID. 

But though searching for positives might seem futile, there have been some, and they are noteworthy.

Change = business opportunity

When people have a problem that needs solving, that is often when there is an opportunity for a new business to emerge. 

When life is stable, people incur major problems relatively infrequently; most people’s problems have been solved, and there are less opportunities for businesses to be created.

When COVID happened, simultaneously putting the population at risk, disrupting the supply chain and dampening demand for many products and services, suddenly there were a lot of problems that needed solving.

For prospective entrepreneurs this is actually a good thing – people needed to:

  1. Keep safe whilst out and about during Covid
  2. Communicate effectively with their team whilst WFH
  3. Make childcare work when nurseries and schools were closed.

These new problems and others are creating opportunities for the businesses of tomorrow to emerge. 

Talent 

This might sounds counterintuitive, but in the good times it’s hard to create a great business. Why? A lot of the top talent gets sucked into corporates, and consumers are less inclined to change their behaviour, because, well, they don’t need to. 

Economic shocks mix things up – Thomas Vosper was made redundant at the beginning of the COVID crisis, he’s recently completed an investment round for an innovative new retail concept that he since started – you can read about it in his recent blog

Efficiency

And whilst COVID undoubtedly has caused huge disruptions, some companies in some industries were quickly able to shift into the ‘new normal’. 

Working from home was something that was alway going to happen, probably in a decade or so. When COVID happened, almost everyone had to do it, straight away. 

But this had a few benefits that weren’t necessarily foreseen, people by way of being forced to do it – actually became good at using video calls. 

Meetings where people would have travelled across town and back, and set up 1 hour meeting to justify the time, suddenly became more efficient half hour Zoom calls. A huge time and efficiency saving. 

Investor Outlook 

When the pandemic first hit, there were signs that investors were being more cautious – some had taken hits on their portfolio and dropped back on the number of the investments that they made, and pushed harder on valuations.

However, investors have adjusted to the new normal, for each in person meeting they have given up, there are many more Zoom and virtual meeting that they are taking. 

Lockdown enforced many people to become savers, as there were so few opportunities to go out and spend money.  Investment activity has rapidly obtained new momentum.

The upshot is that we are fortunate to just had our record ever month at Angel Investment Network, and feel well placed and optimistic to enter 2021, despite the continued uncertainty. We’re mindful that it remains a challenging time for many.

Wishing you a happy festive season, even if it’s not what you hoped for, we hope that you at least get the quality downtime that you deserve. 

See you in 2021.