What VCs Look for in Startups

Starting a business is a daunting task, and convincing venture capitalists (VCs) to invest in your business can be even more challenging. VCs play a critical role in a startup’s success, providing not only funding, but also valuable expertise, mentorship, and connections to get a startup off the ground and grow it into a successful business. However, getting the attention and investment of VCs can be challenging during tough market conditions, such as the current scenario when there’s a lot of uncertainty in tech markets throughout the world. In this article, we will revisit some of key aspects that startups should keep in mind when trying to secure investment from VCs.

Questions that VCs are Trying to Answer…

VCs are looking for startups that have the potential to become the next unicorn, providing them with a return on investment of at least 10x. While predicting whether a startup will reach unicorn status is difficult, VCs try to answer two key questions that are more relevant in the short to midterm:

• Can the current round of funding sustain the startup for at least 18-24 months
• Can the startup raise the next round of funding within the next 9-12 months, depending on their growth trajectory

Both of these questions are what VCs try to answer when they build an investment memo – a document that VCs use to communicate with their investment committee about the investment opportunity. To build one, VCs appreciate clear and concise communication from founders as it helps them save time and get a better understanding of the business.

So How Can Founders Help VCs in Building their Investment Memos?

The key for startups to do so is to build trust with VCs by demonstrating a detailed understanding of their business and having the right team to execute their business plan. This, in turn, can help VCs feel more confident in investing in the startup.

So What does Detailed Understanding of the Business Mean?

Every industry is unique, and VCs may not have a deep understanding of every industry. Hence, startups need to provide valuable insights to VCs that can help them understand more about the industry. These insights can be categorized into the following factors.

• A Clear Market Opportunity: VCs want to invest in startups that are addressing a significant market opportunity. They want to see that there is a large and growing demand for the startup’s product or service.
• Traction: VCs want to invest in startups that have demonstrated some level of traction. This could be in the form of having a best-in-class user growth, revenue/ARR, payback, gross margin, or other metrics that show the startup is gaining momentum.
• A Solid Business Model: VCs want to invest in startups with a clear and sustainable business model. They want to see that the startup has a plan for generating revenue and making a profit.
• Competitive Advantage: Startups need to show that they have a competitive advantage over their peers that will help them win the market. This could be in the form of proprietary technology, unique intellectual property, or some other factor that sets the startup apart.

Finally, these factors should also be reflected in their financials, which VCs will also use to analyze their burn rate and runway, and provide a valuation of the startup.

Showcasing a Strong Team…

When it comes to having the right team, startups need to showcase what makes their team special and stand out. This could be answered in the form of:

• Experience: Does the team have the right experience, skills and qualifications to make the business successful? Do they have individuals with complimentary skillset and a proven track record of success? Can they also rely on any advisors or board members that can help fill any gaps?
• Vision & Purpose: Can the team demonstrate that they have a compelling vision and a strong sense of purpose to truly stand out and succeed?
• Exit Strategy: VCs are looking for a clear path to exit their investment and realize a return on their investment. This could be through an acquisition, IPO, or other exit strategy. Entrepreneurs need to demonstrate that they have a plan for the future that aligns with the VCs’ interests

Summing Up…

For startups, securing funding from venture capitalists (VCs) is crucial, especially in a tough market. To increase their chances of receiving funding and accelerating their growth, startups should focus on what VCs look for when making investments. However, it’s important to note that VCs consider more than just a checklist of attributes when evaluating startups. Even if a startup has all the desirable qualities, they may still be turned down for reasons such as unfavorable investment terms, a product that competes with a portfolio company, or the product/service doesn’t align with their internal investment thesis. Founders should seek open communication with VCs and aim to receive feedback regardless of the outcome. Ultimately, finding the right VC partner who shares the startup’s vision and can help them succeed is paramount.