For tech startups, securing funding through venture capitalists is a go-to strategy. Being prepared for what comes next may be less obvious, though. Venture capitalist (VC) firms investigate startups from the ground up. As a firm seeks opportunities for potential investment, each facet of the startup will be thoroughly evaluated through initial screenings, market research, financial analysis, and legal review. VC firms also pay close attention to management and reputation, as well as verify the startups’ prior expertise and efficiencies within the industry by connecting with their peers.
While there are two distinct types of due diligence checks, hard and soft due diligence, both types build an analysis of all operational systems within a company. Venture capitalists need to analyze both quantitative and qualitative aspects of each startup to identify areas for growth and ensure accuracy of the information provided.
Here are some key factors your organization should keep top-of-mind during this beginning phase, and how to prepare accordingly.
Startups should prepare for VC audits by keeping track of any available information about the company, its people, and any prior business partnerships. Compile all the relevant documents which may include financial statements, business plans, market research, product documentation, customer and client contracts, intellectual property records, regulatory compliance documents, legal agreements, and more. Make sure everything is current and easily accessible when a VC requests it.
Prepare your team and conduct internal due diligence
Perform your own review to identify potential issues or gaps before a VC does. This exercise will help you proactively address any weaknesses and ultimately present a more robust case to the VC. While the above is important, it is also just as crucial to be transparent and assess the human element of success measurement. Startup organizations should always seek feedback from their own employees on areas of improvement and operational inefficiencies to avoid unanticipated risks and business misalignment.
A principal factor of preparedness extends to the knowledge of your employees – they should know your company inside and out. Make sure the vision and mission statement are clear, and that they are familiar with business goals and aspirations, expertise, leadership priorities, and overall strengths. From there, you can work with your teams to develop a more solid foundation to scrutinize financials, which will help to close any gaps and provide an opportunity to proactively remedy those identified weaknesses.
Compile materials for financial analysis
In many cases, early-stage startups may lack adequate business planning or have overly ambitious burn-rate and cash-flow projections. Balance sheets and income statements play a huge factor in determining a startup company’s financial position, which can better inform future projections. To conduct the optimal audit, startups should review and keep track of prior financial statements (if applicable), and budget.
Keeping cash flow statements current will also help provide timely insight into your company’s financial health and potential for growth – and make the VCs job a lot easier during the financial analysis. It is also advisable to ensure that all financial documents are prepared by following the generally accepted accounting principles (GAAP) and reviewed by a certified public accountant (CPA) before submission.
Conducting these in-depth financial analyses is an opportunity for startups to unlock new areas of investment, improve their existing functions – strengthening areas for further investment. venturecapitalist
Conduct a market analysis
During the market analysis phase, it is crucial to assess the dynamics, risks, and growth opportunities for your organization. Ensure you can present a clear vision into marketplace size, share, growth rate, customer segmentation, and other competitive trends within your industry. It also helps you anticipate any revenue risks and determine where your company stands among marketplace competitors.
Assess intellectual property
The last component of due diligence is to examine intellectual property (IP). This typically involves a thorough investigation of your current trade portfolios, patents, trade secrets, trademarks, and copyrights to certify the value of your company’s IP. This also provides an opportunity for you to rectify any pending disputes or licensing agreements.
One of the biggest concerns around IP is ownership. For example, if your company applied for a specific patent or trademark, you must verify ownership of the asset. You can do this by providing VCs with a copy of the license, indicating the time that it was applied for and approved for proper distribution. This will not only alleviate stressors around ownership and confirm legitimacy, but it puts your organization in a better position for investment opportunities.
Finalization and next steps
Upon finalization of the due diligence check, the VC analyst will usually pull together a written analysis of their findings, including a strategic recommendation to the Investment Committee on whether to move forward with supporting your organization or not, backed by a summary of the results. Just as the VCs perform these audits, startups should also verify a VC’s background and reputation, as well, as it is equally as important to choose your potential investor wisely. You can achieve this by researching their organization and teams, searching for their financial success rates, and uncovering any existing relationships with other relevant startups, if the information has been made public.
By acknowledging each facet of the due diligence check beforehand, all startups, regardless of size, will be best prepared for the process and will reap the benefits from prospective investors – thus growing your organization’s business potential and revenue.
For more information on how to get started on conducting due diligence, please contact us.
We highly recommend you confer with your Miller Kaplan advisor to understand your specific situation and how this may impact you.