Like a lot of due diligence questions, it depends. There are different approaches depending on the level of advancement of the startup. I’ll focus here on what I call ‘Day One’ startups. This is when someone approaches you with an idea but has done no work building anything.
I have a number of companies like this in my portfolio. To date, they have raised over $70M, so they are successful, at the moment. So how did I decide to invest in a bunch of undergrads from prestigious Boston universities?
First off, I did not invest for the first year. Too many unknowns and I needed to know the entrepreneurs very well to make sure they were going to go ahead with their plans. I spent the initial year meeting with them almost every week or so to discuss progress, look at business models, discuss go-to-market plans, etc., etc. I wanted to be sure they were all committed to the proposed venture.
After graduation, we got more serious. I now trusted the teams and knew they were ready to go. All turned down parental offer to continue their education—law schools, MBA’s, you name it. They instead asked the parents to invest in them, by providing ‘room and board’ for a couple of years to live, if they raised enough money to start building their companies. That’s when I invested lean startup funds—enough to start building the technology or start IP processes with new technology. No salaries—everything went into the development processes. After a year of this, both companies raised seed series capital, with my continued participation. Then came Series A & B…
The bottom line is that I decided to invest when I knew they founders were committed and had structured a business plan that had a good chance of being successful. Making sure the team is smart, has a good idea and is committed are the three keys to Day One investing.
Obviously, companies that are more advanced require different and more detailed levels of due diligence, but the three keys above are still my base for considering any investment.