How do investors decide to invest?

If you ask most first time entrepreneurs who are just starting to think about raising money this question, the answers vary from “Our vision” to “Our big idea’ to “Our killer application.”

But none of these answers are correct. In my experience, which ranges from VCs (Greylock, Highland, Sigma, Flat Iron) to corporate (Apple, MIT, Ernst & Young, Reed Elsevier, Silicon Valley Bank) to angel groups (several pitches, no investments), the decision comes down to three factors:

  1. team
  2. market opportunity
  3. product

Of these three by far the most important is the management team. Investors would rather have an A team with a B plan than a B team with an A plan. Why? Because A players can cope with change and if their original business plan turns out to be a non-starter they can successfully pivot. Twitter, for example, rose from the ashes of a failed podcasting startup. And a B team won’t execute an A plan, and if they are hit by market or technology challenges, they won’t be able to cope.

Of the team, the most important person to investors is the CEO. I’ve been told by one VC that he considered the CEO to be 70% of the management team. Without a great leader the best CTOs, Chief Revenue Officers, CFOs etc. will not build a great company. So if you have a startup team where you consider yourselves equals and peers you are going to have to face the issue quickly that either one of you emerges as CEO or you will have to bring on a CEO to secure investment.

And, of course, investors have been known to insist on their own CEO if the founding team’s CEO doesn’t meet their standards.

Assuming you have a CEO who impresses investors, usually the next thing they look at is the market opportunity: how big is it? it needs to be very large. Investors are not interested in niches, lifestyle businesses or boutique companies. How fast is it growing? Who are the competitors? And lots more questions like this. See the post on investors questions to address.

And of course, your product. But this is really a trick answer, because while the product needs to be exciting, compelling, etc. what investors are really looking for is customer traction! How many users do you have? How fast is the user base growing? How engaged are they? How much are they paying you? What is your cost of customer acquisition?

So you can have a great CEO, a huge market opportunity, and a breakthrough product, but without market validation measured by creating real customers and revenue, you will most likely have a difficult time raising capital in today’s investment climate.


Author: Mentorphile

Mentor, coach, and advisor to entrepreneurs, small businesses, and non-profit organizations. General manager with significant experience in both for-profit and non-profit organizations. Focus on media and information. On founding team of four venture-backed companies. Currently Chairman of Popsleuth, Inc., maker of the Endorfyn app for keeping fans updated on new stuff from their favorite artists.

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