Founders need to perform due diligence on prospective investors

money

It’s common knowledge in the entrepreneurial community that investors perform what they call “due diligence” on founders before closing on an investment in their company. Since the team is usually the number one criterion in deciding to make an investment, a lot of time goes into delving into each member of the team’s background. But product/market fit and technological advantage are also studied, sometimes outside experts are brought in. I still remember being grilled by Brad Feld who Paul Maeder of Highland Capital brought into his office to help him decide whether or not to fund Mainspring, my second startup, whose founding mission was to like Microsoft Developers Network for the Internet. I never did find out if Paul knew that Brad and I knew each other or not. But that did slow down Brad. He had about 100 questions on his laptop and fired them faster than a speeding bullet. There was only one answer I gave that he disagreed with at the time, and it’s lost in the sands of time.

I’ve written a post on prepping for your first due diligence session with an investor where you can get more detail on the process and how to be ready for it. And I’ve also written about how founders need to perform due diligence on their investors. But if you are interested in that subject I highly recommend you read 9 Ways to Vet An Investor Before you Seal the Deal on Tech.Co. They asked nine entrepreneurs their favorite way to vet a potential investor before sealing the deal. This is a terrific list and I highly recommend it.

I can summarize several of the nine points into one: what is the investor’s reputation in the founder community? This is where all that networking you have been doing with your peers really pays off, as does having space in an accelerator or incubator with other founders. Because many of these questions need to asked of the founders of other companies the investor has put money into. (And not just the ones the investor suggested you talk with.)

I recall Bill Kaiser of Greylock telling us that “we are 100%” referenceable – meaning that we were welcome to talk with any company Greylock had ever invested in!

In addition to networking with other founders so you’ll have lots of contacts with investor-financed startups another way to prepare is to get to know VCs and angels before you need capital. The best way to an investor’s heart (and eventually wallet) is to bring him a deal (other than your own, of course.) So get to know what investors are looking for and keep an eye out for companies you think they’ll be interested in.

Another tip is to get to know the lawyers, bankers, and other professional service providers in the entrepreneurial community. They will have worked with many, many investors from angels, to angel groups to VCs and corporate investors. While they will rarely say anything negative about an investor – who could well be a client or prospective client – you can still get introductions, make contacts, and learn a lot by what they don’t say about an investor.

Finally, get to know the other partners in the VC firm you are about to sign on with. They will have contacts, experiences, and other value to add beyond whichever partner is leading the investment. And should your company start to founder having good relationships with other partners may help buy you time and/or money when push comes to shove.

The article is courtesy of BusinessCollective, featuring thought leadership content by ambitious young entrepreneurs, executives & small business owners.

Finally you may want to check out The Young Entrepreneur Council (YEC),  an invite-only organization comprised of the world’s most promising young entrepreneurs. YEC members generate billions of dollars in revenue and have created tens of thousands of jobs.

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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