Legacy funds are built on great deals
We’ve all heard those “back in the day” stories of fund managers (now legacy mega VCs) who invested in the ugly ducklings (now unicorns) when investors were super selective, and companies rarely got a second look. Well, those days are long gone. In the current venture capital climate, companies have more options, and investors must compete to see the best deals, win them, get bigger allocations than their peers, and achieve a return on investment. This competition has created a critical need for investors to differentiate themselves. Those early in their venture capital career trying to establish a track record, and emerging managers who’ve not yet reached legacy fund status, have to work even harder to rise above the rest, let alone to become a legacy fund themselves.
When an investor's primary job function is to find good entrepreneurs and win great deals, it’s difficult to take a step back from working in the business to working on the business. It’s not until an investor misses out on the next Uber or realizes they’ve invested in another Theranos that they begin to see the cracks and wonder how to repair and rebuild with a stronger foundation.
Having worked with numerous venture firms in my nearly decade-long career as an investor (and now a Venture Operations Expert at Strut Consulting), I’ve identified five common mistakes investment teams make that lead to missed deals and bad investments, inhibiting an investor’s ability to compete and win.
Mistake #1: Lacking any process or ownership
If the investment team lacks a clearly defined, documented, and scalable deal flow management and due diligence process, there’s no clear ownership of each task. When no single point person is responsible for upholding the process, confusion tends to plague the investment team. Miscommunication runs rampant, leading to uncertainty around the outstanding diligence items, and thus, they start to lose control of the process. Before the team even knows it, they’re behind schedule to get the investment approved and funded. Founders inevitably get frustrated and lose patience, the investor’s reputation takes a hit, and the fund potentially loses out on the deal.
Mistake #2: Not designating a single source of truth
Having a clear and definitive source of truth for monitoring investment opportunities is paramount. If individual team members aren’t storing all deal-related materials in the deal flow management software, they waste precious time sifting through emails, Slack, and Google Drive, trying to track down deal information that they should be spending writing the memo and prepping it for an investment decision. The last thing an investor wants is to make an investment decision based on outdated information or to be the one who missed an important diligence report buried in an email chain that would have otherwise raised red flags and changed the final decision.
Mistake #3: Utilizing the wrong deal flow management software
There’s no point in onboarding a deal flow management software solution before the investment team builds and documents their investment process. Skipping this step often results in the shock of learning the software you’ve now spent time and (likely big) money on isn’t the right solution. Now the fund is left with a costly solution that doesn’t suit anyone’s needs and has to deal with the challenges of identifying a new software and migrating all of the deal data to a whole new platform. All while still trying to manage active deal flow!
Mistake # 4: Rushing deal flow management and due diligence
FOMO is real, but so is the commitment investors make to honor their fiduciary responsibility. Properly researching, investigating, and evaluating each investment opportunity before investing on behalf of shareholders, i.e., Limited Partners (LPs), is vital to keeping the trust of your LP base. To win the best deals, investors are challenged to make investment decisions faster than ever. In doing so, they often compromise the quality of their deal flow process, compromising the quality of the investor's due diligence and increasing their investment risk by making potentially bad investments. Bad investments can mean write-offs, and too many write-offs can land you on an LP’s naughty list.
Mistake #5: Forgetting the founder is the customer
Venture capital is highly transactional and can create a culture that sometimes forgets the importance of establishing rapport and trust in pursuit of forming a business “partnership.” The investor’s core customer is the founder. As such, investment teams must manage their deal flow and due diligence process with a customer-centric approach to establish rapport and trust and, ultimately, be competitive. By building, implementing, and executing a best-in-class deal flow management and due diligence process, investors create a positive, founder-friendly experience. Regardless of the investment decision outcome, founders with a positive experience will refer other founders, keeping your deal flow pipeline full and your fund from being dragged through the mud on #VC Twitter. The time and effort investors take to build, implement, and execute a best-in-class deal flow and due diligence process will pay dividends when founders are not only the customer but also the investor’s greatest lead generator.
So, what’s the solution?
With those mistakes in mind, a quote my favorite high school teacher, Mr. Baird, wrote on the chalkboard rings true:
“Failing to prepare is preparing to fail.” - Benjamin Franklin
Investors who have not made adequate preparations are unlikely to succeed in their pursuit to win the best deals to generate track record and achieve legacy fund status. The preparations and efforts investors make now dictate their future success. Building, implementing, executing, and sticking to a top-tier, reliable, and founder-friendly deal flow management and due diligence process is the difference between winning and losing the best deals
In working with countless investors over the years, I’ve learned that while there is often willingness, there are also many obstacles when pivoting from current habits and workflows and adopting a new approach for managing deal flow and due diligence. That’s why I’ve used first principles thinking to develop a roadmap to set investors up for success. Along with Strut Consulting, I have crafted the upcoming Deal Flow Management + Due Diligence Program. I will lead participants through a comprehensive, four-week program for investment team members to learn how to build, implement, and execute a tried and tested, best-in-class deal flow management and due diligence process.
Over the course of the program, I’ll share my years of institutional knowledge, experience, and best practices for launching and revamping a deal flow management and due diligence process. No matter the investment team or pipeline size, I provide a model that scales. The program takes a deep dive into due diligence execution from start to finish, including sample diligence questions, cues, and tasks. I’ll also provide templates, guides, samples, and checklists to help develop your own processes.
If you’re an investor who’d like to learn more about Strut Consulting and/or our upcoming Deal Flow Management + Due Diligence Program launching October 19th, 2022, visit our website or apply for the program here.