The Art of Due Diligence: How to Validate Early-Stage Startups
A founder asked me the other day what “conducting due diligence on them” actually meant. This was the answer I gave.
It involves a comprehensive assessment of a startup before making an investment decision. Here’s a step-by-step guide to what I try and do before making my decision.
1. Business Model Assessment:
Examine the startup’s business model. Is it viable, scalable, and sustainable? Understand how the startup plans to generate revenue and whether it has a clear path to profitability.
2. Market Potential:
Evaluate the market size and growth potential. Does the startup address a significant pain point or unmet need? Is there a large addressable market, and is it growing?
3. Competitive Landscape:
Analyse the competitive landscape. Who are the startup’s competitors, and what differentiates it from them? Does the startup have a unique value proposition or competitive advantage?
4. Financial Projections:
Review the startup’s financial projections. Are they realistic, and do they align with market trends? Look for key metrics such as projected revenue, expenses, profitability, and customer acquisition costs.
5. Team Capabilities:
Assess the founding team’s skills and experience. Do they have the necessary domain expertise and track record to execute the business plan? Are there any gaps in the team that need to be addressed?
6. Product-Market Fit:
Evaluate the startup’s product-market fit. Does the product or service resonate with the target audience? Is there strong customer validation and feedback?
7. Legal and Regulatory Compliance:
Ensure that the startup complies with relevant legal and regulatory requirements. Review the startup’s legal structure, intellectual property, any patents and any potential legal risks.
8. Exit Strategy:
Understand the startup’s exit strategy. How does the startup plan to provide a return on investment, and what is the expected timeline for an exit?
Due diligence for me is not just about identifying red flags; it’s also about understanding the startup’s potential and how I can add value as an investor.
