The Investment Memo
VC evaluation of seed-stage startups can seem arbitrary or imitative at times. Internally, the scarcity of tangible business metrics – product usage or revenue multiples for example – can make an investment decision feel daunting. Presented with various unknowns from any one pitch, VCs often lack an existing information infrastructure to examine in forming an opinion. So, the decision-making process at seed then seems neurotic – a tug-of-war without the rope to champion convictions while pressure testing business mechanics.
Due diligence as a process deserves its own version of a book like Venture Deals and there are a bunch of great blog posts available today. From going with your gut to diligence-ing an idea to death, many tactics with varying degrees of literal rigor exist to bring an investor to a yes or a no. Last week, Rob wrote what we talk about when we talk about companies and as pseudo follow-up, I wanted to break down what comes after those talks and a decision to invest from NextView – our investment memo. To me, the investment memo is essential, a time-stamped artifact that summarizes all of the contributing factors that gave us the conviction to invest. Neither exhaustive financial analysis nor page-turning novel, our memos are no more than two pages, broken into these sections:
Overview: The overview is at most three sentences that explain the company’s concept clearly and concisely.
Market & Background: Depending on how young the company is, this section often has the most work behind it as we will do existing market analysis and map the company against projected product-market-fit via publicly available data and proprietary info from past and present portfolio companies.
Founding Team: We include three bullet points on each founder’s background as well as any early team members crucial to the then current version of the company.
Business Model & Strategy: Here we outline the approach a company is taking to address a problem and/or break into a market as well as what the current or future revenue and growth drivers are or may be. Any seed stage company’s strategy is a constant work-in-progress. Founders’ employ intuition and rapid reaction to their market(s) to pivot and evolve their model. In this section of the memo, the challenge is in not layering our own opinions into a summary what the actual model is and where the founders want to take it.
Competition: This section is a summary of the existing competitive landscape for the company. We draw largely from publicly available information and in-network, in-portfolio diligence calls here.
Financial Metrics & Financing: This is the most variably-sized section of the memo. Of course, there is always info to add about the current financing that we are leading or participating in. However, given that NextView investments range from incubated ideas that are pre-launch/pre-product/pre-seed to companies that are raising seed rounds having already progressed beyond product-market fit, financial metrics can be detailed or non-existent.
Due Diligence Summary: This is a set of bullet points summarizing everyone’s work in diligence. The process is a highly collaborative one within our team. So these bullets are usually a combination of in-network, in-portfolio calls, individual research, product testing, customer-user interviews, and founder reference calls.
Deal Positives: We include no more than four bullets that highlight the most exciting, high potential aspects of the company.
Deal Concerns: We include no more than four bullets that provide an honest assessment of the downside, highest-risk aspects of the company.
Exit Scenarios: We present our internal set of projected outcomes for the company – based on a blend of existing and previous comps and our own analysis of probability percentages.
Glimmer of Greatness: Drafting off of the NextView Ethos Point Golazo, the final section of our investment memo is a summary of the beautiful, earth-shattering vision for the company and what it becomes in the most profound future outcome.
All firms treat investment write-ups differently. At NextView, the memos are an internal discipline that we keep within the team. Union Square Ventures treats their blog posts announcing new investments as the de facto investment memo that’s there for anyone to see. Some firms write lengthy memos, some don’t write them at all.
What I appreciate about the NextView investment memo is the time-stamp of what went into a decision to invest. Most seed stage startups fail, meaning most seed stage investment decisions won’t result in the Glimmer Of Greatness. That reality combined with the lack of existing data around which to anchor an investment decision mean that the investment memo is the only hard evidence of why we did something. The first thing I did when I joined NextView was read all of the investment memos for the existing portfolio (encouraged by Dave). Every month, I block time to go back and do this reading again. It is invaluable in gaining a comprehensive understanding of our evolving investment strategy. Outside of engaging with entrepreneurs, there is nothing more additive in building pattern recognition ability than in reviewing investment memos against the reality of what’s happening or happened with a given company.
Should we completely revamp our investment strategy when we were wrong in a memo? No. A panicked reaction to failure, given its frequency, would induce a heart attack. But we can learn from the memos. Endeavoring to examine what we thought at a given time before an investment had an outcome and without the emotional and psychological influence of subsequent perception, is how we improve as VCs.