This week on the startup to scaleup journey:

• How to build a qualified investor list
  
  

How to build a qualified investor list

In a recent poll we asked founders what their most burning question was on fundraising. Top of the list was, "How do I create a qualified list of target investors?", or words to that effect.

It's not that founders are short of ideas when it comes to compiling investor target lists. The problem is that in the toughest funding environment that many can ever remember, current methods aren't delivering the desired results.

One founder said they had compiled a longlist of 240 funds to approach for a £4M Seed round. After a great deal of legwork they had filtered this down to a 'qualified shortlist' of 38 prospective lead investors.

After reaching out to these 38 investors they finally ended up having 10 initial pitch calls, but only 1 second meeting. Then everything went cold.

They had spent many weeks researching these investor targets, tapping into their board and wider contacts for information, searching through several free and low-cost online databases, and digging through investor websites.

But all, it seemed, for nothing.

The exasperated founder asked us to review his target list. What did we learn?

Longlist observations

On the face of it, all 240 investor names LOOKED like a potential fit: e.g. they had previously invested in and around the sector, at the right stage, and had a remit to invest in the UK (100 were based outside the EU).

But on closer inspection it became apparent that many were not a fit when taking into account 3 other critical factors:

1. Fund size
   For a £4M round a lead investor would typically aim to contribute at least £2M. On the basis that most new funds would be looking to invest in at least 25 companies, and if holding say 30% in reserve, this would require a fund size of around £75M. Many of the funds on the shortlist were well below this size (some were as low as £30M to £40M). In addition, some of the bigger funds were already well into their investing period with limited appetite for more early-stage investments. Not a great fit to lead a £4M deal.
   
   
2. Current investment activity
   Many investors have significantly curtailed their deal rate over recent quarters. Global venture investment was down by almost 50% in 2023 compared to 2022. But some funds, especially those with many needy portfolio companies, have cut back even more severely on new investments. A key metric to check is their new investment deal rate over the past 4 quarters. If it has collapsed to a trickle or zero, this fund is likely not a candidate.
   
   
3. Recent sector focus
   The big market down-shift, which began in 2H22 and continued through 2023, has had a profound effect on many funds. Increased staff turnover has meant that in some cases, where one partner was the sole expert on a particular thesis, their departure means that sector is no longer a focus. In other cases, funds have added further qualifying criteria to their sector requirements. Notable for many during 2023 has been the need for a strong AI component within the investment story.
   

Note that funds that are not a clean fit will not necessarily flag this immediately to founders. The less scrupulous will still take pitch meetings. Their aim is to gather market intelligence. This is vital currency that enables them to trade favours and insights with other investors.

But they have no immediate scope to invest.

Shortlist observations

Which funds then made the cut from longlist to shortlist depended on two further criteria: (i) Did the founder think a warm intro was possible from their network? or, (ii) Did they have the investor's email address to enable a direct approach?

Again, on the face of it, the criteria for the shortlist seemed to make sense. If you don't have the means to make an approach, all else is academic. But in our view there are 3 critical factors that should be taken into account first:

1. Ability to lead
   Not all funds are willing to lead rounds. This requires a great deal of time and effort, so it is generally harder for small funds, overseas funds, and certain investor types to take this responsibility. A priority for any shortlist is to have funds with a demonstrable track record in leading deals. The same holds true for the particular partner you are approaching. Experience and credibility count. In our case example, this had not been factored in.
   
   
2. Number of relevant deals
   An investor that has done 10 or 20 relevant deals over the past year is likely to be a better prospect than another that may have completed only 1 or 2. The number of relevant deals underlines the strength of their thesis in the sector and thus their ability to understand the proposition - and add value post deal. Many at the top of this ranking had been ignored in our case example as the founder was unsure how to find a way in.
   
   
3. Location
   Lead investors are putting much greater store by the relationship they develop with the founder - both before the deal as well as after. That means they increasingly want face time during due-diligence. The further away they are geographically from the startup, the harder it is to make this happen. In this case, some of the closest funds (across the UK and Europe) had been 'demoted' in favour of US and Asian funds as, again, the founder could not find a way in to some of those closer to home.
   

After digging further, it became clear that 6 out of the 10 investor pitch calls had been primarily down to the relationship with the introducing person, rather than the proposition being an obvious fit for the fund.

Unsurprisingly, none of these 6 progressed past the first meeting.

Sourcing observations

There are 2 other general observations about researching investors, deals, and investment trends.

1. Investor websites are useful ... but only to a point
   Investors, especially VCs, face a dilemma about telling the world what they do. They are wary about this kind of self-marketing for 2 big reasons: (i) They don't know precisely what they are looking for until they see it (and they don't want to turn away founders before they've had a chance to look at their investment proposition), and (ii) They will get besieged by so many pitches they simply won't be able to filter them.
   
   The upshot of this 'anti-marketing' mindset is that VCs either don't tell founders what they are looking for - except in the broadest terms - or they make themselves very difficult to contact. And very often it's a combination of both. This is not just a nightmare for founders, it's highly inefficient for VCs, who end up rejecting well over 90% of what they look at.
   
   But this is the imperfect system that the industry has settled on, mainly because there's nothing better - at least from a VC's perspective. And this is likely to continue whilst the number of startups seeking funding exceeds the number of VCs investing.
   
   
2. The best investment databases are game changers ... but expensive
   Private market investment databases are becoming increasingly popular, although there is limited public benchmarking data to compare them. 'Entry level' datasets (think of spending a few thousands of $ per year) can provide useful insights for those whose only other choice is the hard graft of assembling information manually.
   
   But the big, enterprise-level datasets (think Pitchbook or CB Insights where licenses start at around $50k/yr) are a world apart from these entry-level options. There are 2 significant differences in the step-up to these high-end platforms: (i) data completeness, and (ii) analytics capability.
   
   In terms of data completeness, global transaction data is primarily sourced directly from the investment firms that use the very same platforms daily. They have a strong interest in maintaining data integrity as they use these tools to collaborate with other funds, for example; finding co-investors, sourcing the latest contact data (especially email addresses), or researching individual investor biographies. They generally don't expect founders to have access to this level of information.
   
   In terms of analytics, these platforms enable deep, global research into industries, verticals, and emerging sectors as well as companies, deals, and investors. This capability is particularly powerful when initially assessing investment strategy. In our case example, compared to all the observations we made, this would have had the most profound effect on building a better long list at the very outset and thus a better final shortlist.
   
   Here's why:

Funding strategy

A big and early decision for the founder in our case example was how to position the business to investors. The company's product was an app plus a wearable device used for certain aspects of health monitoring. It sat at the intersection of 3 markets: Consumer Electronics, Health & Wellness, and SaaS.

A retrospective global market analysis showed that Health & Wellness was on a very positive investment trend whilst Consumer Electronics and SaaS were both heading in the opposite direction at that time. But the makeup of the investor longlist was dominantly CE-centric funds. If the emphasis had been more heavily in favour of Health and Wellness funds, this would have produced a very different (and potentially more willing) target list.

Note: We also have to consider that a weak investment proposition may also be the reason why investors don't bite - it may have little to do with the quality of the target list. In our view this particular investment opportunity looked sufficiently compelling to garner a lot more interest than it did. The target list compilation had clearly been a significant factor.

In summary

In the toughest funding environment that many can ever remember, current methods of creating investor target lists aren't delivering the results that founders are looking for. Some are spending many weeks doing research, only to find that many investors don't even respond.

Longlist creation must take into account recent market conditions which have been severe for many funds. Fund size, current investment activity, and recent sector focus are all now critical factors for founders to take into account.

Shortlist creation should prioritise the ability to lead, the number of relevant deals completed, and the geographic location of the fund. Only after considering those factors should founders investigate ways to find a warm intro or dig out an email address.

Founders should try and get access to a high-end investment database to drive their research, either through a friendly investor or a funding advisor. The level of insight these platforms provide is an order of magnitude more powerful than any other research method. They also save precious weeks of time.

The starting point is to be clear on funding strategy. A founder that is able to position their business so that it aligns with positive investment trends will always identify a more willing investor audience.

Let's talk!