Thinking About Thinking

4 Questions and 4 Pressure Tests To Decipher A VC’s Interest In Your Company

Posted in Venture Capital by larrycheng on June 29, 2009

I have heard from a number of entrepreneurs over the past couple of months about how they wished VCs would give them a “quick no” more often.  I think it’s a totally fair critique and have tried to improve in this area myself.  In lieu of a “quick no”, I thought I’d give entrepreneurs 4 questions and 4 pressure tests to help you decipher a VC’s level of interest.  These questions presume that you have already given the VC an initial pitch of your business, so they have enough information to at least be initially interested.  After thinking about this post, I have a renewed personal commitment to make my interest level clear and prompt so that there’s nothing to “decipher”.  A good working relationship should start before an investment is closed – so while I hope the advice is helpful in general, I hope that it’s advice you don’t have to take with me.  If you feel like you do, feel free to call me out on it – I’ll respect you for it.  Without further ado…

4 Questions 

1.  How quickly does the VC respond to your calls or emails? 

This is more of a disqualifying question than a qualifying one.  If a VC consistently takes more than one week to respond to your emails or calls in a normal work week, I’d say it’s pretty safe to disqualify their interest in 98% of cases.  If they’re responding consistently to you with positive sentiments in less than 12–24 hours, I’d consider that a positive sign.  Everything in between is a grey zone, but the more responsive the better. 

2.  Who is investing the time and resources in diligence – you, the VC, or both? 

For a productive process, it should be both.  If the nature of the diligence process is the VC asks you for information, you scramble to pull it together, and that’s it – it’s not necessarily a buying signal.  You want to see an investment of time and energy from a team of folks at the VC firm including a partner.  Such an investment could include: on site visits (especially if air travel is required), spending money on diligence (e.g. legal, technical, financial, etc.), clear commitment of time on diligence calls, or a partnership presentation (which is an investment of other people’s time).

3.  Is the VC making progress “reportable” to a partnership every week?

Most VC firms manage a deal pipeline the same way any company might manage a sales pipeline.  When an investment opportunity progresses to a stage of real interest and opportunity, they raise it to a level internally which presumes some level of weekly reporting to the team.  Once it reaches that stage, the VC has every incentive to make “reportable” progress each week so that they don’t lose momentum internally with their partners.  If you feel like a process is dragging and is slow, then you’re probably not at that level or you have come down from that level and serious interest may not be present.

4.  At the end of the day, do you feel like you’re chasing the VC or is the VC chasing you?

Any VC worth his/her salt knows how to go 110% after a company they want to invest in.  We all know we need to be aggressive in a competitive environment to win the best opportunities.  So, VCs know how to chase great companies.  If you feel chased, consider that the best buying signal.  If you don’t feel chased, then consider a pressure test…

4 Pressure Tests

1.  Ask the VC to sign an NDA. 

I’d say this is the easiest test.  There’s a widely held belief that VCs don’t sign NDAs.  I haven’t found that to be true.  Imagine if a VC said to their LP, “We didn’t invest in Google because Larry and Sergey wanted an NDA and we declined out of firm policy.”  That wouldn’t fly.  The reason VCs generally don’t sign NDAs is that it creates too much complexity if you’re meeting with thousands of companies a year to sign NDA’s for all of them.  But, VCs will sign NDA’s if they’re seriously interested in a company and it’s important to you.  As a ballpark measure, I sign about 1–2 NDAs per month and invest in 1–2 companies per year. 

2.  Schedule a partnership presentation, or specifically outline the process to get there. 

No investment will close without you pitching the partnership.  Many VCs won’t allow term sheets to be issued without a partnership presentation.  Either way, ask the VC you’re engaged with to outline the specific steps and timeframe to a partnership presentation.  If they outline something very clear or even schedule a date, that’s great.  If their answer is hazy or unclear, then they’re not ready to put you in front of the partnership which is where they invest some of their credibility. 

3.  Ask to call references on the partner.

This is a qualifying test rather than a disqualifying test.  If a VC partner lets you call their references, then it’s a clear buying signal because that’s an investment of time from their references (usually their CEO’s).  They won’t use their CEO’s time unless they have very serious interest.  If they’re not ready to give you references, I wouldn’t say it’s disqualifying but it’s a sign that there’s still work to be done before the finish line. 

4.  Reject the VC (nicely).

This is probably the ultimate pressure test.  If you’ve asked the questions, done the pressure tests and your gut doubts the level of the VC’s interest – in as kind and as humble a way as possible, let the VC go.  Just tell them that while you would have liked to work with them, it doesn’t seem like they’re interested, and there are no hard feelings.  Perhaps the stars didn’t align this time, and you’ll keep them in the loop for any future financings.  While I wouldn’t recommend this as a negotiation ploy, I think it’s fair game if that’s how you genuinely feel.  If somehow you have misjudged the situation, and they are really interested – this should kick them into gear.  But, more likely, it will lead to a clear no which is still helpful. 

 

16 Responses

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  1. Joshua Karp said, on June 29, 2009 at 6:14 pm

    Larry,

    Out of curiosity, have you ever pitched a company to a VC? You’ve been on the other side of the table for a while it seems, but have you ever taken a meeting at Lightspeed, Sequoia, or AlphaTech? It might be an interesting learning experience…

    Your questions are good…

    Best, Josh

    • John A. said, on June 29, 2009 at 6:33 pm

      Amen brother…you have hit the button right on its nose.

      Ouch.
      :-)

      • larrycheng said, on June 30, 2009 at 7:10 am

        Josh, I haven’t been on the other side of the table. What have you learned from your experiences with those firms? Please do share..

  2. Lee Hower said, on June 29, 2009 at 6:19 pm

    Larry – good post here for helping entrepreneurs read the tea leaves VC “process”.

    I agree the point about NDAs is broadly true. But to be clear, I’m willing to sign an NDA if I’ve reached a point in the process where entrepreneur(s) are genuinely revealing proprietary info (trade secrets / IP, reviewing code, detailed user base info, etc). The “no NDA” rule still certainly applies if we’re talking about just looking at a basic slide deck or a first mtg. What’s your approach typically like?

    • larrycheng said, on June 30, 2009 at 7:14 am

      Hey Lee, I think every partner is different. My process is pretty similar to yours. I would just say that whether an NDA is signed, I still operate like an NDA is in place. It’s just good business practice in my mind.

  3. John A. said, on June 29, 2009 at 6:28 pm

    As a VC I believe that I coined the phrase ” a quick NO is better than a long MAYBE.” Assuming that you are credible, and have a reasonable business established, there are more questions that you should ask your VC prospect, and in this age, these are imperative (perhaps much more important than the blog questions, unless you are an utterly naive entrepreneur.)

    1. Do you actually have any money to invest? So many firms are just going through the motions but their active investment lives are finito.

    2. When was you last initial investment? Follow-on investments with existing portfolio companies don’t count.

    3. How old is your current fund? How much, as a percentage has been invested?

    4. Can you refer me to 5 limited partners with whom I can speak?

    5. And this is the killer…what are your fund raising plans for the future and how is it going?

    6. Do you like and trust the people that you are communicating with? Are they giving you accurate information no matter what? Are they helping you by providing referrals and such?

    7. Do they routinely replace the founding management team (not altogether bad by the way?)

    • larrycheng said, on June 30, 2009 at 7:17 am

      John – good advice. Though #4 is a weird one. Opening 5 LPs (or even any LPs) to entrepreneurs for diligence is a new concept. Not sure how practical that one is. Have you done that?

  4. FN said, on June 29, 2009 at 7:29 pm

    Raising money has always reminded me of dating / marriage. There is definitely a “game” that you can play but real strong marriages are built on a foundation of mutual trust and to “test” that each party has to take small risks each incrementally bigger. If you find yourself becoming more and more confident of the relationship then you’re going somewhere. If not, well…

    So my advice on fundraising is to watch the movie Swingers. You’ll see the games (like waiting 3 days to call) and what a dysfunctional relationship is like (10 voicemails at 2AM) and what true love is.

    • larrycheng said, on June 30, 2009 at 7:19 am

      Hey FN, I guess I need to watch Swingers. Maybe I’ll make it a holiday weekend endeavor.

  5. Pressure Tests Your VCs « ecpm blog said, on June 29, 2009 at 7:38 pm

    [...] via 4 Questions and 4 Pressure Tests To Decipher A VC’s Interest In Your Company « Thinking About Thi…. [...]

  6. John P said, on June 29, 2009 at 7:42 pm

    Furqan,

    I agree with the analogy but I think the movie “He’s just not that into you” is usually more appropriate.

    Larry, great post.

    I think the truth is that the signals are obvious enough if you want the truth and the questions that you and John A. suggest are right on the money to suss out true interest level. And while the questions are different, there are very similar issues in strategic M&A.

    • larrycheng said, on June 30, 2009 at 7:18 am

      John, I agree with you. I think the signs are pretty clear. I wonder if there’s more gamesmanship in strategic M&A given that usually there’s the business unit that is sponsoring the deal and the corp dev team that is charged with closing it. When you get into the latter group, the gamesmanship begins.

  7. Pano said, on June 30, 2009 at 7:27 am

    Good stuff Larry. Having raised capital ovrn 11 rounds for 3 companies, I would submit that all of these questions provide an indication of interest, but one of the best ways to test vc interest is for the entrepreneur to set the dates and see how he vc responds. this presumes competition on the deal. It’s not just about raising money, but raising it with some entreprenurial leverage. If you cannot set dates and the process and say no at least once to the vc, then you are in a tough position. Companies with great products and traction don’t have to worry nearly as much about deciphering vc interest.

    That said, you point out the true tell-tales.

    Oh and one more sign of interest is when the vc pitches the firm after you have presented with “So can I tell you a little about xxxxx?”

    • larrycheng said, on June 30, 2009 at 7:42 am

      Hey Pano – long time. Great advice as well. If you have the leverage to set the process and timetable with confidence, that certainly helps focus the mind on the VC side. But, if deadlines pass and it seems like you don’t have the traction you want, it will be obvious to the VCs as well. But, I think you’re suggesting that for companies that clearly have enough interest that they’re not worried about being left at the alter so to speak. Totally agree. Shoot me a note and tell me what you’re up to these days.

      Larry

  8. Rob Go said, on June 30, 2009 at 11:27 am

    Nice post Larry!

  9. [...] 2. Bother with NDAs.  An investor who knows enough about your idea to be interested (and probably enough to realise they’re not invested in a similar space) will bother signing. Anyone else is not interested or serious enough and you should look elsewhere. Here is an example of a VC that signs NDAs, and why. [...]


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