What do VCs look at before investing in a startup?

When asking yourself weather a VC would invest in your company, you should consider what factors make a promising investment. These factors are essential because they will help you identify your strength and weakness. They will help you structure you pitch and identify key questions that will be asked by investors. They will also allow you to determine what a reasonable pre-money valuation is for your startup.

Here I have tried to enumerate what appears to be essential or key conditions for an investment. Of course, these factors are indicative and some more relevant than others.

Company Factors

- Founders and team. How experienced is the founding team? Have they worked on a startup before or is this their first time?

- Market size. How big is the marke? Do large players already dominate the overall market or is it large enough to support many competitors?

- Revenue projections. What are the revenue projections over the next three to five years? Is the amount of revenue reasonable in relationship to the market size estimates?

- Technology or Market solution. Does the technology or product offer a significant advantage to customers / user or is it merely a nice to have option?

- Competition. What is the competition like? Does your startup have significant way to differentiate itself from the competition?

- Intellectual Property (IP). Does the startup have significant IP (patent, trade secrets, trademarks) or other strong competitive advantages?

- Customer Traction. Do you have paying customers or numerous users signing up? At what rate can you add new ones? How much does it cost you to acquire a new customer compared to the lifetime value of that customer?

- Exit potential. Is it reasonable to believe that the startup can achieve enough success, attracting large acquisition partners, resulting in a large multiple buyout within five to seven years?

- Board of directors and advisors. Have the founders assembled an experienced advisory team that can help them enter their primary market segments? Does the formal board of directors augment the founding team, filling gaps and increasing the possibility of success?

Deal Factors

- Pre Money-valuation and investment amount. Does the pre money valuation and investment amount align with the investors’ expectations for equity ownership? That is, will they own a large enough percentage of the startup to offset the risk they are taking with their cash investment?

- Term sheet deal points. Will the investor get preferred share rights that make the investment deal less risky? Items include investor control rights like board of director seats, voting rights on key decisions and so on.

- Amount Already invested. How much has already been invested and how much time in terms of development, research or innovation has been accumulated?

- Stage of the startup. What stage of development is the stratup at: idea / business plan, product developed and tested or beyond?

- Need for additional investment. Does the startup need a significant amount of additional cash to reach its goals? How likely is it the startup can raise the additional funding needed in the future?

Macro Environment Factors

- Industry trends. Is the industry and market of the startup growing, level, or shrinking? Are there industry trends (like automation or cloud-based services) that could either hurt or help the prospects for the startup’s success?

- Economy. What is the current economy like? Is the country in a recession, or is the economy growing. Are there more attractive investment options for the investors cash in the stock market?

- Political. Are there political changes that could influence the outcome of an investment deal? Changes in taxes credits and deductions have a heavy influence on how angel investors view startup investing.

- Regulatory. Are there federal, state or local regulations that could affect the startup or it’s market?

Local Environment Factors

- Comparable companies’ status (Comps). Have comparable been successful in raising startup funding? Does your startup have notable differences from these comps?

- Recent exits in the sector. Are there companies similar to yours that have recently been acquired?

- Saturation of the market. How many high quality, investable startups are there competing for the limited amount of investor dollars in your local area.

You don’t need to fill up all these criteria to close a round of funding. But if you can answer positively to most of these question, you have good chance of negotiating a good deal.