How do we choose which startups are interesting (and worth deeper analytical process)?
Every VC firm has its own style and approach to answering this question – here at Sabra Capital, we believe that there are several core values that elevate an interesting startup into an excellent one, and what better way to show what we value most than to talk about our first interview? Whether the startup has been introduced to us via an accelerator, a warm introduction from one of our colleagues or through one of our partners, all of them will be funneled into an initial interview to assess their potential in relation to us, in which we’ll evaluate them over two verticals: objective and subjective.
Objective merits are basically facts - like their financial diligence, market size, previous ventures and more. Subjective merits are personal impressions of the interviewers over the team and the project; among others is a passion for their project, charism, ability to sell, integrity and more.
Before the first call
The process starts with the company deck. After a review, the founder will be invited to hold a 15 to 30-minute presentation of their product and their startup during which several technical points will be evaluated; in particular, we love to see founders that have done proper research into their competitors and alternative solutions!
Now, a piece of advice for VCs and founders alike: interact. Ask questions. Make sure you are as concise in your explanations as possible but ascertain that the other party understands; after all, it’s just an initial, short conversation but there is a great deal of various information being shared.
“What problem do you solve?”
Here, the founder has a chance to demonstrate their business understanding. Is that’s a new problem that emerged due to new technologies and generations? Or maybe some market situation (geopolitical or industrial) created it? Or maybe you are trying to solve an old problem and invented know-how that can finally do it? We love the answer being phrased in a very short way that includes the terms “expensive” or “time consuming”. Answers that start with “at the present time, there are no solutions in the market that do what we do” will not be accepted - it's not that simple. As an example, if you invented a bidet, the problem should sound as “Nowadays, effective cleaning of an ass requires time-consuming showers or tons of expensive toilet paper rolls.“
“How do you know that the problem exists?”
Are you 100% sure that you are trying to solve an existing problem? How do you know? We expect to hear how you’ve reached this conclusion. The best answers usually begin with: “From my personal experience working as a domain expert in this field for the last 15 years”(B2B) or “I’ve launched a demo lending page and had a zillion of conversions in day one”(B2C)
“How is the problem solved nowadays?”
If there is a problem – there is a solution to it. Always! Every problem in the world has a solution; if there is no solution – it means that the problem doesn’t exist! So, we want to understand if you are aware of all the existing solutions – be it competing products or alternative ways of solving it. Following the bidet example, the solution to extra clean ass nowadays might not be wet wipes but a shower or standard toilet paper.
“How will you solve it?”
Are you using the latest technologies to solve an old problem? Is there unique know-how involved? Or you are trying to solve an aged problem with approaches and technologies that have been in the market for a while? We expect to hear some degree of innovation here, and not “I will succeed by doing about the same that others did (and possibly failed at)”.
“Your proposed solution will work because it is:”
Are you cheaper or faster versus the alternatives? We believe less in solutions that “aggregate everything in the world into one” or “Ubers with extra features”. In our humble opinion, the best solutions are ones that either solve an existing problem faster or in a cheaper way, compared to existing alternatives. Perfect answer (following the bidet example) will be “My invention works 5x time faster compared to shower, and 5x cheaper compared to using wet wipes over 3 years”.
“How long did it take you to develop your MVP?”
As we are more interested in startups that have developed an initial MVP, this question is really a 2-in-1: on one side, we are keen to see that you do have the know-how and it will take time for competitors to reach the phase you are currently in; on the other hand, we are really not into startups that work endlessly before they hit the market. This is not entirely true of deep-tech, as it is usually in much longer development cycles.
“Do you hold any patents? How many? What is the status of every patent?”
This point, while seemingly self-explanatory, hides a couple of key components. It highlights not only if there is know-how in the company, but whether the decision-makers in the start-up have thought about keeping their technology as a trade secret rather than blindly wasting copious amounts of time and money patenting everything they can.
“What makes your technology/product/business so unique?”
Here the founder can wrap the know-how and explain very shortly what makes them more valuable against their direct and indirect competition. For us, that’s an opportunity to understand if the founder is able to sell his product to potential customers and his future employees.
Once the crinkles regarding the know-how have been ironed out, we like to move onto the team details. Understandably, we interview the founders and the founders only to have the clearest possible view of the startup’s future.
We’ll delve into previous business management and startup experiences and ascertain how familiar they are leading one. It is important to us that the founders have had previous start-ups and it’s even better, but not a must if they’ve had any acquisition or exit. The other question we like to ask is what the highest number of employees is they have managed. As you’d all imagine we would love to see the startups we invest in grow and flourish – and in doing so they will recruit more employees. Showing that the founders can manage larger crowds of employees now is a good omen for the future of the venture.
Of course, the “big picture” questions are also inquired: how many employees do you currently have working for you, where are they located, and are they full-time or part-time workers? This gives us access to the startup’s internal structure plus another tidbit of information from the founder’s approach to business. Finally, for Israeli founders, we always inquire into their army experience. Did you attend? What position did you hold? Getting an insight into the founder’s military experience can help gouge their true values. Our questions in this section are the following:
“Tell me about your previous business experience.”
What we really look for here is to understand your experience in owning and leading a business. Ideal we’d love to hear about previous ventures – hi-tech or not, and whether they’ve been a success or have failed. Here only business experience as an owner is relevant, as the level of adrenaline being an employee is never as high as owning your own business! We mostly are interested in second-time founders, including ones whose previous venture was not a success.
“Tell me about your previous managerial experience.”
This is the other side of the coin. While you might be a first-time founder, you might have lots of managerial experience – do tell us! By managerial experience, we don’t necessarily just mean managing teams but also budgets and projects. It is useful for us to hear concrete numbers, eg the highest number of employees you’ve managed or the highest budget.
“Did you attend the army? What position did you hold in it?”
As previously mentioned, this question contextualizes the values and professional expertise of the founder: in Israel, being part of the army is seen as an important part of one’s development and the position one holds can be relevant to their experiences. Also, military experience is famous for the development of values that are relevant to start-up founders: integrity, collaboration, focus, getting-things-done and never-give-up.
“What is your education?”
Very straightforward question. Do delineate the big picture of your education – highlight university degrees, masters and PhDs. Believe it or not, but statistics show that the more degrees you have, the higher the chances that your venture will be successful.
“Tell me about the other founders – education, army, managerial and business experience, location.”
What we are interested in here is a short summary version of the previous answers to help us quickly evaluate your cofounders and have some background for references later down the due-diligence process. Also, it’s important to understand how deeply you are familiar with the other team members and how collaborative you are.
“How many direct employees compose the start-up team, and where are they located? Are they full-time employees, or part-time? Are they paid?”
We want to understand the size of the company and the team. Does the team size make sense compared to the results the company delivered so far?
After all the background questions have been asked, the interview shifts gear towards the financial. We’ll dig into the timeline of your funding and sales, alongside your plans for expansion and the approach to the market. We want to understand what you have been able to achieve with the funds raised so far; is the company growing and how fast; does the unit economy makes sense etc...
To evaluate if it is appropriate to move onto further analysis and due diligence with the venture, we’ll inquire into specific aspects with dry questions. There isn’t a lot of wiggling room in the answers – it is mostly to have a better overview and to doublecheck in later analysis. We lead into this section with this set of questions:
“What date was the start-up incorporated?”
We want to overview the financial timeline of your business- and that’s were your timeline begins. Are you a fresh start that achieved much in a short time period, or you are an old business that didn’t make it for the last decade?
“What were your revenues, year by year, and your expected revenue for 2020?”
If the start-up is recent, we’ll ask for quarterly revenues. If it is older than 2 years we'll ask for the annual revenues. We expect to see growth, the higher the better. Great growth rates are of around 15% a quarter and higher. Of note is that we are looking exclusively for the current product offering, so if the start-up has pivoted in the past we are not interested in the pre-pivot revenues or revenues from alternative products/services provided by the company. Last but not least, we expect the founders to have full control of their financials and know by heart about every penny they’ve ever earned in the business.
“What were your external investments till now?”
We want to understand what use you will have with our investment. What have you been able to achieve with the funds raised so far? If you weren’t able to achieve much with the previous funding, why you will be able to now with the money of our investors? In addition, of course, it’s always a pleasure to hear about other prestigious funds that trusted you. Oh, and we love very much founders that bootstrapped! There is nothing second to a personal commitment!
“Are you an accelerator graduate? If yes, from which accelerator?”
Accelerators are a great way to discern the top of the cream. As they usually have strict selection processes, top advisors and initial funding – all of it give an extra degree of credibility. Certain accelerators specialize in a single field and are even better indicators that your product has some relevance to the market it is targeting.
“What are the current round terms?”
While it can just be composed of the amount being raised, the valuation and the deal type, it is important to also mention whether a lead investor is already onboard in the round and if any commitments have been moved forward – be it hard or soft commitments. We do love adequate founders with adequate valuations.
“Product/market fit focus”
Here we want to understand how focused the company is. How many products does the start-up sell? How many types of customers does it serve? The more focused start-ups are what we are mostly interested in, so the best answer to this section is “One product, one customer type”. However, this is a subjective measurement: if the founder shows enough expertise to justify several markets, then it can be an advantage. We also record the size of the target customers.
“Example of notable customers”
Another great stop for the founder to shine! Share with us your best deal accomplishments and highlight how your start-up is dealing with the best clients! The bigger names are in your pipeline, the higher valuations you can ask for.
“Through what channels do you sell your product?”
Having a great product is fundamental, but so is finding the best ways of selling your product. Showing a deep understanding of one’s distribution channels indicates that there are contacts already being built and that the start-up is starting to create revenues. Even if the channels have not been built yet, it is always important to disclose future business plans to build them. What we are less keen to hear is ventures selling their product via a small number of design partners. It's a very risky business model where the start-up doesn’t really own his customers.
“What are your conversion rates?”
From an analytical standpoint, it’s important to understand that the financial model makes sense and is scalable. For SAAS models, we are very happy to hear about CAC, LTV, churn rates and other significant numbers. LTV is expected to be many times the CAC, profit from a customer/CAC should be less than a year and similar. We know that most early-stage start-ups don’t have the numbers to back up the conversion rate – if so, just disclose with us what numbers you have now.
The last part of the interview is really to give the stage to the founder to make a final pitch. Open questions which can lead to complex answers such as “Name outstanding achievements the company was able to reach so far” and “Why should we invest in you” are more than likely to be asked. What we love to hear is how the goals the founders set for themselves and the company have been met and how passionate they are to participate in the venture!
The Post-interview Process
Once the call ends, the interview is not over. We might ask for clarifications in regard to a couple of points that require it, but most importantly the interviewer will score the meeting based on several subjective criteria that will help to have also a personal understanding of the founder being interviewed.
This subjective criterion amounts to a simple 1 to 5 scale that indicates how confident the interviewer is in regards to specific founder's skills and how they envision the scalability and viability of the product. This is the criteria we use:
How well and carefully the presentation is structured is an indication of care from the start-up's team. It speaks volumes when it is aesthetically pleasing. First impressions can be quite important to set up the tone of the call, so having a well-posed presentation is quite important. We expect a short presentation, well designed and strictly to the point.
Leadership, sales, management, and funding rounds need a driving personality behind them. A charismatic founder can provide momentum while talking to investors – being convincing is what leads a VC to move into the due-diligence process.
Simply put, no one wants to work with shady people – especially when it comes to investments. How straightforward is the founder in his answers? Is he avoiding some questions?
Along the same lines in the previous section breakdown, a successful start-up will sooner or later encounter difficult decisions and needs a strong personality at its reins. Ideal we'd like to see a strong leader that can give counter-answers and politely but firmly decline if that’s a call of the hour.
“Is the founder passionate about his product?”
If there is no passion, there is no drive. If there's no drive, then the start-up is less likely to succeed. Leading a start-up is a long, difficult way full of stumbling blocks. If you are not passionate about your product, you will not make it.
“Does the founder express expertise in the field of his business/technology?”
From a founder's answers, we will make a judgement call on how deeply they are familiar with their venture materials. We expect founders to be A-Z specialists when it comes to their start-up domain.
“How many employees can the founder manage?”
This point is related to the leadership skills of the founder. As the business grows, more employees have to be managed. Will the founder make it once his company includes 10 people? And 50? What about 500?
“How talkative is the founder?”
“Can the product make an impact?”
We prefer products that have the potential to “make a dent in the universe”. If the product cannot make an impact it will be more difficult to get it noticed in its market.
“Does the problem exist?”
Do we believe that the problem exists? Has the founder convinced us in that?
“Is the product a derivation of non-existing technology?”
Investments statistics are in favour of products that are addressing an existing technology, not ones that addressing soon-to-come (or not well-thought-out) know-hows. The best way to explain this point is to look at what the lowest and highest score equates to. A 5 indicates the invention of the time machine: the product is clear, original and innovative. A 1, on the other hand, indicates a time machine wiper: it is a solution that will work only if the time machine is invented and disrupts the market. Therefore chances of success of that products are way lower and dependant on external, independent factors.
“Is this tech/product/service part of the industry’s future?”
Here we are trying to evaluate how disruptive the technology might become and whether it will set the tone of the market in the coming years.
“Do you think this problem will exist in the future?”
Like a previous point. If a problem is fleeting, then the company will not last for long, undermining the value of the investment. It is always useful if the founder can explain how he sees the long-term development of the problem: will it stick around for decades to come or is it just a trend?
“Can this turn into news?”
“Would I invest my own money?”
The final and most important metric. This question brings all the considerations above, weights their pros and cons, and states an overall opinion. Anything ranked on a 3 or higher will be scheduled for a further call, while a 1 and a 2 will go under review before proceeding with the pipeline.
This is how we would answer the question of “How do you choose which startups are interesting?”: with a thoughtful-but-light first conversation – and a useful guide for the start-ups looking to approach us.