Investment Due Diligence – What is the Screening Process?

Gain insight on the investment process as both an investor and as a business owner.
Posted on
June 10, 2022
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When you go mountain biking you want the right setup. First, you need a good fit between you and your bike. If your bike is too small or too big for you, then you’ll struggle with climbing and safely navigating the terrain. Second, you want the right kind of bike for the terrain. A downhill bike might work well for long climbs, and your road bike probably won’t work at all.  

If you’re a founder looking for investors, or an investor looking for a team to invest in, you also want to find a good fit. Trying to force the wrong relationship can end in trauma for everyone. In contrast, finding the right fit can create a great situation where the business, team, and investor all work together to accomplish the impossible.

Finding the right fit with an investor often follows three stages:  

  • Screening
  • Due Diligence
  • Disclosures

This post looks at several important factors in the screening stage.

Investors use Screening to Identify Potential Investments

If you ever hear an investor say they look at a hundred potential deals every month, they’re referring to their investment screening process. The screening process is basically the investor’s initial steps for evaluating whether a business might be a good fit for the investor’s portfolio. Investors don’t use screening to review a business in detail. They simply want to learn enough about the business to see if it makes sense to dedicate more time to a detailed review.

Every investor will have their own interests and expertise, so their screening process will be unique, too. However, you can generally expect most investors to assess your business on some or all of the following factors:

  • Industry – Is the business in an industry that is expected to grow? Is the business in an industry that the investor finds interesting? Funding businesses in e-commerce or software or professional services or brick-and-mortar retail are all very different types of businesses with different risks and potential returns.
  • Sector – What specific area of the industry does the business serve? How competitive is the sector the business is in? A business might be a software-as-a-service (SaaS) business, but the business models for enterprise SaaS and consumer SaaS platforms will be very different from each other.  
  • Funding Stage – Has the business raised outside investment before? Or is this the first investor in the business? Has the business successfully bootstrapped with their own funding so far? Or is the investor in a late-stage round after multiple rounds with other investors? This is where you hear a lot of people talk about pre-seed, seed, angel, and series (A, B, C, etc.) investment rounds.  
  • Growth Stage – Where is the business in its product development? Has the business identified a target market? Is the business still validating its product-market fit? Or has it gained significant traction and started to expand into other market verticals?
  • Geography – Some investors focus on specific geographic markets based on location, like a state, metropolitan area, or geographic region. Smaller investors tend to invest more locally, but it will depend on the investor’s interests, comfort level, and community focus.
  • Team Composition – Are you a solo entrepreneur? Or are you part of a team of founders? Do you have a balance between business expertise and technical expertise? Or does your team have obvious ‘gaps’ in skills or expertise? Some investors put a lot of emphasis on the team composition, expertise, and/or historical success.  

Are You an Investor?

If you’re an active investor, take some time to assess whether your investment portfolio has a consistent theme across some of these factors. Then consider whether you’re being deliberate and intentional about that direction.  

If you’re a new investor, there’s no better time than right now to focus how you want to invest your capital over the next few years. Take some time to evaluate your experiences, expertise, and interests so you can formulate your investment thesis to cover the factors outlined above.  

If you want some ideas about creating your investment thesis, consider reviewing these links:  

Are You Looking for Investors?

If you’re a founder or business looking for an investor, you have a little more work to do. First, you should think about the types of investor theses that might be a good fit for your idea. Of course, this can be difficult when you’re a startup willing to pivot during your technology and market validation processes.  

Second, once you think you know the screening factors that are compatible with your team as a target investment, research investors and funds who are willing to share (either online or in person) their investment thesis with you. Make sure you consider every word in their investment thesis, because they probably spent a lot of thought forming a concise thesis that covered what they’re looking for. If you can’t find a concrete thesis, take a look at their portfolio companies to determine the types of factors that might be common across their portfolio.

Lastly, make sure you take a moment when you first meet an investor to ask them about their thesis. Dig deeper than the statement that you can already see on their website. Ask them about the specific words and phrases in their thesis—you might find they have a unique interpretation that is more nuanced than what you initially thought.  

Treat your conversation like a journalistic expedition, not a dating pursuit, where you’re genuinely trying to understand their perspective. You’ll probably figure out very quickly whether they are a good match for you, and you also might realize there are additional layers you can add to your perspective about your business as a target investment.

Jeff Holman
Jeff Holman draws from a broad background that spans law, engineering, and business. He is driven to deploy strategic business initiatives that create enterprise value and establish operational efficiencies.

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