Explaining VCs part 3 - The Investment Process

Last time we looked at the investment parameters that VCs look at in general. Now let’s look at the actual process of how an investment gets made.

You can envision the VC investment process as multi-leveled pyramid. At the bottom of the pyramid are all the companies which pass through the fund each year, be it at the level of sending a business plan, pitching to a VC at a conference, or being contacted by us. At the top of the pyramid are the small handful of companies that receive investment in any given year. At every one of the levels in between, the fund will decide to pass on the majority of the companies coming in.

The numbers can be pretty daunting. To give you a rough idea, in any given year, something like 1,200-1,500 companies enter the process with a fund like Giza. We will actually meet with maybe half these companies. And the number of new investments that the fund will actually make is something like 6.

Roughly speaking, the process can be broken down into the following stages:

1. Locating potential investments – it all begins with what we call deal flow: finding the companies that are looking for funding. This comes from a wide variety of sources.

   Giza has a full-time investment manager (Aaron Rothenberg, who many of you already know) whose job it is to find companies and contact them. Other new companies come in via our personal networks. Still others contact us, occasionally submitting their business plans to the Giza website.
   
   In addition to identifying new companies, we also spend a lot of time re-evaluating companies that we have seen in the past and who have made progress with their technology and/or their business development.
   
   We drop a certain percentage of companies at this stage which are clearly not suitable for us (sectors that we don’t invest in, not high-tech, etc). Those that pass go to the next level.

2. Screening and reevaluation – Each week, the fund holds a screening meeting where the investment professionals discuss new opportunities. We look at 20-30 companies, discussing the main points of their business plan or presentation. At this meeting, team members request to meet with those companies that seem interesting.
   
   About a third of the companies make it through the screening committee and actually meet with the investment team.
3. Initial meetings – Following screening, Giza team members (often in teams of two or three) will hold an initial meeting with the company. This is usually a 90-minute meeting where the entrepreneurs present themselves, their idea, and their vision. At the end of the meeting, the VC team will discuss whether the company is worth moving forward with.
   
   About a quarter of the companies that make it to initial meetings willpass this stage.
   
   
4. Due diligence - This is the longest and most involved part of the investment process. Depending on the type of company and the complexity of its   technology, the due diligence process can take anywhere between a month   (in the case of companies going through Giza’s fast-track “Ofek” program)   to four or five in the case of companies with more involved technology.
    
     During this stage the company will be called in for more meetings at the   fund to delve further into its technology and market. Often, the VC will   call in outside experts to help the fund evaluate a company’s technology.   The company will also make a presentation to all the investment   professionals in the fund to allow them to decide whether or not to   invest. At the end of this stage, if the investment still looks good, the   VC issues a term sheet.
    
     About 5 percent of the companies which enter the due diligence process   emerge with a term sheet in hand.
    
    
5. Closing   process and investment – The final stage of the investment process   involves negotiations about the terms of the investment. The VC will   perform additional legal and financial due diligence on the company. Some companies will still drop out of the process (usually due to the company   deciding to reject the term sheet) but the rest emerge as the winners of   the VC sweepstakes.

It’s a long process, and it can be an arduous one. As one startup-ist once said, the odds of becoming a pilot for the Israeli Air Force are better than these. However, we would like to think that the results are worthwhile.

Comments

[Idan Amir]

I completely understand the logic behind the system, but ..
The described method of the over-obligation to the VC's investors can "blind" every business instinct the VC managers has ...
my comment addresses only for the initial "filtering" you described, not for due diligence and negotiations stages.
there are a lot of non "scientific" parameters, such as the entrepreneurs ambitions, abilities, hunger and specific business opportunities within the company or concept that doesn't meet the professional eye.
and yet, objective professionals should be involved from first meetings
with their educated opinion taking a valuable place, but again be filterd.

but (again) .. it's a brief thought and it's only me..

[Private Commercial Lender]

Some great information.... thanks for sharing!