Explaining VC Part 4 – So, what are we looking for?

Thus far, we’ve looked at how the VC model works and what the investment process is. Now, we have to tackle the question that most entrepreneurs have of us, namely, “Just what is it you people are actually looking for?”

Unfortunately, I have no simple answer to this question. There are so many different factors that come into play when deciding to make a VC investment that it is impossible to generalize a rule. However, I can offer up a well-known framework for thinking: the combination of technology, market, and team.

As investors who look to put money into high-tech money with a time horizon of 5-7 years, our ideal company would have the following combination of traits:

• Technology /product– Obviously innovative, something that can lead the next generation, technology that has significant advantages over the competition, has the potential to be disruptive, and has strong IP protection.
• Market – I’ve mentioned this before, but we are looking for a product with significant market potential (theoretically in the billions), in a growing market, with proven success stories and exits.
• Team – A dedicated group of founders with passion, drive, and vision; people who have a deep understanding of the market they are operating in and have experience in similar ventures; a group of individuals who balance and complement each other.

In the real world, of course, you will find very few companies that fit the description above 100%. So, Generally speaking, you start looking for combinations. As a general rule of thumb it’s enough that a company has two out of the three components (technology, market, team) for it to start looking interesting.

Which two components are the most significant often depends on the fund you are talking to, and quite often the specific investment professional looking at your company.

As a general rule, Israeli VCs tend to emphasize team and technology. This comes as a result of Israel’s position in the world. As a small country with few national resources and a tiny local market, Israel’s biggest asset is its people and especially the Israeli talent for finding clever technical solutions to tough problems.

The fact that Israeli companies have traditionally excelled technologically more than anything else leads to a certain bias in that direction. However, over the last year I have seen more willingness by local VCs to fund companies whose strengths are less technological and more in their innovative business model and/or their target market. Giza’s investment in Koolanoo Group, which develops a Chinese social network, is one example but there have been numerous others. Internet companies have a tendency to fall into this category.

I said before that what counts is a combination of three factors. In reality, the team counts for more than the other two combined. A great team is always critical no matter if you are a technology or market play.

A great team, the thinking goes, will be able to adapt its technology or business model as market conditions change, so it doesn’t actually matter what the initial product is. And if the entrepreneur is good enough, a lot of funds have Entrepreneur-in-Residence (EIR) programs where they work together with the entrepreneur to build a company from scratch.

What makes a great team? Another difficult question. Ideally you should have one person who is very strong technologically, another who is strong on the business side and one person who can manage the operation. The team should also be able to work well together, both during the good times as well as the crisis points.

Next time: Tips for dealing with VCs

Comments

[Gideon]

Hi Shai, I'm continuing to enjoy this series! What you're saying doesn't seem to bode well for local web startups, the vast majority of which lack any deep tech. Without a technological USP, do you think Israeli web companies have a chance against those in the Valley?

[Aner]

I love this series as well! A couple of comments though (I must :-) )

While I am familiar with the 3 points of course, I believe that in reality they are a bit different.

1. Team - the real definition of a great team is having a founder that has already succeeded once and that has a good past relationship with one of the partners in the VC. If the founder has good industry connections and reputation it also helps. Raising money is 100 times easier for a post exit founder with a clueless idea than for a first time founder with a fantastic team and idea. This criteria helps minimize management risks as well as job security risks.

2. Technology - no matter how you spin it, Israeli VCs look for patents / engineering / breakthrough technology / everything that can survive weak marketing and problematic business models and still be sold to an American giant. This is true with (most) internet companies as well.

3. Business Model / Marketing - Generally Israeli VCs do not present a better understanding of the business environment and how to attack it than the entrepreneurs. Most of my friends in the VCs are very smart, but thy are not marketing people at all. This doesn't mean they are ignorant, not at all, but they often confuse product for marketing. This is very different in American VCs which are much more marketing focused.