Why you need a diligence report...

I have been spending a lot of time lately with startups going through internal diligence processes in anticipation of being able to meet the needs of funding sources. We have also now interviewed something like 100 investors regarding this specific question. Here's the net result: Before most investors will look seriously, you need:

That's essentially two paths to success...

Previous lead investor

A previous lead investor means:

In other words, these investors only follow other investors who have done a due diligence round with the company, has kept up with it, and potentially has invested again at a higher level.

Investor package

An investor package is:

The other 5% you will have to come up with as they are asked.

How do I get one of those exactly?

There are three main paths to this outcome for early stage companies:

Of course folks who have gone through the process before can often do it themselves, and those with successful exits often go to it again and are very efficient at it, because they have done the rest of the work of succeeding and know what they didn't know the first time.

I waste all of this time and effort for a possible investment?

It turns out this is not a waste. It's actually the opposite if you do it "right". What I mean by doing it right is that it's not actually something you do for the investors. It should be something you do for yourself. And it shouldn't be a static document you create or set of files you produce. It should be a living reflection of your business that you update over time to reflect changes.

Most people who have run their own businesses for a while with reasonable success keep records in a reasonably systematic way. You have to do this to keep track of employees, track sales and costs, manage supply, keep your finances in order and pay your taxes, operate legally and fill out all the required paperwork, manage the uniqueness of your company, and properly run it. A due diligence package is really just a write-up of how you do this combined with (access to) all the actual records you already have if you are running a company.

It's about maturing and growing your company

For a small company, there is often no need to create a report or otherwise document the mechanisms you use to run the business. The employees know what they are doing and the owner knows all about all of the things everyone else is doing. The records are there, and the owner knows how to get to all of it. The owner does the paperwork at the end of each week, month, quarter, and year, and they interact with ail of the other folks involved and make their own decisions.

But as you grow and mature your company, or any business within your company, you no longer have this level of knowledge and control. The CEO of a 250 person company rarely knows all the employees very well. Think about it... meeting with each for one hour once a year would consume 1/8 of your full time effort. If 200 of the workers do more or less the same thing, the owner could know the function well, but it would likely be infeasible to personally check all the work or deal with all of the individual issues over time.

As more people doing more things get involved, it's harder and harder to keep track of things. That's why we use computers and filing systems and keep records, and use those records to keep track of what we are doing.

As the company grows, the same information used in the diligence process is part of the day-to-day operational records of the business. Periodically, or continuously if you are really good at it, you review the company as a whole, looking at all the parts, making sure they are running right, fixing problems, adapting to the changing external and internal environment, and otherwise adapting.

As you mature the company, it has systems in place to measure things, predict what's going to happen based on measurements and calculations, update the predictions with the measurements, and you make decisions based on these predictions and their anticipated accuracy.

That's what investors want to see - and so should you

A good investor wants to have confidence that the people running the company they are investing in know what they are doing. The due diligence process is about finding out whether that is true. Merely saying "I know what I'm doing" is not enough to convince me to give you my hard-earned cash in a bet on your dream coming true. You have to prove it to me to the level necessary to get over my action threshold. And the best proof is the demonstration that you run your company well by showing me how you do it. If you cannot show me that you know what you are doing with some sort of documentary evidence, I am unlikely to take your word for it.

In my experience, the best way to do this is to create and use the due diligence document to keep track of the big picture over time. It's really just as easy to update your document every quarter as a systematic approach to running your company as part of your process for governance and management as any other process you might reasonably use. And by doing so, you will also make sure you haven't missed anything important along the way.

We do this by using systematic processes and standardized approaches to create living documentation that reports and helps to improve the situation over time. It shows you where you have been, are, and are going. And of course that's what investors want to know.

A call to action

Want to get started down a systematic path toward providing an investor package that turns into a way to track and grow your company?

Go To Angel
Present at our forum, get your initial GWiz™ (Growth Wizards) metrics as a first step in the diligence process, and

In summary

Be diligent and prepare for investment. do this by creating an investor package that makes sense to the investors. And while you are at it, make it make sense for you and your company as well...

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