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When trying to identify new investment opportunities in early-stage companies, it is very difficult to identify what will make them winners. Over the years, Mylor Ventures, one of our partners, have developed a ‘prism’ through which they look at every opportunity. Here are their top tips for conducting your own personal due diligence.

There are five key areas:

Value proposition

Why will customers or clients buy this product or service? These need to be significantly better than current alternatives and, as a rough guide, we look for at least 50% - i.e. 50% cheaper, faster, better, greener – whatever the business might be.

Market

Market size should ideally be global – and dynamics are key. Regulation is playing an increasingly important part, but this moves very slowly. We would also like to identify key companies or demographics that would demonstrate the value proposition is attractive. We also generally will only invest in sectors we know. Admittedly, this is quite a wide range these days, but if the sector is unfamiliar to you, then get to know it before you invest.

Barriers

Ideally, we look for some form of Intellectual Property – be that Patent (pending), contracts, relationships, knowhow etc. A very complex area, but the company will need to demonstrate some form of sustainable competitive advantage.

Management

Perhaps the one area where we ‘go to town’ is getting to know management teams. It’s vital that they can demonstrate significant knowledge of their markets. This is one area where companies should be able to demonstrate their strength early on. Overall, we are looking for passion and commitment.

Financials

We discount any sales projections significantly. We see very few that achieve them, and it's important to look for the corresponding resource to deliver sales. Ideally, we would want gross margin covering HR costs; if not already, then as early as possible. Valuations need to be realistic. More often than not, investors are taking 100% of the financial risk – [S/EIS aside], and further dilution to be expected. Low-cost bases will allow early-stage companies to ‘pivot’, which has happened in just about every company we have invested in. Lastly, we would look for ‘scale-ability’, can this company grow with a need for modest amounts of capital?

Should companies pass this initial screening, we then look for certain benchmarks.

We are particularly keen on companies that have been ‘bootstrapped’ to get to sales. By that, we mean that the management team have begged and borrowed to deliver a product or service that the market is buying. This would be a significant benchmark for us. It demonstrates a number of things to us: management passion and dedication, domain knowledge, efficient use of capital and crucially, market proof of the value proposition. Nowhere is this more important than in ‘Software as a Service’ companies.

Reputable Non-executive directors [NED] are also important. This will usually indicate that someone with very significant domain knowledge has also bought into the story. Our NED focus will always be on those who have been in a sector for a number of years, as opposed to general advisors.

The last point we would make is ‘gut feel’. It's almost impossible to define, but the rule here would be if it doesn’t feel right, it isn’t right. There are plenty of opportunities out there!

Investments of this nature carry risks to your capital. Please Invest Aware.