Venture Capital funds are one of the better addresses to go to when looking for funds to develop your business. But money is not everything, argues in an interview with Digitized Diana Koziarska, managing partner at Smok Ventures. What else should you pay attention to?
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Jakub Rusak, Digitized: Good morning, I have an idea for a revolutionary startup. Can I count on your financial support?
Diana Koziarska, SMOK Ventures: (laughter) It's not that simple, you have to give me something more.
I don't have much more - it's just me and my idea. But I assure you, it's revolutionary.
Your assurance is unfortunately a bit too little. Yes, venture capital is high-risk investment, but when evaluating proposals we always try to minimize this risk. After all, startups are companies that are inherently experimental, and experiments have a habit of not always being successful. The good news, however, is that as a pre-seed or seed investor, i.e. investing capital in companies at an early stage of their development, i.e. when the target product does not yet exist, I pay the most attention to the team.
Great, I have a young and dynamic team. Is that enough?
It depends. From a less experienced team, I expect more so-called traction, i.e. confirmation that they can really deliver projects. A serial entrepreneur usually doesn't have to worry about this as much, because I assume that they have already proven their skills in the past.
So let's assume that I managed to prove my effectiveness. Is there anything else you would pay attention to in such a situation?
The next important element is the market. It is important to prove to the investor that the target is a developing market, where there is currently a demand for a product or service. The final stage is to verify this need and validate the product itself. Will customers really want to pay for it? If your answers satisfy the investor, there is a good chance that you will receive the expected funds from them.
However, neither party has a guarantee that the business idea will work out.
That's true, but VC funds are naturally open to this risk and can diversify it. By creating a portfolio of companies, they can afford less secure investments, because what matters to them is the overall result of the investment portfolio, not the results of individual startups.
And this is their main advantage over other forms of raising capital?
Among other things, yes. One of the biggest advantages of working with VC is the scale that can be achieved through subsequent rounds of financing. Funds usually aim for long-term cooperation with the startup and expect returns on investment only over the next 5-10 years. In the meantime, they act as a strategic advisor and use their reputation and extensive network of contacts to help their portfolio companies more efficiently raise subsequent rounds of financing.
This is a good moment to change perspective. As a budding entrepreneur, should I somehow verify the fund to which I am applying for financial support?
Definitely. The relationship between a startup and a VC fund is a partnership. Therefore, just as the fund verifies the startup, the startup should thoroughly verify the fund.
How to do it?
First and foremost, attention should be paid to the investment strategy of the fund: in which industries it invests its capital, what its expectations are regarding the speed of building the company, the intended scale of business development and the exit strategy from the investment, and whether these expectations coincide with the startup's plans. Most funds operate in a closed model, which has a defined lifespan. It is therefore also important at what stage of the investment period a given entity is. The beginning of this period means that the fund will be able to continue its investments in the company, the end - a quick exit from the investment and sale of shares in the company.
Money is not everything. You also emphasized the importance of reputation earlier. What determines it in the case of a VC fund?
A good reputation is the sum of several factors: accurate investment decisions and results of portfolio companies, but also how the fund builds relationships with other investors, how it treats entrepreneurs and whether it offers something beyond a monetary investment. This could be, for example, a network of contacts, mentoring or strategic advice. Therefore, before choosing a fund, I recommend talking to the founders of companies from its portfolio and asking about the quality of cooperation. These conversations can also give some idea of the terms on which a given fund enters into agreements. However, it is also worth checking what the standards are in the market, and consulting with lawyers specializing in these matters.
Despite all these efforts, a large part of the investments turn out to be a failure. Why?
We must remember that the success of an investment is a complex process and many factors influence it. Some of the most common reasons for startup failures are a lack of market need for the product and a thoughtless fixation on one's vision. Both of these problems can be easily solved by conducting an open dialogue with potential customers from the outset. Other reasons for startup failures I would point out are technological complications, lack of scaling skills and the indirectly related inability to raise subsequent investment rounds. Sometimes more mundane issues also decide: a poorly matched team, a bad business model, ineffective sales. Usually, however, it is a combination of several reasons.
Finally, I have to ask about the hottest topic of recent months. Can AI in any way support the optimization of fund raising processes and investment evaluation?
Definitely yes. The capabilities of artificial intelligence can be useful, for example, in gaining knowledge about new investments and in market analysis and research. With large data sets, AI can also be used for historical data analysis and predictive analytics to gain more knowledge from past investments and company building processes, and then implement this knowledge in subsequent investments. What's more, properly trained artificial intelligence can also help us avoid biases in company evaluation. In this case, however, it is important to be aware of what data we provide to it and how we interact with it, so as not to instill our own stereotypes in it. So I think that at least at the beginning, AI assistance will be most noticeable for later-stage investors, as they have access to the largest amount of data, both private and public.
The above interview is an introduction to a series of articles in which we will look at the characteristics of startup environments in Central and Eastern Europe (CEE).
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Diana Koziarska – managing partner at SMOK Ventures fund. Co-founder of ReaktorX, one of the leaders of the Polish investment-startup community and ambassador of Startup Poland. In addition, CESA Female Role Model of the Year, Strong Woman in IT, Forbes 30 Under 30.
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