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50 Questions: How does a VC evaluate a company’s product?

Seventeenth in a series of weekly posts by myself and Nicholas Lovell of Gamesbrief which answer the fifty questions you should ask before raising venture capital.  We expect the series to run for a year after which we will collate the posts into a book.  You can find the rationale behind the series here, and the list of questions here.  We welcome your comments on any and every aspect of what we are doing.

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clip_image002One of the big trends in startup financing is that value is being created earlier in the life of a company and the VCs who want to invest before the value inflexion point increasingly need to evaluate companies that have yet to generate meaningful revenues, and therefore before the strength of the product has been validated by customers to any great extent.  In this situation we evaluate the product in the following ways:

  • Detailed look at the limited customer data available, maybe from an alpha or beta release, or free trial.  75% of new product launches fail and many VCs find it hard to invest without at least this minimal level of customer validation of the product.  (The major exception being when they have previously backed the founder.)
    • How customers are using the product.
    • The benefits they get from it.
    • What they say about it.
  • View a product demo and compare it with other competing products.  Application speed, user interface, ease of use, and fit with existing practices are the things I look for.  Product demos are increasingly common in first pitches.
  • Analysis of the feature set compared with the competition and the customer requirement.
  • Solicit the view of trusted experts – typically these will be members of the VCs extended network who have knowledge of the startup’s market and they will opine on multiple areas of the business, including product.  This includes discussion with prospective customers.
  • Online research – what do people say on Twitter, Quora, blogs, etc.? have any analysts commented on the company or its competition?
  • Assessment of the product management function.  The key things to look for are experience, passion for the product, understanding of the customer problem (many of the best products are built by founders because they themselves needed the product and would have been customers and hence have an intimate understanding of the requirements), and the extent to which the organisation obsesses about having great product.  The younger a company is the more focus there should be on product.
  • Assessment of the likely profitability of the product – particularly its gross margin potential.
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