Any investor would love to stumble upon the next Facebook or Spotify when seeking out early-stage investment opportunities. However, we all know that investing requires risk-taking, and it’s impossible to know with any certainty whether an early-stage startup is destined to be the next unicorn or if it’s fated to fail.
David Sze, the managing partner of Greylock Partners, puts it this way:
“The best early-stage venture capital investments seem obvious in retrospect; however, very few of them are actually obvious when you make them.”
As with anything, investment hindsight is 20/20. As obvious as a company’s future success may seem when looking back, there is, unfortunately, no crystal ball that will give you these answers.
As a young startup starts to gain some traction and generate revenue, there are several angles to consider as an investor, from the business model to its historical financials. But how can an investor judge the merit of an early-stage startup’s idea? In this blog, we’ll look at a few questions to ask that can help investors in this process.
Does it solve a big problem?
According to CB Insights, the number one reason why startups fail is that there was “no market need” for the product or service. For a startup’s idea to be successful, it must serve a market need. Not only must the idea solve a real problem within the market, but it must solve a problem that is commonplace enough (and growing) to actually scale the business. If the problem isn’t big enough, the startup will have difficulty sustaining growth.
Is the solution original, innovative, or thoughtful?
Now, we’ll examine how a startup’s idea aims to address this big problem. Does the solution offer a novel, innovative approach that actually solves the problem? This special spice is something all disruptors have in common. Innovation may come in the form of reimagining current solutions or in building entirely new ones.
Naturally, companies that provide innovative solutions will see copycats crop up–Uber came first, then Lyft. Startups that have novel technology that is protectable have a significant advantage. And even if a company’s technology isn’t protectable, first-mover innovators will have an inherent advantage over competitors that enter the market later.
What is the unique value proposition?
A unique value proposition (UVP), or unique selling proposition (USP), is the distinctive value a startup can offer that its competition cannot–it’s a company’s competitive advantage that makes customers come back.
Usually put into a statement, a startup’s UVP should describe:
- How the company solves the needs of its customers
- What distinguishes it from the competition
To illustrate this, we’ll look at Slack. Slacks’ UVP is that it makes it easier for teams of any size to collaborate. It aims to solve the problem of slow communication between siloed teams while making work communication “more human,” a new approach relative to industry incumbents.
The UVP seems straightforward, but for many businesses, identifying a true UVP is difficult. As an investor, it’s important to look at a startup’s UVP through a critical lens–does the proposed UVP align with the actual product or service provided?
The bottom line
In short, a promising startup business idea will have three primary elements:
- It will solve a real problem with a large market
- It will offer an innovative solution that solves the problem
- It will have a unique competitive advantage
If an early-stage startup’s idea can nail these three critical pieces, it is well-positioned to make it to the next growth stage.
Interested in learning more about valuing early-stage startups? Check out this blog on how to calculate the valuation of pre-revenue startups.
To browse our current startup investment opportunities, head to the offerings page.
*****
The information presented here is for general informational purposes only and is not intended to be, nor should it be construed or used as, comprehensive offering documentation for any security, investment, tax or legal advice, a recommendation, or an offer to sell, or a solicitation of an offer to buy, an interest, directly or indirectly, in any company. Investing in both early-stage and later-stage companies carries a high degree of risk. A loss of an investor’s entire investment is possible, and no profit may be realized. Investors should be aware that these types of investments are illiquid and should anticipate holding until an exit occurs.
