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Ideas are everywhere, and there are very few unique ones. There is a long road between the idea and an actual compelling product, and longer still to a revenue-generating business (and longer still to profits!). It is the team that is going to build the business out of the idea, so you should be as confident as possible that the people pitching to you are going to be able to execute. Many believe that one of the best predictors of success is an entrepreneur who has built and exited one or more successful companies. Absent that scenario, below are some key things to consider after hearing the pitch. (We’ll address team issues in more detail in Business Due Diligence for Angel Investments.)
Your goal here is to figure out whether the team is particularly well-suited to tackle the problem that they have set out to solve because of their skills, background, and experience.
Domain and Functional Expertise
A good team generally has domain expertise in the industry that they are now planning to disrupt, and ideally in the functions that are core to succeeding with that disruption.
Domain expertise (or domain knowledge) means a thorough understanding of a particular field of study. In the context of angel investing, a deep knowledge of a particular industry’s inner workings, including the ecosystem, market, competitors, and customers. Domain expertise can also refer to functional domain expertise, such as a deep understanding of social media marketing or iOS app development.
exampleIf a company is bringing an internet of things (IoT) solution to the managing of railroad cars, it’s important that someone on the team has a thorough understanding of IoT technical architectures (has built IoT systems before) and someone has spent time working in the railroad industry or has specific insight into that industry.
In addition to domain knowledge, is there enough functional domain expterise—practical experience—among the team to tackle the problem they’ve chosen? You might ask it this way: How functionally complete is the team? Is it two engineers with no experience in marketing, sales, or operations? Ideally, each key area of functional expertise required for success is represented by someone on the team. Often, each member of a small startup team is wearing many hats, and so they need to convince you that they can execute those roles or be clear that they will use the money they are raising to hire to fill the gaps. It can be challenging for a very early-stage company to hire a great marketing person, or a great engineering leader, so if a key function is lacking, it creates extra risk for the company.
Evaluating Market Size
The other aspect of an investment opportunity that can sway an investor is the sheer size of the market opportunity presented. Angels and venture capital investors frequently focus on the size of the market for the company’s product to evaluate the potential return on investment.
important It is important that the company can convince you that they can be a $100M-revenue company while owning only a small fraction of their target market. That suggests that the company needs to be targeting a $1B market or larger. Angel investors typically do not want to invest in a lifestyle business* that tops out at less than $10M in revenue, because there are fewer exit possibilities, and it is hard to achieve the levels of returns that VCs and angels seek if the company is going after a small market.
A typical scenario for a startup is that they are targeting a large market, but are starting with a very focused market entry strategy. This is a smart approach: create a beachhead and initial traction with a very focused product in a very specific market and then expand to the broader market as their resources for engineering and sales grow. So while the initial market may be small, the total addressable market (TAM) in which they believe their product, service, or approach will be superior, should be large.