There are many reasons to not invest in a startup. Among others, these include concerns about the size of the market opportunity, the startup’s ability to capture value from its product, the competitive threat, the business model, and the investment terms.
Among potential reasons to pass, some are not related to the founder. For example, in the list above, this includes concerns about the investment terms.
However, most of the reasons to pass are in fact derivatives of the founder. In the list above, it’s the founder who decides to pursue a small opportunity, builds a startup in a part of the value chain that makes it difficult to capture value, is unlikely to be able to outperform competition, and is unable to build a strong business model.
So when you’re not investing in a startup for one of these reasons, which is most of the time, you’re not investing primarily because of the founder.
An investment memo is a very useful tool to help collect your thoughts in advance of an investment decision. It’s basically a document that summarizes the important factors which help inform an investment decision.
In the context of a startup, these factors include a minimum of the team, the market, traction (if the company has it), and the investment terms. It can also include case-specific factors like likely future expansion areas and regulation.
Rather than invest solely based on consuming the information presented by the company you’re evaluating, the advantage of investing based on an investment memo that you prepare is that it forces you to articulate your understanding of the company. Doing so may help you identify weaknesses in the argument you’re trying to make which may lead you to reconsider your conviction in the investment, holes in your knowledge which you need to go back and address, or alternative approaches to areas like the team, market, and investment terms which you may want to discuss with the company.
In terms of format, investment memos tend to come in the form of Word documents or Powerpoint presentations. I prefer written text because it promotes substance over style and forces you to articulate your thoughts at the level of depth enabled by sentences rather than the more superficial level which results from using bullet points.
And an investment memo doesn’t need to be long. If you’ve done your research and thought about the startup at length, 2 to 3 pages of crisp text written in half a day is all it takes.
The resulting improvement in the rigor of your thinking and the quality of your investment decision makes the time investment well worth it.