What to Look for When Screening Early-Stage Startups

This guide, originally published on my blog, provides a framework for corporates, investors, and startup programs to effectively screen early-stage startups, while also helping entrepreneurs better prepare for such evaluations. It covers crucial aspects such as technology, business models, financials, team dynamics, legal considerations, and more. Additionally, it highlights common pitfalls to avoid and emphasizes the importance of a holistic, data-supported approach in making informed decisions.

Click here to download the PDF version of the article.

This framework is based on my experience screening thousands of startups from all over the world. I've done this for programs I've managed at IBM and SAP and for dozens of large multinational customers during my work at Deloitte, including companies like TD Bank, Panasonic, The European Union, UBS, Mastercard, Mitsubishi, and many more.

The methodology outlined here is ideal for screening early-stage startups with a preliminary working solution, initial customers (or significant design partners), and secured initial funding. However, it can also be useful for screening later stages (selling globally, and post series A round).

Purpose of Screening: Corporates, investors, and startup programs like accelerators screen early-stage startups for various reasons. Typically, the goal is investment, forming partnerships, program acceptance, or future acquisition (although M&A is less relevant for early-stage startups). While each purpose has its own characteristics, this high-level guide serves as a relevant basis for all.

Screening vs. Selection: Screening aims to narrow down the number of startups and form a 'short-list' or make a quick 'go/no-go' decision before diving deep into details. Usually, screening is the first step before the selection phase, which involves thorough due diligence and multiple stakeholder meetings.

Mutual Benefit: This guide can assist both screeners (corporates, VCs, CVCs, accelerators, angel investors) and startups. For screeners, it outlines key questions and focus areas. For startups, it highlights what to prepare before meeting potential partners or investors.

Aspects to Review When Screening Early-Stage Startups

To gain a comprehensive understanding of a startup's potential, it is crucial to review various aspects of the venture. Carefully assessing the following areas will help in making informed decisions and identifying promising startups for further evaluation. Note that not all of these aspects will be relevant for every screening purpose or startup phase.

(1) First Impression

First impression is important for startups competing for attention. A good first impression results from professionalism, attention to detail, and the founders’ communication skills. While it's important not to judge solely based on a first impression, it can be influenced by subconscious biases and values, which are hard to control or ignore.

• Website: Professional, clear, well-designed, and informative, with updated content, product/service descriptions, value propositions, customer testimonials, or case studies. Also consider external publications like reviews, ratings, LinkedIn pages etc.
• Presentation: Effectively communicates value proposition, aligned with expected structure and content, self-explanatory if being sent, balanced text and images reflecting design expectations.
• Emails: Prompt, professional, aligned with reader’s communication style, authentic (no copying traces), and consistent (no multiple fonts).
• Meeting/Call: Effective time management, handling questions, meaningful dialogue, basic/business manners, evidence for preparations, listening skills, follow-up actions, and responsiveness afterwards.
• Reference: Who made the connection and how much they are valued and credible.

(2) Technology Aspects

A startup's technological foundation is often its core differentiator. An initial tech assessment helps understand fundamental fit and potential for commercialization and scalability.

• Product Maturity: Transparency about development stage (MVP, beta, launched) and alignment with goals/plans.
• Enterprise Readiness (Scalability): Architecture and infrastructure stability and reliability to scale, enterprise-grade security certifications, integration capabilities.
• Integrations: Plans for system/platform integrations, APIs, SDKs, compared to competition.
• Competitive Advantages: Unique technological features, difficulty for competitors to replicate, performance metrics, patents.
• Roadmap: Clear plan and vision for future developments, timelines, milestones, alignment with emerging technologies.

(3) Business Aspects

Innovative technology must translate into a viable business. This assessment focuses on market understanding, positioning, growth plans, and revenue generation.

• Company Age: Relative development stage, growth rate, milestones achieved, pivots or major strategy shifts.
• Customer Base: Current clients, leads, customer growth, churn, retention rates, satisfaction metrics, sales pipeline.
• Customer Feedback: Testimonials, case studies, reviews, ratings.
• Market Size and Opportunity: Total addressable market (TAM), market growth, realistic market share vision.
• Market Coverage: Sectors and regions served/planned, targeting industries and geographical focus, market penetration challenges.
• Business Model: Clear pricing strategy vs. market standards, revenue streams, customer acquisition costs, lifetime value, recurring revenue potential.
• Go-To-Market and Partnerships: Direct sales vs. channels, strategic partnerships, ability to secure/manage partnerships, exclusivity agreements.
• Competitive Landscape: Key competitors, unique selling proposition, differentiation points, existing competitor relationships (VC: Companies in portfolio, Corporate: Existing partners). *Existing relationships with competitors are not necessary a bad thing.
• Business Roadmap: A clear plan for coming quarters/years, including team expansion, new features/products, future funding rounds, potential partnerships.

(4) Financials

Financial health indicates stability, growth potential, and viability. Key metrics provide insights into resource management, revenue generation, and growth potential.

• Funding History: Completed rounds, raised amounts, funding progression, down rounds, valuation trajectory.
• Burn Rate and Runway: Capital efficiency, operational runway without additional funding, spend allocation.
• Revenue Metrics: MRR, ARR, growth rates, seasonality, revenue sources, alignment with roadmap.
• Average Contract Value (ACV): Typical deal size, alignment with market and stakeholder expectations, upselling/cross-selling potential, relation to customer acquisition costs.
• Investor Profile: Backers' track record, strategic investors, continued support from existing investors.

(5) The Team

The team, especially the founders, determines a startup's success. Evaluating skills, passion, adaptability, work-culture, and teamwork is crucial.

• Team Size and Structure: Balance between technical and business roles, full-time vs. part-time, payroll vs. equity, unfilled critical positions, clear reporting lines and responsibilities
• Leadership Experience: Relevant industry/entrepreneurial background, management experience, past successes, division of responsibilities, network and industry connections.
• Focal Point: Main point of contact for the engagement, involvement of mid-level management vs. founders/CxOs.
• Team Diversity: Mix of skills/perspectives, professional backgrounds (tech vs. business, startup vs. corporate), gender and ethnic diversity.
• Skills: Missing critical skills, in-house vs. 3rd party, use of advisors/consultants, plans to address skill gaps.
• Location: Impact on operations/growth, ability to sell/serve customers, access to talent pools, regulatory advantages/challenges.
• Cultural Fit: Alignment of organizational culture and values, and its impact on the potential for successful collaboration and integration.

(6) Motivation

Understanding a startup's motivation and alignment with your own is crucial, but the topic of motivation is usually not being discussed during initial screening stages, even though it can save a lot of time and effort.

• Strategic Alignment and Priority: Fit within the startup overall strategy, long-term vision, commitment beyond the initial enthusiasm, broad support from co-founders, board, investors etc. How important is the potential engagement for both sides?
• Timing: Readiness for engagement, other major milestones, ability to take on commitments, time-sensitive factors (market conditions, regulatory changes).

(7) Joint Value Proposition

This section focuses on the potential synergy between your organization and the startup, assessing complementary strengths and future possibilities.

• Joint Use Cases: The value/impact for end customers, enable new market penetration, new offerings, clear business impact.
• Alignment with White Spaces/Solution Gaps: Addresses pre-identified pain points and gaps, confirmed by industry reports and industry trends.
• Customer Request: Concrete customer requests forming engagement, market demand.
• Competitive Considerations: Experience with competitors, potential conflicts of interest, impact on competitive position.

(8) Legal

Legal considerations, while often reviewed later, can be crucial. Early review might be necessary if legal aspects are critical.

• Corporate Structure: Legal entity type, registration status and country, equity structure, cap table, stakeholders.
• Intellectual Property: Patents, trademarks, copyrights, licensing agreements.
• Regulatory Compliance: Industry-specific regulations (e.g., HIPAA, GDPR, CCPA), necessary licenses/permits.
• Data Protection and Privacy: Data handling/privacy policies, compliance with data protection laws.
• Contracts and Agreements: Key customer/vendor contracts, employment agreements, partnership/distribution agreements, exclusivity clauses.
• Litigation: Potential legal risks, ongoing/past lawsuits.
• International Considerations: Cross-border legal issues, compliance with international trade laws.

(9) Overall Impression

Quantitative metrics are crucial, but so is the overall impression. This holistic view synthesizes all information, considering cultural fit and interpersonal dynamics.

• Stakeholder Feedback: Input from decision-makers or future owners of the engagement, supporting stakeholder departments (tech, business, legal), level of enthusiasm.
• Alternatives: Review of similar startups, differentiation, potential synergies/conflicts with existing portfolio companies or partners.
• Chemistry: Cultural fit, alignment in work styles, decision-making processes, company values.

Closing Thoughts and Summary

Engaging with startups is a funnel-based process where every step is crucial. While this guide provides a comprehensive framework for early evaluation, it's important to remember that each startup is unique, and flexibility in your assessment is key.

Key Takeaways:

• First impression matter but is just the beginning. Look beyond polished presentations to the substance beneath.
• Technology and business aspects should be evaluated together. A great product without a solid business model (or vice versa) is unlikely to succeed.
• Financial health and team composition are critical indicators of a startup's potential for growth and sustainability.
• Understanding the startup's motivation and the potential for synergy is crucial for long-term success.
• Legal considerations, while often addressed later, can be deal-breakers if not properly managed.
• Always consider alternatives.
• Trust your overall impression but support it with data and stakeholder input.

Common Pitfalls to Avoid:

• Skipping or rushing through due diligence can lead to overlooking critical issues.
• Being too optimistic about market size or ignoring competition.
• Focusing only on individual founders without considering team dynamics.
• Being influenced by current trends or hype around certain technologies.
• Ignoring the importance of cultural alignment.
• Assuming a startup has product-market fit without a proper validation.

The goal of screening is to identify promising opportunities efficiently. This guide serves as a starting point, helping you ask the right questions and focus on key areas. As you gain experience, you'll develop your intuition and additional criteria specific to your organization's needs and goals.

Thank you for your interest in how to screen early-stage startups. Please contact me if you wish to learn more or discuss the topic further.

Click here to download the PDF version of the article.