Venture capital is a competitive business. There are roughly a thousand venture capital firms in the US, all vying to find the next runaway smash hit of a startup. It all starts with deal flow. Generating high quality deal flow is paramount to a successful investing strategy. So how do venture capitalists (“VCs”) source their deals? That’s the topic of this post.
Personal networks. First and foremost, its about personal networks. These are the networks that each individual VC has built over time. Networks are built from a wide array of experience and situations, including the friendships and contacts a VC develops from their hometown, university, graduate school, their various jobs, the organizations that they belong to or participate in, their industry networking efforts, entrepreneurs they have worked with (or backed) before, other venture capitalists they have worked with (or co-invested with), the firm's venture partners or other advisors, the limited partner (“LP”) investors in their funds, the service providers they work with (investment bankers, commercial bankers, accountants, tax advisers, consultants, attorneys, etc.), their neighbors, their family, and more. Recently a VC told me that one of their fund’s best investments was sourced through the VC’s neighbor, as they were talking in front of their homes. It all starts with personal networks.
Other venture capitalists. In the discussion of personal networks above, venture capitalists are mentioned. This is so important, that separate discussion is warranted. Venture capitalists network with other venture capitalists all the time, whether it's from sitting on company boards together, being investors in the same company, to speaking/attending conferences and other industry events, etc. If an early stage VC investor invests in the Series A round of a promising company, when the company is ready to raise its Series B, the the VC may reach out to appropriate VCs in their network to invite them to look at the deal. Or, if the VC can't participate to its full pro rata portion of the next round of financing, the VC may reach out to their network of VCs (and sometimes LPs) to take up the slack. Venture capitalists also see lots of deal flow that isn't right for their fund, whether it's in a sector or geography they don't invest in, or too early or too late of an investment for their strategy, etc. If the deal that's not right for them looks like a good deal, they will often introduce their VC friends to the opportunity. The VC network is a very strong network and can be very valuable for deal flow.
Thematic outbound approach. A thematic outbound approach is one where a VC firm will develop a thesis about an emerging industry, technology, or business model, research it and identify the entrepreneurs and companies that are developing this opportunity, and then reach out to meet these people. A lot of the legwork for this is often done by junior associates at the venture capital firm. The VCs then either use their network to obtain warm introductions to these people and companies or cold-call them (or cold email them or contact them via social media) to meet with them. After they have met and develop relationships with the entrepreneurs and companies in the space, they will focus on the few that they think will be winners and work to be the lead investor, or a co-investor, in the company’s next financing round.
Reading and writing. Most VCs I know are voracious readers. One well-known VC told me he reads about his target sectors every morning when he’s on the treadmill. A VC may read about a new technology or business model, a scientist developing a unique approach to curing an illness, an entrepreneur taking a new approach to an old problem, etc., which spurs the VC to do more research and then reach out to the people developing these technologies and businesses. Also, many VCs write articles for publications (hard copy and online), and many VC firms and individual VCs have blogs, and post frequently. Writing or blogging enhances the visibility and reputation of the firm and/or individual VC, and can lead to inbound contact from entrepreneurs.
University relationships. Universities are fertile grounds for VCs. Many VC firms have relationships with university tech transfer offices, MBA programs, university accelerators, entrepreneurship centers, student entrepreneur groups, and even the general student population (via a student ambassador). There are many different approaches when it comes to how a VC will interact with a university (some paid, some joint ventures, some free). In addition, some VCs will teach courses on venture capital, technology, innovation, entrepreneurship, etc. at universities and develop relationships with other professors and university staff through those efforts.
Scout Programs. Many VC firms have implemented "scout" programs, where a scout works to identify promising companies and/or entrepreneurs on behalf of the firm. Some of these programs are formal and some are more informal. Some provide the scouts with funds to invest in opportunities they find and allow them to keep a slice of the profits. Others give the scout a small stipend and/or a piece of the profits from the fund's investments that they scouted. A number of VC firms are deploying scouts in universities and in regions that are less trafficked by VCs.
Corporate relationships. Leading businesses are also good sources of deal flow. Some VCs specialize in working with corporates to commercialize research efforts or nascent businesses born inside these large companies. Many large companies simply can’t devote the attention or resources to all of the research developed in-house, and so working with VC firms to spin out the technology or startup business (and retaining an equity or royalty stake) can be a good result for the company. It can also be a great source of deal flow for VCs.
Conferences, seminars, events and demo days. Many VCs will attend industry conferences and seminars to meet entrepreneurs, limited partners and other VCs, and to stay abreast of recent development in their sectors of focus. VCs often speak at these events, which helps to develop their personal reputation and network and also leads to inbound inquiries from entrepreneurs. Some VCs have developed their own conferences / seminars / events for their sectors, or are affiliated with conferences. These can be great ways to get to know the companies in target sectors. Others have lunch and/or dinner programs where they invite sector experts to discuss topics of the day. There are now many accelerators (groups that offer defined programs and resources to qualified startups in exchange for equity in the startup), and most of these have “demo days” where startups graduating from the program will make short, rapid fire presentations to an auditorium full of potential investors (if you have the chance to attend a demo day, you should for the experience). Many VCs will attend these demo days, and others will obtain early access to the companies (prior to the demo day).
Accelerator relationships. Further to the discussion of accelerators above, some VCs will have formal relationships with accelerators, either as an investor in the accelerator, or as a partner sponsoring the accelerator program. These relationships may provide the VC firm with the right to network with the startups in the accelerator program. Other VCs will serve as mentors to the startups going through the accelerator programs, which provides the VC with a direct relationship with the startup and its founding team, and can lead to an investment from the VC.
Professional Associations and Organizations. Professional associations and organizations abound, and VCs are active participants in many of these organizations. Many VCs are active in the National Venture Capital Association, the venture capital industry’s leading trade association in the United States. Other VCs are involved in groups like Young Presidents’ Organization (YPO) or Entrepreneurs’ Organization (EO), The Indus Entrepreneurs (TiE), the Kauffman Fellows Program, local venture capital associations, angel investment groups, and more. These professional associations can provide deal flow and also help the individual VC’s network to grow.
Data-driven approaches. Many VCs are developing their own proprietary systems to discover, track and contact entrepreneurs and companies. These systems will use algorithms to search the internet, scrape sites like LinkedIn and social media sites, and integrate data from subscription data providers into a robust database that the firm can use for their outbound deal sourcing program. Other VC firms use subscription services to create these databases.
Inbound sources. Most of the above are outbound sources of deal flow. VCs also have deal flow from inbound contacts. As the firm’s or individual VC’s reputation grows in the industry, inbound inquiries will be a greater source of deals. Inbound sources of deal flow include cold emails from entrepreneurs, contact forms on the VC firm’s website, inbound contact from a VC firm’s or individual VC’s blog, cold contact requests on LinkedIn and other social media, etc.
Other notes:
© 2019 Allen J. Latta. All rights reserved.
Other venture capitalists. In the discussion of personal networks above, venture capitalists are mentioned. This is so important, that separate discussion is warranted. Venture capitalists network with other venture capitalists all the time, whether it's from sitting on company boards together, being investors in the same company, to speaking/attending conferences and other industry events, etc. If an early stage VC investor invests in the Series A round of a promising company, when the company is ready to raise its Series B, the the VC may reach out to appropriate VCs in their network to invite them to look at the deal. Or, if the VC can't participate to its full pro rata portion of the next round of financing, the VC may reach out to their network of VCs (and sometimes LPs) to take up the slack. Venture capitalists also see lots of deal flow that isn't right for their fund, whether it's in a sector or geography they don't invest in, or too early or too late of an investment for their strategy, etc. If the deal that's not right for them looks like a good deal, they will often introduce their VC friends to the opportunity. The VC network is a very strong network and can be very valuable for deal flow.
Thematic outbound approach. A thematic outbound approach is one where a VC firm will develop a thesis about an emerging industry, technology, or business model, research it and identify the entrepreneurs and companies that are developing this opportunity, and then reach out to meet these people. A lot of the legwork for this is often done by junior associates at the venture capital firm. The VCs then either use their network to obtain warm introductions to these people and companies or cold-call them (or cold email them or contact them via social media) to meet with them. After they have met and develop relationships with the entrepreneurs and companies in the space, they will focus on the few that they think will be winners and work to be the lead investor, or a co-investor, in the company’s next financing round.
Reading and writing. Most VCs I know are voracious readers. One well-known VC told me he reads about his target sectors every morning when he’s on the treadmill. A VC may read about a new technology or business model, a scientist developing a unique approach to curing an illness, an entrepreneur taking a new approach to an old problem, etc., which spurs the VC to do more research and then reach out to the people developing these technologies and businesses. Also, many VCs write articles for publications (hard copy and online), and many VC firms and individual VCs have blogs, and post frequently. Writing or blogging enhances the visibility and reputation of the firm and/or individual VC, and can lead to inbound contact from entrepreneurs.
University relationships. Universities are fertile grounds for VCs. Many VC firms have relationships with university tech transfer offices, MBA programs, university accelerators, entrepreneurship centers, student entrepreneur groups, and even the general student population (via a student ambassador). There are many different approaches when it comes to how a VC will interact with a university (some paid, some joint ventures, some free). In addition, some VCs will teach courses on venture capital, technology, innovation, entrepreneurship, etc. at universities and develop relationships with other professors and university staff through those efforts.
Scout Programs. Many VC firms have implemented "scout" programs, where a scout works to identify promising companies and/or entrepreneurs on behalf of the firm. Some of these programs are formal and some are more informal. Some provide the scouts with funds to invest in opportunities they find and allow them to keep a slice of the profits. Others give the scout a small stipend and/or a piece of the profits from the fund's investments that they scouted. A number of VC firms are deploying scouts in universities and in regions that are less trafficked by VCs.
Corporate relationships. Leading businesses are also good sources of deal flow. Some VCs specialize in working with corporates to commercialize research efforts or nascent businesses born inside these large companies. Many large companies simply can’t devote the attention or resources to all of the research developed in-house, and so working with VC firms to spin out the technology or startup business (and retaining an equity or royalty stake) can be a good result for the company. It can also be a great source of deal flow for VCs.
Conferences, seminars, events and demo days. Many VCs will attend industry conferences and seminars to meet entrepreneurs, limited partners and other VCs, and to stay abreast of recent development in their sectors of focus. VCs often speak at these events, which helps to develop their personal reputation and network and also leads to inbound inquiries from entrepreneurs. Some VCs have developed their own conferences / seminars / events for their sectors, or are affiliated with conferences. These can be great ways to get to know the companies in target sectors. Others have lunch and/or dinner programs where they invite sector experts to discuss topics of the day. There are now many accelerators (groups that offer defined programs and resources to qualified startups in exchange for equity in the startup), and most of these have “demo days” where startups graduating from the program will make short, rapid fire presentations to an auditorium full of potential investors (if you have the chance to attend a demo day, you should for the experience). Many VCs will attend these demo days, and others will obtain early access to the companies (prior to the demo day).
Accelerator relationships. Further to the discussion of accelerators above, some VCs will have formal relationships with accelerators, either as an investor in the accelerator, or as a partner sponsoring the accelerator program. These relationships may provide the VC firm with the right to network with the startups in the accelerator program. Other VCs will serve as mentors to the startups going through the accelerator programs, which provides the VC with a direct relationship with the startup and its founding team, and can lead to an investment from the VC.
Professional Associations and Organizations. Professional associations and organizations abound, and VCs are active participants in many of these organizations. Many VCs are active in the National Venture Capital Association, the venture capital industry’s leading trade association in the United States. Other VCs are involved in groups like Young Presidents’ Organization (YPO) or Entrepreneurs’ Organization (EO), The Indus Entrepreneurs (TiE), the Kauffman Fellows Program, local venture capital associations, angel investment groups, and more. These professional associations can provide deal flow and also help the individual VC’s network to grow.
Data-driven approaches. Many VCs are developing their own proprietary systems to discover, track and contact entrepreneurs and companies. These systems will use algorithms to search the internet, scrape sites like LinkedIn and social media sites, and integrate data from subscription data providers into a robust database that the firm can use for their outbound deal sourcing program. Other VC firms use subscription services to create these databases.
Inbound sources. Most of the above are outbound sources of deal flow. VCs also have deal flow from inbound contacts. As the firm’s or individual VC’s reputation grows in the industry, inbound inquiries will be a greater source of deals. Inbound sources of deal flow include cold emails from entrepreneurs, contact forms on the VC firm’s website, inbound contact from a VC firm’s or individual VC’s blog, cold contact requests on LinkedIn and other social media, etc.
Other notes:
- There are myriad ways for venture deals to be sourced by VC firms. The above highlight some of the most common sources of deal flow for VCs.
- Is deal flow “Proprietary?” Most VC fundraising decks I see has a slide titled “Proprietary Deal Flow.” In a way, every VC firm’s deal flow is proprietary in that each VC has their own unique networks that really can’t be easily replicated by other firms. So, if everyone has proprietary deal flow, is it really proprietary?
- LP Due Diligence. LPs spend a lot of time doing due diligence on deal flow. It is very important for an LP to understand how a VC firm sources its deals and whether the sourcing strategy will enable the firm to generate (and repeat) strong investment returns.
- Corigin Ventures Annual Sourcing Post. Corigin Ventures publishes an annual blog post discussing how their deals were sourced. They've done this for a few years now, and the posts are pretty interesting. Here's a link to the post on 2019 deal sourcing: https://www.coriginventures.com/open-house/where-do-deals-come-2019/
© 2019 Allen J. Latta. All rights reserved.
