Positive Signals in Early-Stage Investments

Today I’m going to share basic characteristics and themes I look for in early-stage investments.

The list is by no means complete, but it should provide a good starting point.

Let’s get started.

Cash Efficient, Lean

Early-stage startups should be lean.

If a startup is raising a $1 million seed round, that should be enough to get it eight to 12 months or more.

A million dollars doesn’t allow for a big headcount, which is okay. At this stage, it’s much more the quality of people than the quantity.

Always look at how much money the company has raised so far, and see how efficient it’s been. What has it accomplished?

If a startup hasn’t raised money yet but has gained significant traction, that’s one of the most positive signals you can get.

Teams that can do a lot with a little tend to continue doing just that. This is referred to as “bootstrapping.”

Finding bootstrapped startups that have come a long way and are now raising money for the first time is rare. When it happens – no matter the industry – I always take a close look at these opportunities.

Another important question is this: Does it have significant debts/accounts payable? It will be tempting for some companies to use equity crowdfunding to pay off debts. That’s fine, but unless the money can also solve the underlying cash flow problems, it’s a negative signal.

It’s not uncommon at early stages to see founders who aren’t taking a salary at all. They want to minimize dilution of company shares. Not every founder is in a position to do this, naturally. But when you see it, it’s a positive signal.

Fast- Growing Industries

Almost nothing is better for a young company than being in a fast-growing industry. It makes everything easier, from sales to hiring.

This is why I often talk about things that may seem a little odd, like the legalization of marijuana.

That industry grew 232% from 2014 to 2015. No other billion-dollar industry is growing anywhere close to that fast.

Of course, cannabis is a bit of an outlier. Shifts like this come along maybe once a generation. Most industries don’t have such a strong growth catalyst (legalization of an already huge black market industry).

But it’s certainly worthwhile to skew investments toward areas that are fast-growing with strong catalysts.

One obvious example today is artificial intelligence and machine learning. We are finally at a stage where both the hardware and software needed to make impactful products are widely available. This sets the stage for more explosive growth over the next two decades, at least.

For example, Google recently released its powerful machine learning library called TensorFlow. It’s now open source, completely free to use.

The release of tools like this is giving everyone capabilities that five years ago, only a handful of companies in the world had. This catalyst will help the next generation of great AI/ML companies blossom.

One thing to watch out for is startups that get into a fast-growing industry simply because it’s hot right now. To avoid these, look into the founders’ history. Have they been in this space this for a while, or are they simply jumping on the trendy bandwagon?

Bottom line: Look for investments in industries with strong growth catalysts.

Respectable Online Presence

This may sound obvious, but make sure the company you’re investing in has a respectable presence on the web.

Check out the company’s website, social media and any videos you can find on YouTube. Go through the buying experience on the site to see what it’s like.

If the company is selling to consumers, see how (and if) it interacts with them on sites like Twitter and Facebook. You won’t always be able to get a read this way, but when you can, it’ll be worth the small amount of time spent.

Also, test the company’s website chat function, if it has one. See if it’s a good experience.

The more engaged a startup is with its customers, the better.

In fact, with equity crowdfunding, you should try to find out if the company’s customers are investing.

You can ask questions like this through the Q&A function that most crowdfunding portals offer. If a company’s customers are investing in its equity crowdfunding round, that’s a positive signal.

Another obvious one is to look up the founders on LinkedIn and AngelList. Look into their work history. Do they have startup experience? Do they have lots of endorsements from their connections in areas relevant to the business?

I hope these tips were helpful. Here are a few more articles on topics I talked about today.

Equity Crowdfunding Tips and Tools
Machine Learning Leaps Forward
Cannabis Science and the War on Drugs
2016 Marijuana Investment Outlook

Have a great weekend, everyone!

Adam Sharp
Founder, Early Investing