Sourcing dealflow

I recently did a talk on dealflow; what it is and how to think about it in early stage investing. Here are the key points from that talk. It is mostly written with startup investors in mind, but hopefully it’s valuable to those on the other side of the table as well.

What and why:

If you’ve made it to my blog you probably already know what dealflow is, so this’ll be short: Dealflow is a term used for the quantity and quality of investment offers an investor receives. The term is mostly used when talking about privately held companies, as public companies are available for everyone. Privately held companies are not, and thus having better dealflow can be a competitive advantage.

You could say there are four stages of startup investing (I first heard this in a podcast with Brian Singerman of Founders Fund), and those are:

  1. Finding companies
  2. Picking companies
  3. Accessing companies (aka “winning deals”)
  4. Helping companies grow into winners

Investing in private companies is just as much about finding and accessing companies as it is about picking and helping. I’d argue it’s impossible to succeed consistently if you don’t master finding and accessing, and I’ll refer to this as dealflow.

There are two extreme ways to think about dealflow. Does the founder pick the investor, or the other way around? These two perspectives should not be considered a dichotomy, rather as end points on a spectrum. We’ve done good investments in companies where nobody else had conviction, and we’ve done good investments in companies where we had to fight to get access. Most investors do both, but having awareness around that there are different is helpful when prioritizing how to work with dealflow.

Inbound deal sourcing

On one end of the spectrum; founders pick their investors. Put differently, the founders who eventually end up building the winners are so obviously good they can choose between every investor out there. If this is your prevailing belief, everything you do should be about making yourself as attractive as possible to make sure you meet these founders - that you have proprietary dealflow.The two questions that should guide your work in this scenario is “why should I be contacted?”, and “how will they find me”. Let’s start with why:

First of all, you have to match with the company. All investors have preferences with regards to investment amount, valuation range, geography and/or sectors, and these preferences exclude some percentage of the total available dealflow. If your filter is too narrow, you end up without any dealflow. Opposite, you become the jack-of-all-trades and nobody comes to you first. Find the balance somewhere in between (and break rules).

Most often, there are many investors with similar preferences, meaning you have to add something beyond capital to be approached. This is normally any of the following:

Competence: experience and advice of benefit to the company, either generic “how to build a company-perspectives” or knowledge related to the specific company’s technology or market.

Network: knowing people (customers, bigger investors, advisors, potential employees etc) that can help the company.

Brand: “we are backed by the founder/investor behind [famous company]” can get a company a long way with regards to recruiting, future fundraising and so on.

Fundraising takes time, and startups can’t afford to search for the perfect investors forever. Put differently, it’s not enough to be the best match for any given company - you also have to be on their radar. The “how will they find me” part:

Doing this means marketing yourself, work that can be done both online and offline. Online it means blogging, newsletters, and being available for interviews and comments when journalists report on topics that you want to match with. Offline it means being at events, participating in panels, hosting meetups and dinners and so on. The whole point is to tell the world you’re looking for startups, and doing it so frequently you’re top of mind when the companies you want to fund start fundraising.

Outbound deal sourcing:

The opposite perspective is that it’s only in hindsight we know who the good founders were - good investment opportunities are accessible for everyone as long as you find them. And there are many supporting arguments: the best returns comes when you’re both right and non-consensus, and the most groundbreaking companies start out looking like toys. And there are plenty of examples of this: the story of Airbnb’s first 1000 days is one of my favorites, another is Robinhood’s 75 rejections.

Outbound sourcing can be done in multiple ways, and both online and offline. Offline means being at events, as well as reaching out to your network directly. Online means browsing relevant social news sites (in Norway: FB, Linkedin, Shifter, DN etc), looking through lists of companies that receive soft funding (Innovation Norway, BIA, etc), and so on. And you can subscribe to my newsletter to get the Norwegian tech stories I find most interesting :)

Doing outbound activities has its benefits. It’s a quick and direct way to approach companies you find interesting without spending time broadcasting your preferences first, and you can very quickly assess a high volume of relevant companies. Timing might be off - you might contact companies when they’re not fundraising - but that’s not necessarily a bad thing. The negative side of this strategy is that you’re most likely not seeing any proprietary dealflow. If you believe the best founders pick investors, they probably don’t see a lot of reason to showcase what they’re building broad enough that you discover them soon enough.

To sum up these few paragraphs, there are lots of aspects to think about when it comes to dealflow. Probably the most important thing is to be aware of the four stages of startup investing, and having a hypothesis around which (ones) you’ll work at improving. I’m continuously iterating as I learn more, and I don’t believe there’s one best way to have good dealflow. There are many ways to win.