The Three Levels of Due Diligence

2min read How much due diligence is enough?

While there are many checklists and rules of thumb surrounding the process of due diligence, the endpoint never seems clear. Most investors dedicate a certain number of hours, 20, 30, or more, and when those hours are used up, they make the investment decision.

In my experience, there are three levels of due diligence:

First Level

The first level answers the question, “do we invest or not?” After reviewing the standard documents and talking to customers and industry professionals, the investor decides if the potential rewards outweigh the risks.

Second Level

The second level of due diligence answers the question,” what will the startup have to accomplish to be successful?” This is not always an obvious answer, such as making sales, or gain a 10% market share, or ensuring the product works.

There are often one or two critical factors that determine success. In today’s world, it increasingly comes down to cost. The cost of customer acquisition, product development, or something else.

Yes, the startup can find customers and sell a product, but at the end of the day, the margins come out razor-thin, if not negative.

Another critical factor I see is building the team. Can we find the right people to fill the gaps (and there are always gaps)? Do you know what the startup must do to achieve success?

Third Level

The third level of due diligence answers the question: What can the investor do to help the startup succeed?

Nothing is more frustrating than seeing a startup failing and not being able to do much about it due to a lack of knowledge of the industry, the market, or the technology. If you can’t help the startup, it’s questionable that it’s a good investment for the angel.  I’ve never invested in a startup that, at some point, didn’t need help.

On the other hand, if I can help the startup through connections, mentorship, or team building, then it may be a good fit.

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Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

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