The Mistakes Investors Make Before They Write the Check

The start-up market is flooded with entrepreneurs claiming to be the next Facebook or Instagram. However, in reality, three out of four start-ups will fail. Investors need to know whether or not they are wisely hedging their bets—and how to do so.

“As investors, we are forced to make decisions on incomplete sets of information,” says Bo Peabody, co-founder and Managing General Partner of Village Ventures. “Macros trends, internal hunches, market forecasts and individual consumer opinions are some of the pieces that make up the partial picture.”

Investors should have a complete understanding of their markets before pulling out their checkbooks to invest in start-ups or back entrepreneurs. Here are five mistakes investors too often make before making the deal:

Out of Touch with Consumer Demand: As an investor, you should always ask yourself: does the product or service actually solve a key pain point for the target customers? If they build it, will anyone come? A quick survey of target consumers can help to verify if there is actually a need for the product or service offered by the company. This also identifies other unforeseen pain points that could be detrimental to a start-up.

Limited Understanding of the Competitive Landscape: Who do consumers think of when asked about a given industry or type of service? What companies or products do they rely on? If the product or service looks to ‘solve a problem’ for consumers, how are they solving that problem today? Often times, gathering deeper insights of target customers can help identify the real competitors to a given business – not just who the start-up perceives.

Failing to Validate the Marketing/Sales Plan: In today’s market, products and services are consumed through different vehicles such as online, mobile, and in-store. Start-ups often fail to accurately predict how consumers want to shop for or purchase a product or service. For example, many consumers are only willing to purchase certain types of items AFTER they have actually seen it in person, such as big screen TVs and shoes. Knowing how consumers prefer to shop for or purchase certain products is a good indication if the business owners have properly thought through their marketing and sales strategy.

Not Measuring Brand Loyalty: Some business plans rely on the idea of ‘stealing’ customers away from existing brands or products. Customer loyalty can be a stronger force than many entrepreneurs realize, but it’s a force that can be readily measured with proper consumer research. Look for proof that there is a strong understanding and plan of action by start-ups of how they can actually win over loyal customers.

Failing to Validate Their Own Research: If business owners or entrepreneurs are presenting research (their own or someone else’s) as a part of their prospectus, investors should take the time to validate or invalidate that research. In particular, extreme claims should always be double-checked. For example, if a start-up claims that 95% of new mothers want their new bio-degradable diapers, it’s worth double-checking this data to support the claim.

“Real-time consumer data delivers a more complete picture on which to base investment decisions,” says Peabody. “We are able to instantly validate some of our hypotheses.”

Matt Dusig is co-founder and CEO of uSamp, a driver of online market research and survey respondents used to obtain important consumer and business insights. Opinions expressed here are entirely his own.

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