High Quality Deal Flow: The Secret Sauce of Great Venture Investing

Guest post by Guest post by Paul A. Jones of Michael Best & Friedrich LLP

Quality deal flow – the insiders call it “proprietary deal flow” – is the lifeblood of venture capital investing. You can’t do the best deals if you don’t see them until after someone else does them. Quantity may have its own quality on the battlefield: not so in the venture investing world.

Unfortunately, if you look for funds with the highest quality deal flow, what you mostly find are funds that have a long, enviable track record of doing great deals. Throw in a few less established funds that nonetheless include “name brand” fund managers, and the odd household name entrepreneur turned fund manager, and you probably have accounted for 95% or more of the funds with the highest quality deal flow.

All of this suggests that more established, well regarded venture funds, not unlike more established, proven entrepreneurs and companies, have something of the proverbial “sustainable competitive advantage” relative to newer market entrants. And, as well, that those newer market entrants better develop and execute some sort of strategy for breaching that competitive moat.

So, what can a newer, less recognized venture fund manager do to address deal flow quality challenges?

More than you might think. Recognizing that there is no complete substitute for a reputation for doing the best deals, here are some of the “next best” things newer venture investors can do to enhance deal flow quality.

  1. Be transparent and responsive. Venture investors have a well-deserved reputation for being opaque and slow in their communications with entrepreneurs. There are some reasons for that, but really no good excuses. So, set yourself apart by being transparent and timely in your communications with entrepreneurs. That will distinguish you from most firms, including most firms with the best deal flow.
  2. Be (selectively) visible in the entrepreneur community. That means go to events – and network. Buying visibility at events is not the key; personal engagement is the key. Spend your time focused on networking and when possible speaking. Don’t waste a lot of time sitting in the audience listening.
  3. Be helpful to quality entrepreneurs – before the investment decision, and even entrepreneurs you already know you are not interested in investing in. Word travels fast in entrepreneur circles, and venture investors known for being a source of good ideas and good referrals see deal flow – including quality deal flow – grow faster than their peers. Further, getting your hands dirty early is critical if you are working with less experienced entrepreneurs – the kind of talent that larger, more established funds are not as well-positioned to nurture the way their predecessors did. Spotting diamonds in the rough, and being good at shaping them, is a talent that can produce outsized rewards. More on that in my previous article, Back to the Future? Venture investing in Flyover Country.
  4. Develop a proprietary value add. It’s harder to break into any profession as a generalist. Venture investors rightly expect their entrepreneurs to focus their activities on where they add the most value.  Venture managers should do the same themselves. The goal is to get the highest quality entrepreneurs to knock on your door, not the widest range of entrepreneurs. Long term, it’s great to be known as a VC with all the tools (which is exceedingly rare). But, you have to survive the short term, and it takes less time and resources to develop and promote one tool than all the tools.
  5. Build relationships with select, more established venture firms. If being a “name brand” fund is the ultimate goal, having a reputation for working with name brand funds is a good stop along the way. Leverage your proprietary value add with other funds, and be willing to follow name brand investors into deals. Be a partner, not a competitor.
  6. Be conventional on deal terms. Establish a reputation for being “middle of the road” on deal terms; perhaps, slightly towards the entrepreneur-friendly side of the road in any given market. Superstars can play hard to get, and hard to deal with, new fund managers can’t.
  7. Even when you are a follower in a deal – maybe especially so – be a good post-investment partner with your portfolio companies; not just when you have a question, but when you have an idea; and even now and again just to keep in touch and be supportive.
  8. Stay away from difficult entrepreneurs. Being entrepreneur-friendly is good. Thinking you can manage an entrepreneur who is particularly difficult to work with is a completely different beast. Trust me: if an entrepreneur has a reputation for being a jerk, they probably are. And even if they’re not, their reputation alone will make downstream financing problematic.

High quality deal flow is the ultimate venture capital asset. An asset that generally follows rather than precedes a reputation for doing the best deals. But, short of building that reputation the old-fashioned way, there are things newer, less established fund managers can do to improve deal flow quality:  things that (fortunately for the exceptions) most newer fund managers neglect. Be one of those exceptions, and better investment deal flow and performance will likely follow. 

Paul A. Jones, Of Counsel

Paul draws on his extensive business experience as a successful serial venture capital-backed entrepreneur, investor, and angel investor to represent emerging technology and life sciences companies, and venture capital firms in financing and other strategic transactions and general corporate matters. His focus includes:

  • Venture capital financing
  • Startup business and financial planning
  • Strategic business development planning and execution
  • Corporate governance

Paul is uniquely positioned to understand the specific needs of emerging companies. As counsel, principal, angel, and institutional investor, he has been involved in dozens of venture capital investments, exit transactions, and other strategic transactions for high impact technology companies and other emerging businesses in a wide range of industries. More…

Michael Best & Friedrich LLP

Businesses need more from a law firm than skilled advice and representation alone — they need a long-term strategic partner like Michael Best.

We’ve earned many loyal clients by understanding each one’s unique goals, opportunities, and challenges and by delivering results, year after year. Our focus is on your entire organization, not just on the legal matters we’re involved in. 

Michael Best is a full service firm with more than 250 lawyers who provide our clients with the exceptional legal service and business acumen that have defined our firm for generations. More…

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google photo

You are commenting using your Google account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s