Four Simple Rules for VC Success

AI startups seem to be pulling in massive funding, left and right...

Just recently, Rad AI – which specializes in AI solutions for radiology – secured $60 million in a Series C venture-capital ("VC") funding round.

For those unfamiliar, investors fund early-stage companies in exchange for equity. This process usually starts with a "seed round" and then moves to Series A, B, and C.

Those later rounds of funding go to more established startups that are scaling operations.

Nowadays, the AI boom is driving a wave of VC activity. Rad AI is just one example. There will certainly be more venture opportunities as investors prepare to jump into the next big thing.

So today, we'll explain how to evaluate these startups... to separate out the great investments from all the rest.

Rule No. 1: Look at the fundamentals...

My former boss from Legacy Capital Management, Joe Milam, has become something of a VC expert over the past decade.

At a recent private conference for high-net-worth folks in Austin, Texas, he shared his road map for finding great VC-backed companies...

Unlike traditional businesses, early-stage startups often don't generate revenue, let alone profits.

So to assess their viability, you want to look at potential risks and success factors.

That's where the Bell Mason Framework comes in... Engineer Gordon Bell and entrepreneur Heidi Mason designed it back in the early 1990s.

Instead of poring over financials, this framework tracks things like product development, team expansion, and market traction.

If these metrics trend favorably, it signals that the venture is likely to succeed.

And with the fundamentals in hand, investors can measure risk, track progress, and time their investments.

Rule No. 2: Focus on capital allocation...

When a startup raises new capital, a lot of founders immediately rush to hire as many people as possible. However, that often creates problems...

You see, a growing employee count looks great... except when the company fails to develop the rest of its business.

A lot of times, they don't get enough customers to justify the bigger workforce. And they lay off those same employees, ending up right back where they started.

Seed capital should be used to help a company grow... That means developing new research and projects, hiring when it makes sense, and hanging on to extra cash for future investments.

Simply put, if management burns through cash too fast, the startup might go under.

Rule No. 3: Prioritize transparency...

Venture investing is extremely risky, so it's crucial for founders to be transparent.

That means a CEO should share both the wins and the struggles with stakeholders.

If management only talks about successes and hides the setbacks, investors won't see problems until it's too late.

On the flipside, if management doesn't lay out potential achievements, any success might seem like dumb luck and nothing more.

Rule No. 4: Know your circle of competence...

Whether you're making a private or public investment, you should stick to what you know.

If you don't truly understand the target company, industry, or trend, two problems could arise...

First, you're more likely to panic and sell when things get tough. (Certain challenges aren't fatal, but many investors assume they are.)

Second, you can't pinpoint great performance when you see it... because you don't know the industry dynamics.

The fact is, every company will try to convince you to get on board... because they want your money.

If you don't learn the ins and outs, you'll struggle to differentiate between good marketing and a genuinely competitive business.

By avoiding these types of pitfalls, you can...

Identify winners across the board...

Venture investing is tricky. After all, many startups have virtually no proven track record. Plenty of them will fail.

That's why you need the right tools to sift through the "noise" and pin down what really matters – things like company strategy, management structure, team dynamics, and market potential.

Smart investors keep their eye on fundamentals, capital allocation, transparency, and industry trends... so they really know what they're getting into.

Regards,

Rob Spivey
February 20, 2025