Three Screens Before a Referral

An investor once asked us: the deals you send me, should I check them again from scratch? Our answer: you should.

Let us state the view first. A referral is not an introduction. A referral is a guarantee. Before a deal reaches an investor, we run three screens on his behalf: whether the orders close the loop at arm's length, whether the founder keeps his word, whether the existing shareholders really help. Fail one and we do not refer. These three screens are not written into any contract. They are written into our own process. So which three come first? One at a time below.

The First Screen: Who Placed the Order

The first, whether orders close the loop at arm's length — the customer orders even though he owes you no favour — screens the quality of the business. Plainly put, it asks where the money comes from. Did the revenue grow out of the market, or was it built out of relationships? Does the customer order because of the product, or because of a favour? If the orders stop, does the business still run?

One lesson we weigh heavily. So far, with orders won by exchange, the risk does not land on the person who placed the order, and it does not land on the founder. In the end it all lands on the shareholders. While the wind is up, everyone gets something. Once the wind drops, only one person pays. So our first question is a dull one: did the customer place this order himself, or was it begged for? Begged for does not count.

The Second Screen: How Time Treats a Promise

The second, whether the founder keeps his word, screens the quality of time. Were the things he said delivered? Were the milestones he promised met? Does bad news come early or late? Three slips, and there is no need to wait for a fourth.

To judge a person, listening to his words is not enough; you have to watch what he does, and watching takes time. When the window has not opened, we will sit on the bench with a company for ten months. Those ten months are not idle waiting. They are a three-hundred-day observation window, cheaper than any interview. This screen cannot be rushed and cannot be skipped. Skip it and the bill comes due after closing.

The Third Screen: Whether Old Shareholders Will Speak Up

The third, whether the existing shareholders really help, screens the quality of the table. Why? Because only the existing shareholders have a position to speak from.

A new investor cannot verify the technology of a hard-tech company in two or three weeks. What he can verify is this: who invested in the last round, and what they say now. The existing shareholders have money in it, so speaking well of it means standing behind their own book. That endorsement carries a real cost. Put the other way: if the people who know the company best will not speak up, we can hardly ask anyone else to believe we saw more. When the existing shareholders do not pitch in, we usually pass.

The Three Screens Are Really About Lowering His Risk

Some will say this is not an intermediary's job, that due diligence is the investor's own business. That holds, but it is not the whole story. So where is this step cheapest to run? With the side that does only twenty or thirty deals a year. The first duty in investing is safety, not odds; and on safety, we think whoever moves first pays less. Change a line of wording before launch and the cost is about zero. Change it after closing and what you change is an entire timetable. So we do the screening before launch.

We also co-invest our own capital in the projects we serve deeply. Once the money is in, the way you look at a project changes, and the outlook gets longer. In other words, these three screens are not a step performed for clients to watch. The bar is one we set for ourselves.

To refer is to stake our own judgement on it. Deals that are screened out never appear in a referral, so they take no one's time. We recognise only one thing: whether the firm is willing to look at the next deal. Only what passes the three screens deserves a full picture.