VCs are comfortable with risk. We get paid for the risks we take.
We know the risks are there and just try to understand the potential pitfalls going in.
With venture capital the real question is not what could go wrong, but how big could this be if it actually goes right.
VC is a power law business so the winners fill the holes that the losers create. That is the benefit of a portfolio of investments.
An entrepreneur doesn’t have the same benefit. An entrepreneur only has their one company so they really want to think about these risks.
As an entrepreneur pitching VCs, the more risks you can discuss and mitigate the better. Understand that some risks are just the reality of early-stage startups. Even the best deals have significant risks early on. They get de-risked overtime and the valuation increases as a result.
Every investor will weight these risks differently based on their own approach, history, and expertise. You need to find the investors that believe that the risks are worth the reward for your startup.
Timing Risk - Why now? is one of the most important questions to have a great answer for. Most startup ideas have been tried before and failed. Why is now the right time for this idea to succeed? What is different? Good answers often focus on market or technology changes.
Execution Risk - Do these Founders have the skills and drive to make this happen? Have they built things before? Are they fully committed? Are they on a mission? Can they rally customers and future employees to join them? Will they run through walls to make this happen?
Adoption Risk - Are customers actually interested in the product/service? What are the alternatives? How strong is the competition? Are there barriers to entry or threats of new entrants?
Market Size Risk - How big is the problem the startup is solving? Is the problem urgent? valuable? Assuming everything goes well, will the exit be large enough to return the fund?
Distribution Risk - Does the startup have a way to reach and acquire customers in a scalable and profitable way? Are they dependent on another platform like Facebook, Amazon or Apple to reach their customers? Is that sustainable? Is there a path to a direct connection with customers?
Financial Risk - How capital intensive is the business? How much money does the startup need to achieve its milestones? If they hit their milestones will they be able to raise the next round and/or reach profitability?
Business Model Risk - Is there a clear path to making money in the future? Do the unit economics make sense? What are the assumptions around achieving profitability? Many VCs are reluctant to invest in startups without a clear business model, but some of the best investments are services that attract a lot of users without a clear monetization strategy like YouTube, Snapchat, etc.
Founder Relationship Risk - Do the Founders get along? Is there noticeable tension in the meetings? Have they worked together before? Is there anything weird on the cap table that may be a problem in the future? Founder relationship blowups are one of the more common reasons for early-stage companies to fail.
Technology Risk - Does a new technology have to be built to make this happen? How long will it take? How likely is it to happen? Most software startups have minimal technology risk. Tech risk is more applicable to startups dealing with atoms like hardware, cleantech, and biotech.
Legal Risk - Is the startup likely to be sued for patent/copyright infringement? Are they breaking the law? Are the Founders trustworthy? Are they hiding anything about the business? Are there regulatory issues to deal with? Any known complaints from employees or others around the startup?