A Guide to Venture Capital Deal Flow

Sourcing & Origination
Venture Capital
Last updated:
November 18, 2021

Instacart. Stripe. Databricks. Every venture capital (VC) firm hopes to discover and invest in the next unicorn, or $1 billion+ company. The number of these rare high-value companies is on the rise, but more than 300 million startups launch each year and fewer than 700 unicorns have ever existed.

While not every firm finds a "unicorn," success in general depends on a firm's deal flow process, which all starts with deal sourcing in venture capital. It's critical that VC firms focus on increasing the volume and velocity of deal flow when developing their deal sourcing strategies. This allows them to evaluate more opportunities and increases their chances of finding investments that are the most likely to succeed.

Let's examine the typical deal flow process, how to source deals, traditional challenges and roadblocks, and ways leading firms are improving deal origination in venture capital.

What Is Deal Flow and Why Does It Matter?

Deal flow refers to the flow, or rate, of incoming deals that signify investment opportunities for a firm. These inbound opportunities may come from pre-existing networks or relationships, word-of-mouth within the startup community, or interest and recognition from other investors.

Good deal flow is both a determining factor and key indicator of a successful fund and how much other investors and founders value a VC. Both volume and quality are critical factors when measuring the health of a firm's deal pipeline.

Finding numerous high-quality opportunities is important since the conversion rates from initial meeting to investment are traditionally low, ranging from 1% at Homebrew to 0.7% at a prestigious firm like Andreessen Horowitz or 0.5% for boutique funds like GREE Ventures. Not to mention, a low-quality deal stream wastes precious time and resources, and ultimately threatens the viability of a fund over time.

While the volume of deal flow largely depends on the economy and current market conditions, there are many things a VC firm can do to grow. accelerate, and improve the quality of its deal flow.

Dissecting the Deal Flow Process

The deal flow process is a funnel where hundreds of prospective companies go in but a small percentage are actually invested in, and an even smaller percent succeed. For example, Rebel One Ventures (RBL1) reviews between 100-400 companies for every investment it eventually makes. Below is the firm's deal flow process, which is representative of the workflow most VC firms follow:

Example Deal Flow Process Diagram
  • Stage 1: Deal Sourcing - The first stage in the deal flow process is broadly referred to as deal sourcing or deal origination in venture capital. This is the process of finding appropriate leads and bringing them to your company’s attention. How do VCs source deals? They traditionally source deals through personal networks and referrals, although more dealmakers are also utilizing direct deal sourcing tactics.
  • Stage 2: Deal Screening - This step in the deal flow process is where VCs hold an initial meeting with the candidates they decided they'd like to learn more about. The goal is to collect specific information that will help the firm determine whether the company is a good investment fit. At this point, a company is also assigned a dedicated lead or point of contact at the firm. After the initial meeting, the lead uses the information that has been collected to compare potential deals and select the most competitive opportunities.
  • Stage 3: Partner Review - Next, leads present the competitive opportunities that they've selected to the firm's partners. Only 10-15% of the startups presented in this meeting are selected to move forward to the next stage, making it the most narrow part of the deal flow process funnel.
  • Stage 4: Due Diligence - This step is where the VC firm does a deep dive into each potential opportunity, including doing a competitive analysis, interviewing customers, and trying the product or service. Completing the due diligence phase can take up to 10 weeks.
  • Stage 5: Investment Committee - An investment committee is made up of firm partners, industry experts, and other important and experienced professionals. This is the team that reviews and discusses all of the information the lead captured during the due diligence process, and ultimately makes the decision about whether or not to invest.
  • Stage 6: Deploy Capital - The deal has officially been closed! The final term sheet is signed, and the funds are wired to the startup.

Note that the deal flow process all starts with deal sourcing. One of the most effective traditional ways to improve venture capital deal flow is to find new and innovate ways to build your investment network and attract potential opportunities. Let's dive into how to increase deal flow now.

4 Ways to Improve VC Deal Flow

#1: Modernize Networking

Conferences and trade shows have always been the backbone of VC deal flow. Firms used to attend as many shows and talk to as many people as possible to build their networks and make meaningful connections. However, the COVID-19 pandemic changed the travel and events industries forever.

Fortunately, the latest data service providers allow firms to be much more strategic and selective about the trade shows they choose to attend. Users can simply filter conference lists by factors that align with their firms’ investment themes or theses criteria, such as specific industries, employee count, geography, and other key data signals. This enables VC firms to identify and attend only the events where the most relevant opportunities will be present, minimizing travel without sacrificing deals.

Conferences aside, technology makes it easier than ever to engage in digital communities and identify local events related to your investment niche. Some ideas include:

  • Answering questions on social media, Quora, Hacker News, Reddit, and other platforms helps nurture your local community while building longterm equity with entrepreneurs.
  • Sponsor and/or participating in digital hackathons.
  • Serve as a speaker or judge at business pitch and accelerator events.
  • Be a mentor for local startups or function as an advisor to private businesses.
  • Go to launch events, attend tech happy hours, and volunteer to lecture for your old professors.

#2: Develop Proprietary Market Insights

Startups today are looking for so much more than capital partners. They're searching for VCs that can offer deep domain expertise, proprietary market intelligence, and helpful resources that will help them grow faster than the competition.

One of the best ways to attract startup interest is to use your firm's data to generate proprietary market insights and projections. Sharing your unique perspective and experience through various sector-specific publications is sure to garner media attention and help build buzz around your firm. Startups will take note and have your firm top of mind once they're ready to seek capital or make a referral.

MiddleM Creative's VP of Marketing, Tricia Forbes, agrees: “We’ve seen firms really put a lot of resources and energy into creating thought leadership content that’s based around their unique experience and value-add. They tell stories and talk about the way they’ve impacted portfolio companies. If you do it from a storytelling perspective versus from a conceptual perspective, it really hits home.”

#3: Build an Inbound Marketing Engine

Positioning your firm as a thought leader and staying at the forefront of conversations in your space also allows you to build an inbound marketing engine. Create and curate educational and insightful content for both your personal and your firm's blog, social media profiles, and email campaigns to attract readers and eventually pull them into your deal flow process.

As consumers become increasingly inundated with advertising and sales calls, building an inbound funnel that causes founders, investors, and other potential partners to come to you for answers is the most efficient way to build trust. Most of Silicon Valley’s most successful VC firms use inbound marketing tactics, including:

Blogging:

Social Media:

Podcast, Videos, Books, etc:

#4: Invest in Deal Flow Management Tools

Once you’ve increased VC deal flow you need a way to manage the information generated over the course of the entire deal flow process. This includes founder contact details, company data like industry and number of employees, and relationship information like which process stage a particular company is in.  

The best way to do this is to utilize a customer relationship management (CRM) platform that organizes data, tracks metrics and progress, and aggregates your information in one convenient space. With CRM you can avoid the mistakes, missed deadlines, and lost deals that can occur when details are spread across spreadsheets, notepads, and email.

While CRM is the most common deal flow management tool used among VC firms, as dealmakers' digital maturity grows, additional solutions are added to their technology stacks. These include data service providers and sales and marketing acceleration tools. For example, a private company database can be used throughout the screening phase of the deal flow process to quickly identify whether or not a company meets a VC firm's investment criteria.

Venture Capital Technology Stack

The Challenges of Traditional Deal Sourcing in Venture Capital

As mentioned earlier, the deal flow process starts with deal sourcing or origination. And while many VC firms continue to use traditional inbound sourcing methods, relying solely on intermediary interest and manual processes presents a number of challenges.

  1. Inbound deal volume is difficult to predict and often forces VC firms to approach deal sourcing in a reactive and opportunistic manner.
  2. Researching founder-own bootstrapped companies is extremely time-consuming and prone to inaccuracies due to the limited amount of readily available data for these businesses.
  3. Startups actively searching for funding are likely to approach more than one potential investor at a time, which means added competition and pressure to stand out.

Fortunately, new data, technology, and strategies are fueling massive improvements in venture capital deal sourcing for new school dealmakers.

How to Improve Venture Capital Deal Sourcing and Screening

#1: Take a Data-driven Approach

Until recently, researching startups and mapping corresponding markets was a very manual, time-consuming, and imprecise process. But new school deal makers have begun leveraging newly available tools that efficiently capture data signals around this traditionally opaque market segment, including company industry, ownership, new job postings, and more. These data services are giving firms the unprecedented ability to screen deals with greater speed and precision than ever before.

#2: Leverage Direct Sourcing

Once you have access to more and higher quality data, it's easier to clearly define your ideal investment targets and actively seek out companies that match this thesis criteria. This is called direct sourcing, and it's an approach new school dealmakers use to find and close deals in a more predictable, scalable, and proactive manner. It also helps them identify and engage opportunities faster than the competition. Some firms cite a 200% increase in deal engagements thanks to direct sourcing models!

#3: Stand out by Getting Personal

Whether you're communicating with indirectly or directly sourced deals, it's important to find ways for your VC firm to differentiate itself from the competition. One of the best ways to do this is to use data to personalize communication with top targets. Whether it's emailing a founder to let them know you missed them at the latest conference, or congratulating them on their new executive hire over lunch, personalization shows that you're paying attention and are already invested in the company's success.

Let the Good Deals Flow

Finding the next "unicorn" is no easy feat — but a high-volume, high-velocity deal flow helps give your firm the best chance of identifying high-value deals. Fortunately, there are many tools and tactics VC firms can use to improve the speed, quality, and breadth of their deal flows.

The entire deal flow process starts with deal sourcing or origination. Traditional deal sourcing is inbound-focused and depends on referrals, relationships, and manual company research. But more firms are adopting a new school approach to finding and closing deals.

They're harnessing the latest data and technology to screen companies with speed and precision, proactively source deals that align with their investment criteria, and stand out from competitors through personalization. To learn more about how to be a new school dealmaker, download this free guide, Take Control of Your Deal Flow: A 5-Step Playbook for Modern Private Equity and Investment Banking Firms.

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