Why do so many innovation initiatives fail to live up to expectations? Were the expectations unreasonable or was it simply irrational exuberance? In the world of early stage investing, every entrepreneur pitching a business plan has their version of the infamous hockey stick growth model. In reality, hockey stick growth is as elusive as the proverbial unicorn. Seasoned investors understand this and look to other factors to determine whether to invest.
Even in more mature organizations, the projections associated with new product development or process improvement projects often are unrealistic and based on unreasonable assumptions. Reasons for this vary, including that those pitching the idea are competing for limited investment money and know they need to make their project stand out against other opportunities. Early stage investors and corporate executive leaders both have learned to discount such unrealistic projections in an effort to identify more meaningful and achievable numbers. The difference is that far too often in the corporate environment these adjusted projections themselves form the sole basis for investment decisions as business leadership attempts to allocate those limited investment dollars.
In early stage investing these adjusted numbers are not used to make investment decisions but rather to screen out the best opportunities for further analysis and due diligence. In this due diligence process investors attempt to validate the projections to confirm that the idea is investable. Every investor has a methodology, but typically due diligence involves specific areas such as intellectual property, licensing, market size, etc.
The Three Keys to a Truly Investable Idea
At the end of the due diligence process, the investor is still left with assessing the likelihood that the team is capable of executing the plan, that the market is of sufficient interest to warrant the investment and that the proposed innovation indeed provides a competitive advantage that can be captured. Savvy investors further understand that, despite the quality of any business plan, there is always an unknown or unforeseen issue that will require some form of adaptation by the team. Financial projections are important but should be used only as part of the initial screening, not the basis for the final decision.
A truly investable idea is based on achieving a significant competitive advantage; is targeted at a large, attractive and sustainable market, and most importantly is staffed with a truly great team.
Established organizations would greatly increase the chance of success for innovation initiatives if they adopted a similar approach. When evaluating investment alternatives, leadership should consider the team that will be assigned to the project. Is this the ‘A’ team necessary to succeed or simply the next team up? Is the market attractive enough to endure the inevitable delays and product-market fit adaptations that occur? A seasoned investor will almost always prefer a great team in an attractive market with middling technology over an average team in a low-growth market, regardless of the attractiveness of the proposed competitive advantage or technology the innovation is based on.
When evaluating potential investments in your organization you should ask yourself, “Would you invest your own money in this idea?” If the answer is no, then why would you invest your shareholder’s money?