What are VCs looking for in fintechs?

It is arguably the most suc­cess­ful invest­ment of all time. Masayoshi Son invest­ed $20 mil­lion in Jack Ma’s inter­net start­up Aliba­ba in 2000. That chunk of cash helped Aliba­ba grow into a $600-bil­lion ecom­merce giant. Son’s com­pa­ny Soft­Bank enjoyed a pay­back of more than $100 bil­lion. Just count those zeros. It’s a 5,000-plus return.

And why did Son back Ma, some­one who couldn’t code and did­n’t own a com­put­er until he was 33? “He had no busi­ness plan, zero rev­enue, but his eyes were very strong,” says Son. “I could tell from the way he talked he has charis­ma, he has lead­er­ship.”

It’s an inter­est­ing quote. And a huge claim. Did he real­ly invest on the glint of Ma’s “strong eyes”? And if so, what does it say about how invest­ment works? How impor­tant is the per­son­al­i­ty of the founder when it comes to win­ning invest­ment?

“It’s enor­mous,” says Richard Anton, found­ing part­ner of ven­ture cap­i­tal (VC) firm Oxx and for­mer chair of the British Pri­vate Equi­ty and Ven­ture Cap­i­tal Asso­ci­a­tion. “The char­ac­ter­is­tics of the entre­pre­neur we are back­ing are key. It’s hard to cre­ate a new busi­ness. There are lots of new chal­lenges. They may need to piv­ot mul­ti­ple times. You need a leader capa­ble of doing all that.”

To iden­ti­fy the right can­di­dates, mere­ly look­ing for steely eyes isn’t quite enough. The founder must be com­mit­ted. “They need to be thought­ful, to under­stand their domain well and to under­stand the prob­lem they are solv­ing,” says Anton.

“There are two kinds of own­er­ship. The eco­nom­ic sense of own­ing shares. And the oth­er kind is emo­tion­al own­er­ship. The kind a par­ent has for a child. An entre­pre­neur needs to be emo­tion­al­ly invest­ed in a busi­ness for it to suc­ceed.” He rat­tles off exam­ples: Bill Gates at Microsoft, Lar­ry Elli­son at Ora­cle, Mark Zucker­berg at Face­book, all syn­ony­mous with their cre­ations.

And the hall­mark of an investable chief exec­u­tive? “The stand­out pre­dic­tor is that the per­son who founds it and runs it has already been suc­cess­ful as an entre­pre­neur. I don’t think it’s pos­si­ble with unproven peo­ple,” Anton adds.

It’s an often over­looked detail of Ma’s career that before Aliba­ba he had already found­ed two inter­net com­pa­nies, at a time when a web­page took min­utes to load.

The power of telling stories

In Ger­many, one of the best known VCs is Oliv­er Holle. He’s a tech entre­pre­neur turned investor and now leads Speed­in­vest, backer of almost 40 fin­tech com­pa­nies includ­ing hits such as Tide, Curve and Wefox.

Holle says: “It’s easy to laugh at Son’s quote, but there is truth to it. It makes sense. The leader needs to be able to paint a pic­ture. They need to be obsessed with the prod­uct and then zoom out and give a broad-brush sto­ry to investors. The best founders don’t even use a pitch deck. They just have a talk with investors. If the entre­pre­neur can’t explain their sto­ry this way then there is a prob­lem.”

Speed­in­vest has devel­oped meth­ods to analyse fin­tech founders. “The way we test entre­pre­neurs is to put them in front of incum­bents, who we are friend­ly with or, even bet­ter, anoth­er founder from one of our port­fo­lio com­pa­nies and see if they can have a mean­ing­ful con­ver­sa­tion. That gives us a clear pic­ture,” says Holle.

For founders who pass the ear­ly tests, there’s one final chal­lenge. “We always have a ‘three cus­tomer’ rule. Before we invest, we put them in front of three poten­tial cus­tomers. That’s great for them, as they may win new busi­ness, and use­ful for us as we can see how they act,” he says.

Holle has red flags that dis­qual­i­fy an invest­ment. He says: “If the com­pa­ny has a very dis­tort­ed cap table. That means the found­ing team only owns a rel­a­tive­ly small frac­tion of the com­pa­ny at that ear­ly point in time. That makes it impos­si­ble for us to invest. As we know the com­pa­ny will need a lot of future fundrais­ing rounds, so that’s a big prob­lem.”

There’s the ques­tion of how man­age­ment and staff work togeth­er. “If the dynam­ics of the team mem­bers are not aligned, or there’s poten­tial con­flict, that is a huge red flag. It’s one of the biggest rea­sons star­tups fail,” says Holle. And the final one: “Dis­hon­esty. There is a fine line between mak­ing big claims and mak­ing untrue claims. We’ll call cus­tomers to check claims about con­tracts and future sales. If a claim is not true, we walk out imme­di­ate­ly.”

Can you bluff it?

In Sil­i­con Val­ley, the cyn­i­cal view is that a show­man with enough raz­zle-daz­zle in his pitch can hus­tle investors. A gad­get for squeez­ing fruit juice called Juicero won $120 mil­lion from top-tier investors, includ­ing Klein­er Perkins and Alpha­bet, only to go bust after a review­er noticed the pack­ets of fruit mush could be squeezed just as effi­cient­ly by hand. Jour­nal­ists not­ed the founder of Juicero was a for­mer graf­fi­ti artist with no col­lege degree. So how do VCs fil­ter out the stars from the wannabes?

Mark Sher­man is man­ag­ing direc­tor of Tel­stra Ven­tures, which boasts three deca-uni­corns with $10-bil­lion-plus val­u­a­tions, includ­ing cyber­se­cu­ri­ty com­pa­ny Crowd­Strike, cur­rent­ly val­ued at $37 bil­lion. “I think the Son quote has shreds of truth to it,” he says. “The piece I agree with is deter­mi­na­tion. Grit is some­thing you can suss out. You can get a feel­ing from the stee­li­ness of their eyes.”

What else are VCs looking for?

Oth­er qual­i­ties require some prob­ing. “We are look­ing for peo­ple with high EQ [emo­tion­al intel­li­gence] and IQ. We watch their alert­ness and how they respond dynam­i­cal­ly to ques­tions,” says Sher­man. “Are they a leader, able to take the hill? Or are they some­body who hides in a fox­hole?” A sense of lead­er­ship is crit­i­cal. Fin­tech com­pa­nies can grow from a hand­ful of staff to hun­dreds or even thou­sands.

Nat­u­ral­ly, the com­plex­i­ty of fin­tech means these qual­i­ties are only part of the pack­age. “We’re look­ing for super-deep domain knowl­edge,” says Sher­man. He cites reg­u­la­to­ry require­ments, the nature of back­end tech­nolo­gies and how to struc­ture details, such as billing method­olo­gies, as the kind of things a fin­tech founder might need to know. This is why fin­tech is com­par­a­tive­ly immune to bluffers. A deep knowl­edge of pay­ment archi­tec­tures or cloud-native data­bas­es can’t be faked.

But the con­clu­sion is that VCs still rely on gut feel in fin­tech. They have to. It’s the nature of the busi­ness. Nei­ther a detailed busi­ness mod­el nor glitzy pre­sen­ta­tion can com­pen­sate for the need of investors to feel the man or woman they hand cash over to is a born win­ner.

Even a vet­er­an like Sher­man comes back to this intan­gi­ble qual­i­ty. “You can tell with­in 30 sec­onds,” he says. “When the first words come out, you get a sense of whether they are a great guy or gal.”

Speed­in­vest’s Holle con­cludes: “In the end we look at the founder and for their pure will to suc­ceed.”

It’s clear that in an age of arti­fi­cial intel­li­gence and algo­rithms, fin­tech invest­ing remains refresh­ing­ly human.