When it comes to starting a business, particularly if you’re a first-time founder, the path to investment (should you decide to pursue it) can be particularly fuzzy.
During the early-stages of a tech-based business, there’s often only small parts of your product that are “built-to-last”, if any. The rest is undoubtedly going to evolve over time – as you grow, as you gather feedback, as the result of a pivot, or should you receive investment that lets you accelerate, for example.
Over time, Embeddable has sat on both sides of the table when it comes to early-stage investment. We’ve supported a number of investors of various size, stature, and average deal size, by carrying out technical due diligence and providing advisory support. We’ve also been the technology partner or fractional CTO for a business that is aiming to raise through the likes of angel syndicates and venture capital.
What investors aren’t looking for
One of the biggest misconceptions around technical due diligence is that investors are searching for reasons not to invest. In reality, particularly at early stages, investors generally understand that technology is imperfect and evolving.
Perfect code, enterprise-grade infrastructure, comprehensive documentation and a complete product are not an expectation at this stage.
What they do expect is transparency, awareness, and sensible decision-making.
Most concerns uncovered during technical due diligence can be addressed. The bigger problem is when founders are unaware of the risks, unable to explain key decisions, or cannot demonstrate a credible plan for moving forward.
So when it comes to an investor’s tech due diligence (“Tech DD”), what are they looking for, if it’s clear that a lot is likely to change?
1. Can your tech do what you’ve said it can?
As part of your pitch to an investor, you’ve likely outlined what your business or product can do right now, as well as what the future (hopefully) holds in terms of capabilities.
The first port of a call for tech due diligence is often a walkthrough of the product’s current features.
- Fundamentally, can you evidence what you’ve claimed is possible?
- How much of the product is automated (or uses AI) versus requires a human to take action?
- What are the key success measures (or KPIs) for the technology?
2. What does the codebase look like and what is the development process?
Whilst an investor will appreciate your early-stage tech is likely going to change quickly and drastically, it’s still key to understand what the codebase looks like right now.
Investors are not usually assessing whether your code is perfect. They’re assessing whether future capital will be spent accelerating growth rather than fixing avoidable mistakes.
- How is the product built, using what infrastructure or tools, and why?
- How is AI used in the development process?
- How much rework would be needed to the current product, before anything new can be incorporated?
- How much work is needed to ensure the current platform could scale if it needed to accommodate a significant increase in users or customers?
- Is security taken seriously, and are there any immediate security threats or concerns?
- What is the process for building, launching, and reviewing the technology today?
- How is data structured?
- Are recognised patterns used in the codebase to make it consistent and easier to manage, particularly if new people were to join the team and inherit elements of the code?
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3. How defensible is the business, product, or concept?
When it comes to what you’ve built, an investor will always look at how it can be protected. The unique-ness of what you’ve created is a key component of investment. If it can be easily replicated (particularly in a world of AI), then your business lacks defence and an investor’s capital is at risk. You’ll need to consider:
- What intellectual property (IP) exists within the business?
- Are there opportunities to patent elements of the solution?
- Does the product rely on specialist knowledge or expertise?
- Are there proprietary datasets, processes, or workflows involved?
- What prevents a competitor from recreating the same solution?
4. What’s the composition of the current team?
Whether your business is multiple people or you’re a solopreneur, due diligence will cover the make up of your technical team.
In early-stage businesses, a team gives you resilience and a greater likelihood of capacity to move and react quickly. A one person-business, or a one technical person-team in a cofounded team, for example, will have significant “key person dependency”. Small technical teams are not immune to this either and often investment in early rounds is used to give a business more resilience by engaging with support providers or making key hires.
The risk here is that your entire technical efforts lean on a very small selection of people. With that comes the need to plan for:
- How would the business continue if a key person was unavailable?
- Are the proposed plans for the technical team composition aligned with where you’re aiming to take the product?
5. What are your technical integrations, dependencies, and costs?
In part, this is covered as part of the codebase audit, however integrations and dependencies are often broken into their own section, as dependent on your business or product, this can be quite the rabbit hole.
- What integrations, if any, does your technology rely on?
- What is the current spend on integrations and third-parties that allow your technology to function?
- Are the costs associated with these likely to change over time?
- How does your technology provide continuity to users if an integration becomes unavailable (are you overly reliant on an external provider)?
- Are there any risks associated with the integrations and dependencies you currently have?
- Under what license is each of your dependencies, and are you abiding by the terms of the licensing (such as GPL licenses, which mandate open source)?
6. Are there security or privacy concerns?
It’s likely that your technology collects, manages, or has access to data on other businesses, individuals, or other protected information. Security is a key concern for any investment, with due diligence exploring:
- Is the business aware of its requirements on data security, such as the UK’s data protection legislation?
- What security practices are in place in the business, or as part of any technology?
- How is data from external sources, or generated by AI, verified?
- When were any security practices last stress tested?
The likes of penetration tests are often carried out during due diligence, however they are not always carried out in early-stage funding rounds, particularly in cases where the funding is primarily focused on product expansion or rebuilds, where it may instead be proposed that this is required post-investment, once work has been carried out.
7. Is the roadmap relevant and realistic?
From a technical standpoint, due diligence will look to assess your plans for how you’ll expand the technology aspect of your business.
- Does a roadmap exist?
- Are the proposed additions that make up the roadmap realistic and deliverable?
- How have elements of the roadmap been prioritised?
- What are the associated costs and timeline for elements of the roadmap?
- How will new additions to the technology be assessed for success or failure?
- Does the roadmap address the defensibility, team composition, and security considerations already covered in the due diligence report?
An investor is funding your business based on future potential, so an understanding of where your technology intends to go, and therefore the need for a roadmap, is critical.
The purpose of technical due diligence is not to prove a startup is perfect.
It exists to help investors understand where technology creates risk, where it creates opportunity, and whether future investment is likely to accelerate the business or simply fund the resolution of avoidable problems.
Particularly in early-stage companies, a due diligence report is rarely about finding reasons not to invest. More often, it provides clarity about what needs to happen next.
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