Venture Institute

VC Investment Process

How venture capitalists find and invest in the top deals

Venture capital firms play a crucial role in supporting the growth and development of startups. Their investment process involves several key steps that ensure thorough evaluation, strategic decision-making, and ongoing support for the selected ventures. This article outlines the typical timeline and stages of the investment process, from sourcing potential opportunities to post-investment activities and potential exits.

Step 1: Sourcing

The first step in the investment process is sourcing potential investment opportunities. Venture capital firms employ various methods to identify promising startups. These methods include attending industry events, networking with entrepreneurs and industry experts, and leveraging their own professional networks. They may also proactively seek out startups through online platforms, incubators, and accelerators.

For example, a venture capital firm specializing in software  startups might actively engage with startup communities in renowned tech hubs like Silicon Valley or venture capital conferences such as TechCrunch Disrupt to identify potential investment prospects.

Step 2: Due Diligence

Once a potential investment opportunity is identified, thorough due diligence is conducted to assess the startup’s team, viability, market potential, and scalability. This process involves examining the startup’s business model, market dynamics, competitive landscape, financial projections, intellectual property, and the qualifications of the founding team.

Venture capital firms often employ a team of experts in various domains, such as finance, technology, and legal, to conduct due diligence. They may also engage external consultants or industry specialists to gain deeper insights into specific sectors.

For instance, during the due diligence phase, a venture capital firm may consult with industry experts and conduct market research to assess the market demand and potential adoption of a startup’s innovative medical device.

Step 3: Term Sheet

If the due diligence phase is successful and the venture capital firm decides to move forward with an investment, they present a term sheet to the startup. The term sheet outlines the proposed investment amount, valuation, ownership percentage, rights and preferences, and any additional terms and conditions.

The term sheet serves as the basis for negotiation between the venture capital firm and the startup’s founders. It lays the groundwork for the investment agreement and sets the expectations for both parties involved.

Step 4: Investment and Documentation

Upon mutual agreement on the terms outlined in the term sheet, the investment process moves forward to the investment and documentation stage. At this point, the venture capital firm prepares the necessary legal documents, including investment agreements, shareholder agreements, and other related contracts.

The startup’s legal team, alongside the venture capital firm’s legal counsel, collaboratively work to finalize these documents. This stage involves extensive negotiation to ensure both parties’ interests are adequately protected and aligned.

Step 5: Post-Investment

Once the investment documentation is finalized and the investment is made, the venture capital firm enters the post-investment stage. In this phase, the venture capital firm provides ongoing support and guidance to the startup.

The venture capital firm may assign a representative from their team to join the startup’s board of directors, providing strategic advice and monitoring the startup’s progress. They also leverage their industry networks and expertise to help the startup navigate challenges, scale operations, and access additional resources.

Step 6: Follow-on Rounds and Exits

In most  cases, successful startups require additional rounds of funding to support their growth trajectory. Venture capital firms often participate in follow-on rounds to continue supporting the startups they have invested in. These subsequent funding rounds may involve multiple investors, including other venture capital firms, strategic investors, or institutional investors.

Once the startup progresses and matures, the venture capital firm actively seeks opportunities for potential exits. This may include an initial public offering (IPO), acquisition by a larger company, or a secondary sale to another investor. The goal is to generate returns for the venture capital firm’s investors and achieve a successful exit for the startup.

Investment Waterfall

The venture capital investment process often follows a funnel model, systematically narrowing down from a large pool of potential leads to a single successful investment. This “investment waterfall” usually starts with a large number of Leads, such as the example below:

  • 500 Leads: These are the initial prospects identified through various sourcing methods, like networking events, incubator programs, and online platforms. At this stage, basic screening occurs based on a startup’s industry, business model, and market size.
  • 100 Potential Investments: After the initial screening, a deeper look is taken at the startup’s product or service, market potential, and competitive landscape, reducing the number to about 100 potential investments.
  • 50 Meetings: Next, venture capital firms might arrange meetings with the founders of these shortlisted startups, helping further narrow down the field based on factors such as investor convection,  team compatibility, company vision, and growth potential.
  • 20 In-depth Reviews: Following the meetings, around 20 startups may be chosen for more in-depth review. This involves a comprehensive study of the startup’s financials, business model, and market position.
  • 10 Due Diligence Checks: The pool is then reduced to about 10 startups that go through a thorough due diligence process, which includes legal checks, detailed financial analysis, and technical evaluation.
  • 5 Terms: Out of those startups, venture capital firms may decide to present or to review about five term sheets, which form the basis for detailed negotiations about investment conditions.
  • 1 Investment: These negotiations may result in about two investments, where venture capital firms invest funds and resources into the startup.

The investment waterfall shows the extensive filtering process, from hundreds of leads down to a single successful investment, that venture capital firms undergo to ensure they’re investing in the most promising and viable startups.


The investment process for a venture capital firm involves a structured and meticulous approach to identify, evaluate, and support startups. From sourcing opportunities to conducting due diligence, negotiating term sheets, making investments, and providing post-investment support, venture capital firms play a crucial role in fueling innovation and driving the growth of startups. Through their expertise and financial backing, venture capital firms contribute significantly to the success and development of the entrepreneurial ecosystem.

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VC Investment Process 4


Due Diligence: An in-depth investigation or audit of a potential investment or product to confirm all facts, such as reviewing all financial records, market potential, and anything else deemed material.

Follow-on Rounds: Additional rounds of funding that a startup may go through after the initial investment, to support continued growth and development.

Incubator Programs: Programs designed to help new startups succeed. They provide support services such as office space, legal counsel, and training.

Investment Agreement: A contract between two parties, where one party commits funds to another party with the expectation of a future return on investment.

Investment Waterfall: A model used by venture capital firms to systematically narrow down from a large number of potential investment opportunities to a single or a few investments.

Investor Conviction: The belief and confidence that an investor has in the prospects of a startup, often influencing the decision to invest.

Post-Investment: The stage of the investment process where the venture capitalist provides strategic guidance, oversight, and other support to the startup after the investment has been made.

Secondary Sale: The sale of a startup’s shares from one private investor to another, often enabling earlier investors to exit their positions.

Shareholder Agreements: A contract between the shareholders of a corporation, defining the shareholders’ rights, privileges, protections and obligations.

Sourcing: The process of finding, identifying, and approaching potential investment opportunities for venture capitalists.

Tech Hubs: Regions or cities that are known for their high concentration of tech startups, such as Silicon Valley.

Term Sheet: A non-binding agreement showing the basic terms and conditions under which an investment will be made. It serves as a template to develop more detailed legal documents.

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