VC Due Diligence: Do Your Target Market Segments Support Rapid Growth?
This is the first post in a series about the things venture capitalists look for when they perform due diligence of an expansion stage company’s sales organization. To read the intro to the series, click here.
Imagine that you’re the managing partner at a midsize law firm in the market for project management software. You need something that will allow your attorneys to share documents and collaborate more efficiently on specific cases. So you look around, do your homework, and find two potential solutions.
One markets itself as all-encompassing, all-serving software that everyone can use. It’s feature-rich and well respected, but somewhat generic. The other option has similar features, but boasts testimonials from other law firms that have successfully used the product, and highlights specific features that are relevant to attorneys and your firm’s specific pain points.
Now, which company’s software are you more likely to buy?
I borrowed that scenario from a post by Firas Raouf, one of my colleagues at OpenView, to illustrate the importance and value of market segmentation – the tactic used by the second “company” above. As Firas writes in his post, that highly focused segmentation is a clear a pathway to creating more profitable growth.
It’s also something that venture capitalists absolutely drool over during the due diligence dive into your sales organization.
Why do VCs care about market segmentation?
Quite simply, investors want to see that you have a clear understanding of what market segment(s) you need to be targeting. In other words, have you identified which alike subsets of groups within a larger market (like midsize law firms that specialize in corporate litigation, for example) and have you done anything to sharpen the delivery of your product to align with those segments?
If your company can show that it’s done that – or is in the process of doing it – you’ll get high marks during the venture capital due diligence process. If you can’t, it doesn’t mean that you and the VC won’t be able to make a deal. It just makes your company look a little less appealing, or less readily prepared for rapid growth.
The bottom line is that the more ironed out your market segments are, the better you’ll be able to tailor your value proposition to specific buyer personas and design a product that expressly addresses their shared pain points. That ultimately benefits your sales process and allows you to scale on the success you have in certain segments, creating rapid growth potential.
So how can you tell if your market is well defined and small enough to attack?
I’ll go back to Firas’ post, which lists a set of market acceptance tests you can apply to your target segments:
- Identifiable: Distinct enough so that you can identify its members
- Measurable: Possible to determine size
- Significant: Large enough to be profitable
- Homogeneous: Members within segment are similar
- Heterogeneous: Members between segments should be different
- Reachable: Via promotion and distribution efforts
- Responsive: To marketing messages
- Compatible: With your mission, strengths, ability
Another great step to take before you begin the VC due diligence process within your sales organization is to evaluate your market clarity. OpenView founder Scott Maxwell outlines and defines the market clarity metric in this post, providing a simple way to calculate yours with a quick assessment. The higher your market clarity score, the better chance you’ll have of landing growth capital.
Of course, there’s a lot more that goes into sales due diligence than segmentation and market clarity. (I’ll discuss a few of the other things VCs look for from expansion stage sales organizations in the coming weeks) But when you’re trying to land venture capital, market segmentation is a big first step.
So, what have you done to pinpoint and attack your target segments? And are they really segments? Or are they really much larger, far less attackable market categories?