Of course, ensuring the financial success of portfolio companies is a top priority for investors and stakeholders. Even so, hidden markers of potential detours on the path to a solid pivot to maturation can often go unnoticed until it is too late, derailing success for everyone. To help uncover these hidden markers early and often (or ideally prevent them altogether), here are five critical questions that investors and decision-makers should ask their portfolio companies.
#1 Gauge Understanding Revenue Determinants
Here are key questions venture capitalists can ask founders of portfolio companies to ensure a true understanding of revenue determinants:
- What are the three biggest determinants to your revenue?
- What can you tell me about your revenue streams? (The more detail the better.)
- What can you tell me about the repeatability of your sales? (The more detail the better.)
In essence, investors want to gauge whether an underperforming portfolio company is accepting money from any potential source, or if it honed its revenue streams and can it turn away new business that does not fit its model. It is critical to evaluate whether portfolio companies’ revenue sources are diversified and if there are clear strategies in place for consistent growth.
#2 Assess Revenue Risks
These questions can support investors in opening the conversation with any struggling founders about how best to assess and mitigate revenue risks:
- What are the three biggest risks to your revenue?
- Are the industries you service struggling financially for any reason?
- Does 80% of your revenue come from one client?
Recognizing revenue sources is just as important as identifying potential threats to revenue. Over-reliance on a volatile industry or single customer can expose a business to significant financial risks.
#3 Uncover Hidden Market Opportunities
The most important question for investors to ask founders in an effort to uncover hidden marketing opportunities is this:
- Can you send me 24 to 36 months of Income Statements and Balance Sheets in the next 15 minutes?
A clear financial picture can unveil numerous opportunities, including exploring other verticals, expanding offerings, identifying alternative use cases, forming strategic partnerships, exploring co-marketing opportunities and enhancing products. Having comprehensive financial data readily available can be a game-changer when making strategic decisions. Venture capitalists may be surprised to find some of their portfolio companies’ founders do not have this historical reporting at their fingertips.
#4 Unpack Accounts Receivable and Days Sales Outstanding (DSO)
Again, just one main question can tell investors plenty about their portfolio companies’ financial health:
- What is the collectability of your revenue?
Examining the health of accounts receivable and DSO can reveal critical insights. High levels of uncollected accounts over an extended period can be a significant red flag, potentially impacting cash flow and profitability.
For instance, imagine analyzing an aging report on a prospective client and discovering they have over a million dollars in uncollected accounts, all over 90 days. Flagging such issues early can significantly increase the odds of successful collection.
#5 Analyze Revenue and Expense Trends
Here is one broad question that can reveal a great deal about a portfolio company’s potential financial success:
- Looking at trends, what is your revenue growth rate in relation to your expense growth rate?
Unrealistic projections, such as quadrupling revenue while keeping expenses flat, can lead to significant issues down the road. Identifying such hidden markers early can prevent potential financial disasters.
These five types of questions serve as a valuable toolkit for investors to uncover hidden markers that may be steering portfolio companies off the path of financial success. By proactively addressing revenue sources, risks, hidden market opportunities, accounts receivable and expense trends, stakeholders can navigate the complexities of supporting portfolio companies in pivoting to scaling with greater confidence. The bottom line: if the founder is unable to thoroughly answer these questions, it may be time to seek an outside business finance expert that can.
