PS#085: A Reference Guide for a Successful Internship (Part 3)
So far, we’ve discussed goals for sourcing and the evaluation/diligence process.
Today, we are going to dive into the investing (or transacting) process. While a critical component of the overall skill set, this is a much harder one to learn during your internship.
With that being said, we are going to discuss how you can still learn about this part of the process without necessarily being involved or needing a live deal.
Alright, let’s dive in.
Goal: learn about the process of investing (or transacting) for venture capital investments.
At the end of the day, this is a financial industry based on returns. We are aiming to invest in startups at an early stage to return significant capital in the future, complete with strong multiples and IRRs that outpace targeted benchmarks.
Your goal for the internship should be to learn about the different structures in venture capital, the process of valuing a startup, and the potential exit opportunities.
Venture capital is focused on taking companies from initial creation all the way through maturity (and hopefully a successful exit). The structures we use, the entry price, and the exit potential are all key parts of underwriting these opportunities.
To complicate matters even further, we are trying to understand the relationship between valuation today and the future exit expectations years down the line. It’s not easy and will certainly take your entire career to understand this process in full.
However, there are still pieces of the puzzles we can start learning about today.
1. Practice the different ways to value a startup.
Valuing startups is a combination of art and science.
We are looking to value these early stage companies so that we can properly align incentives and achieve successful investment outcomes down the line.
Spoiler, it’s not easy.
The valuation for a startup can vary greatly depending on the industry, technology, founding team, product/solution, market opportunity, competitive landscape, etc. It requires a thoughtful approach, balancing the current market dynamics as well as the long-term potential of the company.
If you are able to experience a few live deals during your internship, observe your senior investors and how they go about pricing these opportunities. Alongside this “hands on” experience, try applying some of the methodologies I’ve shared below.
Now, if you’re unable to work on a live deal (which is pretty common for VC internships), you can still learn about this process. Take a few of the fund's historical investments, review how the fund priced the startup at the time, and compare that to how you would’ve priced it with the methodologies below. It won’t be perfect, but it will give you a great starting point from which to discuss with the senior investors who actually did the deal.
Check out the methodologies for valuing startups outlined below…
2. Learn (and study) the different types of structures.
Venture capitalists have a number of different ways of investing in startups, including SAFEs, convertible instruments, and priced rounds.
Each of these structures has their own benefits and limitations, but they are all used throughout the market and lifecycle of a startup.
Again, you may not have the opportunity to work on a live transaction, which will limit your exposure to this part of the process. If you do, great! The resources below will help you set a foundation for how these structures work, when to use them, and how to think about them over the course of your investing career.
If you don’t experience a live transaction, there are still ways to learn (and study) the different types of structures in venture capital, including (1) reviewing prior deals structured by the firm, (2) studying “what’s market” in the venture industry via the National Venture Capital Association, and finally, (3) think through the structures that you would apply to deals in your funnel.
Of course, all of this is simply setting a foundation. Use this foundation to have deeper conversations with senior investors in the firm about their philosophies on structuring venture capital investments.
Check out the pieces below that dive into the fundamentals of VC deal structures. I also have a full playbook for reading and understanding VC deal structures in my course.
3. Explore the many exit possibilities.
I think this is a pretty important and often overlooked part of venture capital.
For the most part, this comes down to the math between entry price and exit price. Remember, this is a financial industry, we are looking to return capital to our LPs. With that in mind, we need to think through all the potential exit scenarios when we are pricing our initial investments.
More often than not, you’ll often hear investors and founders talking about building companies that can IPO and exist in the public markets. While it’s awesome to shoot for that kind of major outcome, that tends to be a very difficult part to predict with any sort of accuracy.
In my experience, I’ve found it much more helpful to think through the other potential outcomes and scenarios, exploring the ultimate upside alongside strategic M&A opportunities, private equity, downside protection, etc. These are often higher probability outcomes and are the majority of the liquidity events in the venture capital industry. It doesn’t have to be a future S&P 500 company to still be an incredible exit. Some of the best venture investments of all time were exited through M&A processes.
During your internship, use the fund’s existing portfolio and any deals in the active pipeline to think through the potential exit scenarios. If you practice thinking about the exit strategy, it’ll help you maintain discipline and learn how to properly price your investments.
Check out some of the articles I’ve written on this topic below…
