Two types, in general.

The first is, of course, financial. They will want to pour through your track record in as much detail as possible. If a GP is forming a new fund, many will construct a “synthetic portfolio” for that GP to try to assess what his or her performance would have been in isolation of the other GPs at her past fund. If the fund doesn’t provide deal-by-deal attribution, most LPs will do their own exercise and decide which partner sourced which deal, and then slice the returns partner-by-partner.

Here, LPs will be looking at two things. First, trailing results. Do the prior funds have a shot at being top quartile? And, second, importantly, does the go-forward team have a chance to reproduce those results? It turns out this is harder than you’d think. Predicting the future in VC funds is hard. And past results often don’t correlate into future winners, except with truly the most elite VCs.

And if you only judge a fund based on cash-on-cash returns, and the fund is very early stage, it may take 6–10 years to really know.

The second is reference diligence. This often comes second. At least in my limited experience, LPs generally don’t do a lot of “on sheet” (i.e., reference list) diligence until they are pretty likely to invest.

But before they make a tentative decision to invest, they’ll talk to the other funds and managers they are invested in, and do “off sheet” diligence, but I haven’t seen a ton of deep diligence that early.

Then, once they have tentative interest, they do a ton of diligence, often 20–30+ calls. More than VCs do on venture investments.

They expect some issues here, on references. Many founders aren’t really fans of their individual GPs, and give lukewarm references, at best. There may be drama around who sourced winners. Etc. The LPs have to sift through this as best they can.

LPs are also trying to assess “proprietary” deal flow in their diligence calls. This is a bit of an elusive concept, many successful GPs don’t really have proprietary deal flow, instead, they win deals. But LPs are looking for this rare thing. Or at least, an edge in investing.

Almost all LPs believe “average” GPs and “average” funds are a recipe for failure. And the data certainly supports this.

They also clearly believe it’s a hits-driven business (which for the most part, it is, except for some of the smallest funds). So if they don’t see any reason a GP or a fund can get into the “hits”, they quickly lose interest in the fund. Hits trump strategy 6.75 days of the week.

And most LPs believe it’s rare that founders truly love a GP. That’s consistent with my experience, as well. When they hear that repeatedly, plus have a top tier track record (or at least, the inkling of one), and the see the potential for some edge in investing … that’s what most are looking for as far as diligence goes.

Things can be even more confusing for GPs and funds because different LPs have different goals. Some are seeking safer bets. Some, for institutional reasons, really only want to invest in proven funds (so-called “Roman V” funds), even if the results aren’t top quartile. They have rules about never doing newer manages and funds, because the data isn’t there yet to justify the investment. Others are logo hunting. Others are deploying so much capital, that they can only focus on the very largest funds.

And others are truly seeking alpha, outlier results. And many of these “True Alpha” seekers believe, and the data suggests, you have to put a lot of your portfolio into emerging managers to achieve outsized returns. Which is kind of scary, and much harder to assess. And >> a lot << more work. But if you’d gotten into First Round, Founders Fund, Lowercase, and all the rest, in their Fund I (or Fund II if the Fund I was sort of a pre-fund or smaller fund, like Emergence’s epic Fund II) … your results would have been jaw dropping. Jaw dropping. So if you want to shoot for 8x, not 1x-2x, you may need to do some of these.

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