Source:  & Part 2 | Tom Ballard | August 20 & 21, 2018

These articles spotlighted Shawn Carson’s recent dissertation that examined a critical topic – “Identifying Critical Risk Factors in the Decision-making Process of Angel Investors and Venture Capitalists”. They appeared in recent newsletters. 

“The numbers have to be there, and they also have to like you,” Shawn Carson says in succinctly capturing the results of the research undertaken on investment strategies for his recently completed dissertation at the University of Tennessee (UT).

The long-time player in the Knoxville region’s entrepreneurial ecosystem shared the results of his research at the recent “Innov865 Investor Series” forum, then moderated a panel discussion about the topic. The panel featured Tony Lettich of The Angel Roundtable, John Morris of The Lighthouse Fund, Grady Vanderhoofven of Three Roots Capital, and Ken Woody of Innova Memphis.

Carson is well-known across East Tennessee for his skills as a workshop leader and effective communicator. As such, it was only natural that the soft-spoken Lecturer in UT Knoxville’s Haslam College of Business would decide to pursue his doctorate. And, it should come as no surprise that his previous ties to the now defunct Technology 2020 and current additional role at Three Roots Capital would lead him to a dissertation topic based on the decision-making process used by angel and venture investors.

“I’ve been studying entrepreneurial risk for a while,” Carson told us in an interview ahead of the forum. We wanted to better understand the methodology that he used and the results that he uncovered.

“Entrepreneurs take risks, investors avoid risks,” Carson explained. “I wanted to know if there was a way to quantify risks beyond the ‘Big 4’ – execution, market, technology, and funding.”

The short answer is “yes,” but it took some work. Carson described his challenge as “developing a process that would get people to explain their individual risk factors in a way I could quantify.” To do it, he selected the Delphi Method developed in the 1950’s to achieve consensus while avoiding biases of those surveyed.

“I conducted three surveys,” Carson said. Those surveyed were nine venture capitalists and nine angel investors who were known to be active in the region even though all did not live in Tennessee. Some resided in Georgia and Kentucky and one is based in California.

The first survey asked the individuals to identify critical risk factors considered in their early evaluation work. Carson allowed them to list as many as 25 factors, but the individual responses ranged from a low of four to a high of 20 with an average 11. Overall, after eliminating duplicates, he says the unique factors totaled 82.

“I next asked them to rate all 82 on a scale of one (not important) to five (critically important),” Carson explained. Armed with those responses, the final survey was what he described as the “consensus round.” Respondents were given their previous ranking of each factor and the median ranking of that factor for all 18 respondents.

“You got to compare yourself to your peers and decide if you wanted to change your ranking,” Carson said.

Along the way, he also grouped the 82 into seven common categories like founders and management team, relationship, intellectual property, competitive factors, value proposition, scalability, and exit.

“If 70 percent agreed to a rating of either three, four or five on a factor, that meant there was consensus,” Carson explained. When all the input was tabulated, about one-half of the factors were rated as a four or higher.

“There was 100 percent consensus among the VCs on the top 40 factors, and 100 percent consensus among the angel investors on the top 31,” Carson says.

“There is a whole lot more going on subconsciously than they (the respondents) realized,” he says.

Those attending tonight’s event (click here to register) will hear Carson’s presentation and the panel discussion. For those who cannot attend, tomorrow’s second article in this series will examine those factors in greater detail.

Shawn Carson says the research conducted for his recently completed dissertation on the critical risk factors considered by angel and venture capitalists confirmed some things he expected, but also held a big surprise.

“What I expected was the importance of the ‘Big 4,’ what surprised me were the relationship factors,” the Lecturer in the Haslam College of Business at the University of Tennessee Knoxville and Consultant with Three Roots Capital says.

The ‘Big 4,” as he describes them, are execution – can the management team execute the business plan, market – is there a viable market for the product or service, technology – does it work, and funding – can the start-up secure the necessary capital.

“Those are fairly objective measures that are commonly accepted,” Carson says. Yet, when he asked nine venture capitalists and nine angel investors for their list of all critical factors considered in making investment decisions, they collectively identified 82 unique ones.

Carson lumped those into seven categories like founders and management team, relationship, intellectual property, competitive factors, value proposition, scalability, and exit.

“By far, the number one category of factors was around relationships,” Carson said. “Six of the top 10 were about relationships.”

You might ask, “What are those six?” Survey says, in order, trustworthiness, ethics and honesty, integrity, coachability, character, and passion. Two others were in the top 20 – management ‘skin in the game’ and transparency. (See the PDF at the end of this article for the complete list.)

As he explained to the attendees at last night’s “Innov865 Investor Series” forum, the results are enlightening.

“The fact that the relationship-based factors proved to be more important than objectively-measured factors, coupled with the finding that these two types of factors are in play at the same time, shows the complexity of decision-making in early stage investments,” Carson says. “The relative high degree of consensus within the most important factors may bring confidence to individual investors that their experience is confirmed by their peers and affords them an opportunity to review their biases in light of how they rate against their peers.”

In the case of entrepreneurs seeking funding, Carson says there is no silver bullet or short checklist.

“This study did not result in a concise, five-point checklist or framework they can use to help guarantee an investment,” he explains. “Despite any clarity this study brings to the process, there will still be a fraction of funding resources available to all who are seeking it. Investors will still have to decide to decline far more investment deals than they will close.”

He adds that the study does document how complex the process is, with all the variables that come into play.

“The consensus effect underscored this reality and should provide a more realistic alternative to all the ‘Top Ten Things Investors Look For’ that show-up in ubiquitous blogs on the subject,” Carson says.

The other implication for entrepreneurs is the fact that there are dual/parallel tracks of critical risk factors at play: those related to relationship and those related to more objective, measurable factors.

“Much attention is currently given to constructing financial statements and business models, backed by market research, founder’s experience and technology,” Carson notes. “Relationships take time to build, which helps in part to explain why investment deals take such a long time.”

Carson shared a summary of his research in this PDF document (Carson Dissertation Summary).