VC Decisions
How Do Venture Capitalists Make Decisions? A Deep Dive into the NBER Study
If you’re raising capital, understanding how VCs make decisions is as important as building your deck. The National Bureau of Economic Research (NBER) published one of the most cited studies on this topic—and the insights are both surprising and actionable. Let’s break it down.
The NBER study surveyed over 800 VCs across leading firms globally. The goal? To understand what drives their investment decisions beyond the pitch deck hype.
This article distills the key findings from the study and provides insights into the decision-making framework used by venture capitalists.
Key areas they investigated:
• Which factors matter most in decision-making
• How VCs source, evaluate, and structure deals
• What makes a founder or startup “fundable”
The Venture Capital Decision-Making Process
The study highlights that venture capitalists operate within a structured yet flexible decision-making framework. Their primary focus is on maximizing returns while managing risks associated with investing in early-stage companies.
The research outlines a five-step process VCs follow when making investment decisions:
1. Deal Sourcing – Identifying promising startups through networks, referrals, accelerators, and direct applications.
2. Screening – Initial evaluation of the business model, founding team, market potential, and financials.
3. Due Diligence – A deep dive into the startup’s traction, legal standing, financial health, and competitive landscape.
4. Investment Decision & Negotiation – Deciding whether to invest, structuring deal terms, and negotiating valuation.
5. Post-Investment Monitoring & Exit Strategy – Actively supporting the startup while planning for a profitable exit.
Key Factors Influencing VC Decisions
While the decision-making process is multi-faceted, the study finds that three core factors dominate investment decisions:
1. The Founding Team is the Most Critical Factor
According to the study, VCs prioritize the strength of the founding team over market size or even the product itself. The reasoning behind this is simple: markets evolve, and products change, but a strong and adaptable team can pivot when needed.
2. Market Opportunity Matters, But Less Than Expected
Contrary to the belief that VCs invest primarily in large market opportunities, the study reveals that while market size is important, it ranks below the quality of the founding team. Investors prefer great teams in niche markets over mediocre teams in large markets.
3. Financial Returns and Exit Strategies Drive Investments
VCs are ultimately driven by returns. They assess the potential for a profitable exit, whether through an IPO, acquisition, or secondary market sale. Investment decisions are guided by a mix of quantitative financial modeling and qualitative judgment.
How Venture Capitalists Add Value
Beyond funding, venture capitalists actively engage with startups to enhance their chances of success. The study outlines the four primary ways VCs contribute:
1. Strategic Guidance – Providing mentorship and industry insights to founders.
2. Networking & Partnerships – Connecting startups to key customers, advisors, and talent.
3. Operational Support – Assisting with hiring, scaling, and strategic planning.
4. Follow-on Funding – Helping startups raise additional capital in later rounds.
VCs do more than just write checks-they act as strategic partners, influencing a startup’s trajectory. (DM and I’ll share personal experience on what that could looks like!)
Risk vs. Reward: The VC Perspective
Venture investing is inherently high-risk. The study explores how VCs balance risk and reward, emphasizing that only a small percentage of investments yield high returns.
• Power Law of Returns – A handful of successful investments drive the majority of VC portfolio returns.
• Risk Mitigation – VCs use staged financing, syndication, and diversification to manage risks.
• Failure Rate – The study confirms that over 50% of VC investments fail, making portfolio diversification essential.
Despite the risks, the high rewards of successful investments (e.g., early investments in companies like Uber, Airbnb, and Facebook) justify the VC approach.
The Importance of Fit: What Startups Should Know
For startups seeking venture capital, the study provides valuable takeaways:
1. Build a Strong, Adaptable Team – A great team is the single most important factor in securing VC funding.
2. Focus on Execution Over Market Size – Execution ability matters more than having a billion-dollar market.
3. Be Prepared for a Rigorous Process – VCs conduct thorough due diligence before investing.
4. Align with the Right Investors – The best VCs provide more than capital—they offer strategic value.
Startups that understand the VC mindset and tailor their approach accordingly have a higher likelihood of securing funding.
Conclusion
The NBER study demystifies the decision-making process of venture capitalists, revealing that team quality, strategic execution, and exit potential are the top priorities. Venture capitalists are not just financiers; they are strategic partners who play an active role in shaping the success of their portfolio companies.
For entrepreneurs, understanding these insights can significantly enhance their fundraising strategies and improve their chances of building scalable, high-growth businesses.
Understanding how venture capitalists make decisions is just the first step—navigating the fundraising process successfully requires strategy, preparation, and execution. As a seasoned Deep Tech entrepreneur, angel investor, and advisor, I’ve worked with startups, scaleups across AI, ML, IoT, and blockchain to refine their pitch, align with the right investors, and build scalable businesses. If you’re a founder looking to raise capital or optimize your strategy, my business coaching services can provide the insights and network you need to succeed. Let’s connect and take your venture to the next level.
Want to align your pitch with how VCs actually make decisions?
I coach founders on building investor-ready narratives rooted in what VCs care about most-team, traction, and scale.