Conducting Due Diligence on a Start-up Job Offer

January 30th, 2023 | < 1 Min Read


Ask These Questions to Assess Job Security when Interviewing with Start-ups

Introduction

Recent lay-offs in the employment market have, naturally, caused everyone to reflect on the way businesses have approached hiring over the last 2 years. I’ve spent my career helping high-growth companies recruit, but the headcount growth forecasts over the course of 2021 and H1 2022 felt on another level altogether.

The topic of sustainable, responsible hiring has come to the fore in discussion forums on platforms like LinkedIn and, whilst this most recent period has been extreme, one could argue that this has been in the post for a while.

Technology companies are so incredibly scalable that the prizes for being the first to sew up the market can be enormous. However, technology also facilitates the quick and easy transfer of information, meaning that a genuinely unique and successful business model doesn’t stay a secret for long. Therefore, early-movers have to act very quickly to block out copy-cats.

Enter “blitzscaling”. Blitzscaling is where organisations very deliberately prioritise speed and dominance over perfection. In other words, they consciously grow at a rate beyond their capability; accepting lots of mistakes and creating lots of waste, to ensure they establish themselves as market-leader before their rivals do.

This game of ‘winner takes all’ determines that lay-offs and destruction are a necessary by-product of dominance and, it would appear, are here to stay.

To this end, we’d like to help better equip candidates to select secure jobs in the future, so have prepared this guide. This guide is designed to:

  • Help you ask the right questions to understand the financial health and business model of a hiring company
  • Identify a good answer versus those that require further investigation

To some, this level of detail might feel overboard and, of course, you’re free to cherry-pick the parts you feel are important. Our objective is to ensure everyone is adequately equipped to make one of life’s most important decisions, and we feel this guide provides that.

Please note: this guide is suited to candidates interviewing for opportunities within VC/PE-backed businesses as this group represents the vast majority of our client base.

  • Getting Started

Whilst you can reasonably ask these questions at any time during an interview process, given you will be requesting very sensitive information, we would typically recommend preserving most of these questions until after a job offer has been presented to you.

Hiring companies will wish to limit the number of people who have access to this information, so may be reluctant to share too much at an earlier stage, meaning you likely won’t get access to everything that you need to make an informed decision.

It could also be a good idea to proactively offer to sign a NDA when asking this information, just to transmit to the hiring company a recognition of the importance and sensitivity of this information and to perhaps encourage them to share more detail.

I understand that asking these questions can be nerve-racking as you may worry about coming across as risk-adverse or high-maintenance, but let me say this in response…

Financial Investors conduct forensic due-diligence when sizing up a start-up investment opportunity. As an employee, you’re investing a period of your career into this business and, given our careers are short, this time is incredibly valuable.

Secondly, once a hiring company has decided that you are the person they want, they’re typically pretty motivated to make it happen, so you should feel comfortable in this type of discussion. Many hiring managers will admire this level of care and, if they, react negatively then perhaps they operate a culture of low-openness and/or have something to hide.

  • The Questions

FINANCIAL HEALTH

  • How much cash do you currently have (once any outstanding expenses have been paid)?
    • (You could request an updated balance sheet if they don’t have the numbers to hand)
  • What is your monthly burn rate (the cost of running the business)?
    • How much has this increased in the last 3 & 6 months?
  • How much runway do you currently have? (You can calculate this yourself by dividing cash by burn rate, but there is no harm in asking anyway)

UNIT ECONOMICS

  • What is your cost of acquiring a new customer?
  • What is your life-time value (LTV) of a customer (for subscription businesses) or average order value (AOV) of a customer (for non-subscription businesses)
    • What is your gross profit on one of these customers (exc. Marketing costs)
  • What is your churn rate (for subscription businesses)?
  • What is your returning customer rate (for non-subscription businesses)?
  • What is revenue growth over the last 6 & 12 months?

FUNDRAISING

You should already have information re fundraising but, in case you don’t:

  • Can I have an overview of all fundraises to date (timelines, value and participants)?
    • Assess how much the valuation has increased
    • Have previous investors come back to the table to put more money in?
  • Can I request a copy of the pitch decks previously used to raise funds?
    • Through reviewing these, you can assess how closely the business’ evolution is following the plan – if closely, this may instill confidence
  • When will you next raise?
    • Are any previous investors making offers?
    • How much has the valuation increased by?
    • When is it expected to close by?
    • How much investment will be raised?
    • What is the purpose of the funds (survival or growth)?
    • How much runway will the business have post closing investment (in months)?
  • What objectives did existing investors set to justify them investing again?
    • Where is the business performance in relation to those objectives?
  • Putting the information to work:

FINANCIAL HEALTH

Once you know how much financial runway the business has, you can picture how healthy the business is under various circumstances including:

  • If future fundraising falls-through/is delayed
  • If sales drop by X%
  • If the business increases their operational expenses (central costs e.g salaries) by X amount

This is your base-level risk assessment to help you see how much of a balancing act their CFO is doing and the potential the business may need to dramatically cut costs in the future.

UNIT ECONOMICS

Does it work?

The next thing you may wish to do is understand if the business has actually landed on a profitable business model – their unit economics. Please note, this is not the same as whether the company is actually making a profit each month.

For example, if a business can acquire a subscription customer for an average marketing cost of £25, and it costs £12 to service them, with a  LTV of £85, the business model generates £37 in gross profit. This profitable model is the first step towards building a viable business. However, once all operating/central costs are accounted for (salaries, offices, software, etc), the overall business could still be running at a loss. However, with expansion typically comes economies of scale, which should help move the business towards overall profitability in the future.

Let’s put the LTV and AOV numbers to work:

  1. Subscription businesses calculate the value of a customer through their ‘life-time value’; which is the average duration a customer subscribes for (in months), multiplied by the average revenue they generate p/month.
  2. For non-subscription businesses, the equivalent is ‘average order value’ – think of this as the average basket value for an online retailer.

The type of business you’ll want to work for will know their cost of acquiring a customer – their marketing spend divided by the number of customers they acquire in return.

To help get a handle on their unit economics, let’s now factor in the gross profit margin to see how much profit is left.

Earlier, we asked the hiring company what their gross profit level is on a typical sale/typical LTV customer. Therefore, we can now subtract the cost of acquiring a customer from the gross profit, and see if there is a healthy profit left over. If yes, great. If not, tread very carefully as this company is very far from proving that it can be self-sustaining.

Please note: if the company provided their gross profit figure as a percentage, you can easily calculate the gross profit by working out that percentage of the AOV/LTV i.e 20% gross profit on a £150 LTV/AOV is £30 GP.

Scope to Grow & Sustain

Revenue growth is a great overriding indicator of whether the business has found product/market fit and is retaining and adding to its customer base.

If you wish to dig a little deeper, you can also specifically assess their ability to retain customers as businesses that are losing customers at a similar rate to that which they are acquiring new customers are generally very difficult to expand and sustain. This could be wise as sometimes huge marketing spend can inflate revenue figures and gloss over issues such as the inability to satisfy existing customers.

For subscription businesses, you would be looking at the  churn rate (rate at which customers are canceling their subscription) or returning customer rate in non-subscription businesses (the rate at which customers are coming back to buy more products).

Different industries will have different target Churn/RCR’s, but consider these figures against the backdrop of everything else to help get a fuller picture on whether this is a viable business model.

FUNDRAISING

Within this assessment, this is the most opaque area as the status of fundraising and perceived interest from investors can be more subjective. That being said, your findings within the previous two sections should give you a picture of the commercial success of the business. Therefore, if the business model is proving successful, you may wish to be more trusting of the narrative around fundraising than you might be otherwise.

When assessing the hiring companies answers to your questions in this section, consider this:

  • Thriving start-ups will be receiving funding offers, whether they are actively fundraising or not. Therefore, if they have had no offers but suggest this is due to them not looking for funding until now, treat this with a little bit of caution
  • Existing investors will have a clearer vantage point of the prospects of a start-up than other investors. Therefore, ideally, you will see that they have participated (or plan to participate) in future fundraises. If not, ask why. Some VC’s only invest at certain stages in a start-ups lifecycle (e.g. seed stage) – is it due to this or have investors lost confidence?
  • Successful start-ups increase their valuation significantly between fundraising rounds. If this has not happened, this likely suggests that this business is struggling to convince investors
  • The purpose of the fundraise can be quite enlightening as far as the financial health of the business. Start-ups who are raising to increase their runway are high risk. On the other hand, start-ups who have a profitable business model and now wish to add jet-fuel to their marketing spend are far more attractive
  1. Summary

With this kind of information, you’re a step closer to picking a job within a viable business that is going to set your career up for success; offering job security, as well as giving you a platform on which to do interesting work.

If you identify areas of concern, address them with the hiring company and use your own judgment to make a decision based on your own personal appetite for risk.

Beyond getting the information itself, I feel a business’ response to this line of questioning will be extremely telling, their reaction alone, could give you all of the information you need.

Personally, I can see a world where start-ups prepare this information as part of a job-offer pack to help secure key hires. Can you?

Keep informed

More Resources

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