How to evaluate a startup idea

August 13, 2019

Good ideas are hard to come by

Evaluating a business idea seems to be one of the biggest challenges for a lot of founders. You basically have to test its viability with your imagination. Then you have the added challenge of predicting how investor-friendly your idea is.

Following your gut is instinct is good. But, having a system to evaluate your idea is better.

Always start with first principles

To successfully evaluate your startup idea, you have to understand that it is fundamentally a hypothesis. If you want investors to like your idea, you have to construct your hypothesis (business idea) in a way that effectively communicates how your startup can gain traction and go grow quickly.

Y Combinator co-founder Paul Graham sums this up nicely:

A startup is a company designed to grow fast. Being newly founded does not in itself make a company a startup. Nor is it necessary for a startup to work on technology, or take venture funding, or have some sort of “exit.” The only essential thing is growth. Everything else we associate with startups follows from growth.

Break it down

To properly evaluate a startup idea you have to fully consider its three parts. A startup idea lives and dies by the potential that each of part has for growth.

The first part is the problem. When you think about startup idea, you have to think about the problems people have and how to solve them. Generally, investors love when the problem is ubiquitous (ie a lot of people have this problem), is growing, urgent, expensive, mandatory and frequent.

The second part of a startup idea is the solution. How are you going to deal with the problem you have identified. This is fundamental to your startup’s existence.

The third part of a startup idea is insight. A proof of concept that shows how the thing that you are going to do will be successful. In other words, the advantage you have over everyone else.

Make sure you have an unfair advantage

The most tricky part is to make sure your idea can convince investors why they should choose your startup over all the others. To do this, you must be able to answer the following questions: ‘What is your company’s unfair advantage?’ and ‘How are you going to grow the fastest?’.

Unfair advantages should unequivocally show investors why they should choose to back your idea over all the others and, of course, should be related to growth - fast growth!

Entrepreneur and investor extraordinaire Peter Thiel said it best when he set out the seven different types of unfair advantages that a company can have. Great companies will have all of them, but having at least two to three is essential:

• The Engineering Question: Can you create breakthrough technology instead of making incremental improvements?
• The Timing Question: Is now the right time to start your particular business?
• The Monopoly Question: Are you starting with a big share of a small market?
• The People Question: Do you have the right team?
• The Distribution Question: Do you have a way to not just create but deliver your product?
• The Durability Question: Will your market position be defensible 10 and 20 years into the future?
• The Secret Question: Have you identified a unique opportunity that others don’t see?

That’s it! Now I want to hear from you. How do you evaluate startup ideas? Drop me a line here.