Unraveling the 5 Ts: The Importance of Technology

Why do investors choose to invest in one company over another? Given there is an ambiguous mix of art and science in the decision, almost every seasoned investor uses a framework to organize their thoughts around important criteria of a business.

At Blu Ventures, we rely on the 5 Ts – Team, Technology, Traction, TAM, and Terms. I’ve given an overview of the entire framework in a previous blog (link), but here I will provide a detailed look at how to assess Technology.

Technology: A definition

Let us define what we mean by technology because this is an all-encompassing and potentially ambiguous term. For our context, we specifically mean the product or services that the company provides to its customers that provides some value that addresses a customer’s wants or needs. Technology encompasses both software as well as tangible goods, including both hardware as well as consumable items. In many instances a company’s technology offering will include both hardware as well as software components. For example, a recreational drone would include both the drone hardware as well as software to control it.

Technology serves as a valuable first filter when a prospective deal comes to my attention, in as much as it tells me whether I should explore this deal further or not. For example, if we invest only in fintech companies, and a deal comes to my inbox that is clearly in the healthtech arena, then we won’t spend any more time with it. Simply put, technology is the first “T” we look at.

The decision-tree sequence

Once the company passes the technology filter, a decision-tree follows that allows the potential investor to waste as little time in coming to a decision.

Specifically, before getting into a deep dive on the technology, we next quickly evaluated the company’s team and traction. If both of these Ts show preliminary appeal (i.e. a solid team with demonstrable traction), then we will want to understand how the company’s technology fares against competing solutions in the market. Does it provide a modest 10% - 25% incremental improvement to competing solutions, or is it a real game-changer, offering 50% - 100% or better performance or dramatically lower costs than any competing solutions?

If we need more information beyond the company’s introductory pitch deck, then a couple of reference calls to actual customers will help to cement our assessment.

Generally, we only want to invest in companies that can offer technology that is at least 50% “better” than currently available solutions according to one or more performance metrics (cost, speed, accuracy, ease-of-use, etc.) that are important to prospective customers.

Why not also consider technology advances that offer a 25% improvement? The simple answer is that such incremental improvement is often insufficient to overcome the switching cost that any customer must endure when moving away from an incumbent competing solution that they are already using.

Do we need to undertake a deep-dive into technology every time?

The answer to this question mostly depends on how extensively the market has already considered the merits of a company’s technology. We answer this by assessing revenue and customer growth trajectories, which are directly correlated to the following four measurable factors:

• The absolute number of customers and revenues at the time the deal is assessed;

• The rate of conversion of customers in the sales pipeline to actual paying customers; 

• The frequency of repurchase of tangible products or the renewal rate of software subscriptions; and

• The rate of increase in both customer count and revenues over time.

Companies that clearly demonstrate most or all of these metrics have validated their technology's value to customers and its competitiveness in the market. For example, if a prospective company comes to us with $4M in annual recurring revenue (ARR), 100 customers and 100% annual growth in both customers and ARR for the last 3 years, we will feel quite confident that their solution clearly “works and wins” and is valued by the market. In these cases we don’t need to further convince ourselves of the value of the company’s technology, because the market has already done so.

Conversely, a company with early revenue traction (less than $1M), few customers (less than 10) and that is growing both 25% annually will necessitate a much more in-depth assessment of their technology to determine whether it warrants further consideration.

What do we mean by a more “in-depth” assessment? Likely we want to give the technology a test run ourselves. We want to see it work, solve problems….to experience it in action.

Or consider the most extreme scenario, a pre-revenue company without a fully developed product that cannot offer us any customer references. In such circumstances we must thoroughly analyze their technology, its state of development, what development remains to get it “fully baked”, and the go-to-market plan for alpha and beta testing and eventual market introduction. Given the high rate of failure of this stage of the company, many investors are understandably ill-equipped for or reluctant to  undertake such an in-depth evaluation.

What technology assessment should we undertake for all companies?

No matter the current stage of a company (pre-revenue, early revenues, growth stage) that a core set of questions should always be asked and answered:

• How disruptive and/or innovative is this technology? Is it 10%, 100% or 1000% better, faster, cheaper, etc.?

• What’s the competition, and for what product attributes does this company “win” against the competition?

• Who are potential/adjacent competitors that could easily become direct competitors?

• What is the barrier to entry for potential competitors, if such a barrier even exists? Is patent protection appropriate, and if so, is there an IP strategy in place?

• Is the product “bullet-proof” and close to 100% reliable, or are there problems with performance and reliability, necessitating frequent customer support intervention to address product-related problems?

• Is there significant inventory, supply-chain or sole-source risk?

• Is the company’s current product platform (in the case of software) or manufacturing operations (for a product) sufficient to support scaling 10X, 100X, or 1000X?

• Does the company have plans to iterate/improve upon their existing technology? If so, how and when?

• Is there the opportunity to drive lower product COGS and gross margins higher as the company grows and sells more product?

• In reference calls to customers, understand (i) why the customer selected this company’s technology over all other potential competing solutions, (ii) how well the product performs for the customer and (iii) how well the company supports their technology.

A few final thoughts

I attempted to cover one aspect (“technology”) of the 5Ts to cover all possible market segments, but it should be obvious that assessing the technology related to a new drug in development will be a completely different undertaking than that required for a currently marketed cybertech enterprise software solution. Since no single investor is likely to be well-versed in both market segments, an investment team—or support from domain-specific advisors and consultants—is often essential.

An expensive lesson I learned early on is that the most appealing technology “idea” is worthless without the right team to develop it into a customer-centric solution, introduce it to the market and grow it to become a valuable and sustainable brand and enterprise.

I’ve watched pre-revenue companies unable to turn their vision into an actual product, failing completely before they even had their first customer. I’ve also seen other companies (usually led by technical founders) start with a simple and elegant software solution, but added so many feature requests that it became overly complex and no longer user-friendly, leading to excessive customer churn and the company’s eventual demise. The bottom line is that few technical solutions today will look the same in just a few years, but product evolution must be carefully planned and executed, with both the customer and the competition in mind.

To quote Bill Gates, “In three years, every product my company (Microsoft) makes will be obsolete. The only question is whether we will make them obsolete or somebody else will.” While we must have a profound appreciation for the technology underlying any potential investment, we must have at least as much confidence that the team will be able to transform their technology into a market-leading solution for years to come.