Data-driven road to riches: combining Silicon Valley technology with Wall Street heuristics

Venture capitalists are catching on to something their later-stage counterparts have been doing for years: sourcing deals from obscure signals that tend to correlate with revenue growth.

Large growth equity investors have long used the “smile and dial” approach to sourcing and relationship building. They employ legions of pre- and post-MBA analysts dialing through phone books looking for high growth — often bootstrapped — businesses. Over the years, these firms have established contact with tens of thousands of companies each, often following up once a year to trade some market perspective for an up-to-date headcount, office square-footage, or the holy grail: a revenue range.

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Manual research

Apart from conversations directly with companies, where do analysts find information to get an edge? The most clever ones dig far and wide, even subscribing to print-only versions of trade journals and niche regional publications. What are they looking for? They seek that one article about an office expansion, a new board member, or another indication of growth and progress. This research has long been ad-hoc and unscalable, but savvy young associates are catching on to new ways of accessing long-tail data that is now finding its way online.

Some venture capitalists watch for changes in employee counts and watch CrunchBase and filings with the U.S. Securities and Exchange Commission.

News articles are another great source of growth metrics, with journalists inadvertently acting as a distributed analytical army, supplying metrics that can include customer traction, office square footage, and ad spend, for example.

Still, a lot of this research and tracking is done manually. Prior to starting DataFox, I was a growth equity analyst at Goldman Sachs, where, despite being very well-resourced, we relied on in-house customer-relationship management (CRM) software and Excel spreadsheets to track these data points.

The path to automation

This brings us to Sand Hill Road. With their proximity to technical talent and their understanding of new technologies, venture capital firms, rather than later-stage investment firms, might be best positioned to bring scale and automation to the search for growth heuristics.

What are venture capital firms currently doing? Some are hiring data scientists, some are relying on company-scoring algorithms, but the most useful technique may prove to be one that automatically collects long-tail data, empowering an analyst to spend less time on data organization and more time on analysis.

So what might this automated analyst look like? DataFox is trying to build just that. Here are heuristics we’ve been able to automate, and this is only the tip of the iceberg:

• Competition. Instead of relying on manually generated lists of competitors, we compute overlap in meta keywords for any two companies, and combine that with instances of being co-mentioned in news articles. Example: Evernote and Dropbox aren’t strictly competitive, but they’re increasingly encroaching on each others turf. Our algorithm picks this up in real-time.
• Hiring. Expansion of sales departments and opening of international office are commonly used by analysts to infer revenue growth. We found that Dropbox currently lists 11 international jobs on its site, and 21 engineering jobs and 10 sales positions. This compares to five international postings, with seven engineering and three sales jobs exactly one year ago.

Other valuable metrics often tied to revenue growth include conference sponsorship, office square footage, social-media sentiment toward consumer products, web traffic, and social-media following. Some of these are relevant for business-to-consumer firms, while others offer signal mainly for business-to-business firms.

Venture capital firms aren’t the only ones catching on to the value of these metrics. Others who need the same data to generate and qualify leads include professional services (bankers, lawyers, accountants, advisors), business development teams, and academia. And VentureBeat will be highlighting technologies that can enable growth based on the analysis of key metrics at its DataBeat conference in San Francisco on Monday and Tuesday.

Now the arms race is on to apply technology to proven investment heuristics.

Initially, having access to this data gives an investor an advantage. However, as access to such data becomes more widespread, then it’s no longer about having the advantage, it’s about avoiding the disadvantage of not having it. This is what happened with the Bloomberg terminal. Initially it gave certain traders an info advantage. When it became more widely adopted, you could no longer trade without it.

It’s incumbent on Silicon Valley to create the next grade of technology to keep investors on the cutting edge.

Bastiaan Janmaat is a co-founder and chief executive of DataFox, a deal intelligence platform built at Stanford that helps firms uncover investment opportunities and emerging trends, by making sense of the world’s public information. He previously worked as an analyst in Goldman Sachs’ principal investing group.