How Prospective Investors Evaluate Opportunities Using Alternative Data

Staff writer | 18 November 2021 | 2 years ago

prospective investors

According to Lloyd’s Bank, it costs an average of £12,601 to start a small business.

Of course, this number begins to snowball rather quickly when it comes to some of the more significant start-ups out there, which is why many entrepreneurs seek funding from private investors to secure the capital they need to scale their operations and see their business goals come to fruition. Indeed, there are many things to consider before starting a business, and yes, the availability of resources is a huge one.

In this hyper-competitive environment, it’s becoming increasingly difficult to stand out from the crowd and label yourself as an attractive proposition to investors, especially as private equity firms turn to alternative data sources as a form of investor intelligence.

Nowadays, there is an almost incomprehensible quantity of data generated each and every day, which has given us the ability to measure almost every facet of human endeavour. As you would expect, private equity firms are taking advantage of this in an attempt to improve the accuracy of their decision making and increase overall ROI.

Thus, if you’re aiming to secure funding from private investors, it’s important to understand the different metrics and data sets they will utilize when assessing whether your company is worthy of an investment – or not.

How investors use alternative data to evaluate opportunities

Private investors and equity managers are continually searching for new ways to better estimate the potential risks and rewards of their investment opportunities. Until recently, the vast majority of these assessments were based upon traditional data sets that are endogenous to financial markets, such as profit and loss statements, SEC filings, balance sheets, and so on.

With the widespread adoption of alternative data, however, private investors can now undergo unprecedented levels of due diligence before allocating funds to a particular project.

With that in mind, let’s look at some of the primary alternative data sets that private investors are using to assess your business, so you may better prepare yourself and take steps to increase your company’s attractiveness as an investment.

Transactional data

Your transaction history is one of the first non-traditional data sets that potential investors will examine. This includes things such as credit card transactions, banking information, and point-of-sale histories. These data sets are used by investors to gain insight into your company’s overall financial health and to receive an up-to-date picture of your sales numbers.

Investors may utilize transactional data to predict the financial state of your firm instead of waiting for quarterly and annual reports, and they can even split the data into specific periods to evaluate the effectiveness of your product launches or marketing activities.

So, what can you do to increase your company’s desirability in this area?

Well, probably nothing much that you aren’t currently doing, since your primary goal is already increasing revenue and boosting profit. With that said, investors may use this information to make educated guesses about the current state of your cash flow, and they may even be able to determine if your company pays its bills on time and adheres to credit agreements accordingly.

As a result, your best bet is to run a tight ship and stay on top of all your credit payments, as a history of late or missed instalments can negatively reflect your character/judgment as a business owner and lose you the opportunity to acquire external finance.

Geolocation data

Geolocation data includes any information gathered from electronic devices used to track the physical locations of both people and goods (in transit). This is typically acquired through GPS, Bluetooth, and WiFi transmissions. With this information, investors can start to paint a picture of the effectiveness of your supply chain, especially when it comes to flight and shipping trackers, where they can assess how efficient your logistics are. Of course, this information is only of any real importance if you sell physical products (i.e., retail), although it’s important to be aware of these forms of data, regardless.

In addition to this, it’s possible to track the foot traffic of physical locations using satellite imagery, which investors may use as another indicator to assess the popularity of your business during certain periods of the day/year. This can help them better understand how seasonal your business is and how it is affected by global events.

However, according to Caserta, geolocation, and satellite data are two of the least accurate and insightful data sets available. This is likely because most of this data is unstructured, and therefore difficult to process and analyse. Secondly, geolocation data requires a certain level of inference and assumption before investors can draw any practical insights from it.

On top of this, there are a myriad of variables to take into account, which means that the accuracy and validity of the insights gathered from the data heavily rely on the researcher’s skills. Yet, that doesn’t mean that these factors are not involved in their overall diligence process, so keep this in mind.

Clickstream data

Finally, clickstream (digital) data includes any information gathered online, such as web traffic, social media engagement, social sentiment, click-through rates, keyword ownership, audience behaviour, and traffic sources such as direct, organic, and paid search.

As we progressively spend more of our lives online, the value of digital data is growing exponentially, and potential investors in your business will almost certainly undertake some form of digital analysis of your company and its online operations.

Investors can learn a great deal about your organization by looking at this data, including your marketing strategy (and how effective it is), your target market and buyer profiles, how you stack up to your competitors (and other industry-level statistics), brand awareness, and your current customer acquisition sources. Of course, this isn’t an exhaustive list, as there are a plethora of ways for investors to assess your firm using these (or comparable) data sets.

So, what does this imply for your business? In general, you should make concerted efforts to maintain a strong digital presence, ensuring that you meet the needs of customers by engaging with them across the various digital channels. This should, once again, already be a primary priority of your business strategy. However, if you’re seeking external financing from private investors, it’s vital to consider your digital presence and how our brand is perceived online.

In summary

At the time of writing, it’s estimated that around 27% of private equity firms are utilizing alternative data when evaluating the credibility of potential investment opportunities. As these data sources become more widely available and their reliability undoubtedly increases, it’s likely that alternative data will play an increasingly important role in how companies are assessed and analysed by these firms.

With this in mind, if you are attempting to secure external funding in the near future, it is critical to have a robust understanding of the various metrics that investors will use to determine the validity of your organization as a potential investment.

Only then can you begin to increase your company’s attractiveness and strengthen your chances of securing the funds you require.

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