June 28, 2011
Giving Due Diligence Calls Their Due

One of the most boring things to do in any business decision is
making reference calls.  Usually you’ve already made a selection of
whatever type (hiring a new employee, deciding on a VC, choosing a new
vendor), and then the next/final logical step in a “process” is to call a
few people just to verify what you’ve already decided.  But
particularly in a startup, where time is of the essence, those reference
calls fall to the bottom of the to-do list, and often are never made.  Making
reference calls is like buying insurance – it’s not sexy, you’re not
satisfied immediately after you’ve done it, and only helps you avoid
theoretical disaster down the road.

All of that
being said, it surprises me how infrequently startups, and especially
startup founders, make diligence calls to pressure-test their
Founders are used to going-with-their-gut in making choices and the rote process can seem arduous and tedious.

reference checks don’t need to be a laborious time-sink chore.  A few
lessons which I’ve learned about making reference calls which are
focused on startups (but can be applied in almost situation):

  1. Make them.  Assuming you’re at least somewhat
    plugged into the entrepreneurial ecosystem, there is real and valuable
    information out there within your extended network.  Leverage it.
  2. One datapoint is just one datapoint.  One phone
    call that produces negative feedback, especially if it is mild, is a
    yellow flag, not a red one.  There are many reasonable explanations for
    why somebody had a not-so-positive interaction with an individual or
    company.  Often a specific situation can be more powerful than the
    individual, or at least unique to why someone has acted or references
    the way they did.  After all, there are three sides to every story.
  3. Two datapoints create a straight line, three datapoints form a real trend
    Even though one negative review can be taken in strides and understood
    within context, once there are two people who have a the same negative
    thing to say about a person, there is usually more than a mere kernel of
    truth.  In fact, once three separate individuals have a similar story
    to tell, it’s fairly certain that the message should ring loud and
  4. Mixed feedback is mixed, but not necessarily bad
    Different people excel in different situations.  Some founders triumph
    when innovating on product, but not on managing people.  A CEO who is a
    forceful and perhaps a divisive change-agent may be the right executive
    for an organization which needs a dramatic modification of course, but
    not the right one to take the helm of a nurturing culture already
    energized by creativity.  It’s extremely important to take all comments
    about individuals within context, and extrapolate if that context is
    applicable to the situation/role you’re diligencing.
  5. 80/20 is key.  The old adage that it’s only
    necessary to expend 20% of the effort to benefit from 80% of the results
    is absolutely true with diligence calls.  Especially in a startup where
    time is so precious, a few calls just to pressure-test perception to
    reality is all that’s needed.  Once a couple conversations start to
    paint the same story, it’s time to quit.  There are no points for
    complete thoroughness – no need to make ten calls just to ensure that no
    stone is left unturned.  There’s always the possibility of outstanding
    risk, and your job is to mitigate, not eliminate, that risk.
  6. Off-list references are twice as good.  The path of
    least resistance is to just ask an individual or company “for
    references” and then call the person(s) at the top of that list.  It’s
    obvious that those are the individuals who are going to say the best
    things and are the most prepped for a call.  But it’s too easy to make
    those calls, so don’t make them – consider those people green flags,
    then dig deeper.  You’re looking for unprepped honest feedback, and
    you’re more likely going to find that off of a “reference list.”  I’ve
    found that the best source is just to go to LinkedIn and see who else
    they know and have worked with intimately in the past.  Even if you
    don’t have a mutual contact in common, you can proactively reach out to
    someone who you don’t know with a basic inquiry that you’re doing a
    quick reference check on someone.  I’ve found that people will usually
    respond, and that’s a signal in and of itself how they respond to a
  7. Ask questions that allow people to signal not say bad things about individuals
    Even if they don’t like a person or don’t think that they’ve excelled
    in their roles, people don’t like saying negative things about others
    (especially to callers who they don’t know).  It’s best to ask questions
    that allow people to respond positively but still communicate their
    point of view.  One person I know used to intentionally call references
    after-hours so that he could leave a voicemail saying, “Only call me
    back if you think he’s the absolute best person you’ve ever had in this
    role.”  That test will surely provide clear feedback without anyone ever
    having to say not-so-nice things.

At the end of the day, diligence calls come in two
varieties: either check-the-box affirmative of what you already know, or
tougher ones which come down to interpretation.
(though I’ve definitely encountered it) will a diligence check be
disastrous that it’s immediately and unambiguously obvious that you need
to completely reverse your decision.  Even if you heard “mixed” things
and decide to proceed anyway, the diligence conversation(s) empower you
to go into a new situation eyes-wide-open to the risks associated with
any new relationship.

David Beisel is a Co-Founder & Partner at NextView Ventures.  You can find this post, as well as additional content on his blog called GenuineVC.  You can also follow David (@davidbeisel) on Twitter by clicking here.