VC’s often ask entrepreneurs of early stage companies questions that they can’t realistically answer.  For example:

1. What’s the cost of customer acquisition? (most entrepreneurs have no clue.  Plus, even with early data, this answer can change radically with scale)

2. What will the product look like in 5 years? (Who knows?  Product evolution is rarely linear.  You may be going after a completely different problem in 2 years)

3. What’s the competitive landscape? (who knows what players will emerge?  Who knows what Google/MSFT/Apple will do to suck the air out of your industry?)

4. How will this business scale to millions of users?

As I type this, I’m almost laughing at myself. I think entrepreneurs are understandably annoyed when they get peppered with questions they can’t possibly have the answer for.

My advice is this: Answer the questions beneath the question. What I think VC’s are really trying to answer are the following:

1. Is this an attractive industry and how do you win? Hopefully, you’ve targeted a VC that has a clue about your industry, but our knowledge is usually not nearly as deep as it could be.  Help us understand the trends, customer challenges, and business levers that matter.

2. Is this a good entrepreneur? The entire fundraising process is an evaluation of the entrepreneur.  We want to know how resourceful you are, how self aware you are, whether great people will work for you, and whether you can withstand the challenges of a startup.  A lot of the questions I ask are meant to understand how an entrepreneur thinks and will respond to the challenges of the entrepreneurial process.  In a way, I’m also asking myself “if I were interviewing for a job with this person, would these answers give me confidence to work for them?”  Also, I’m trying to figure out whether this entrepreneur is trustworthy and listens to feedback.  It’s great when entrepreneurs realize that I’m hung up on a particular problem about their business and comes back later with a potential solution and plan to test it.  It’s not great when an entrepreneur tells me about a customer they are about to sign and the diligence shows that they’ve only spoken to the company once.

3. Does this entrepreneur understand the business she is getting into? Even if startups have a lot of uncertainty, there is a big difference between entrepreneurs who understand their business and those that don’t.  Experienced consumer internet executives rarely say: “we will acquire customers through word of mouth and Web 2.0 techniques.”  Instead, they have very specific thoughts about distribution partners, specific social media outlets they can tap, how to market effectively through SEM and SEO, etc.  I want to back an entrepreneur who demonstrates intimate knowledge of the industry she is focused on, even if she has never worked in that industry before.  History is littered with previously successful entrepreneurs who failed because they went after a market they did not understand.

4. Will this entrepreneur spend my money wisely? This isn’t just about being cheap.  It’s about investing in the right areas at the right time in the right amounts.  I want every dollar spent to reduce as much risk as possible or increase as much upside as possible (or both).  This usually comes back to #2 and #3.  Good entrepreneurs may say something like this:

“I know I can’t get scale in this business by selling directly.  I need channel partners.  But I DON’T know what customer segments I should be targeting first. So, I will spend a little money to test my product with a bunch of customers before spending a lot of time and money marketing the product and securing a big channel partner.”

Bad entrepreneurs will spend millions of dollars building a product and millions more marketing a product before realizing that no one really wants it.  Shockingly, this happens a lot more than people think.

5. Do I believe in the proposed product? This is very hard to figure out.  Usually, this is answered by a combination of a) customer feedback or b) gut.  Customer feedback means lots of people are using the product (aka traction), or we have called a bunch of potential customers and done technical due diligence and the feedback is positive. Gut means that we have a strong point of view of how the market will evolve and what solutions will be important, and your product meets that vision.

The threshold for this question isn’t as high as the others if I’m satisfied by the answers to questions 1-4.  If that’s the case, then it’s in the bucket of “this is a good entrepreneur going after a big opportunity, and I believe he will use my funding wisely to figure it out”.  For true early stage companies, I think this is the most an investor can realistically ask for.