I Spy a Secret

Planning to seek venture capital? Be forewarned: Before VCs invest in you, they'll probably investigate you.

VC firms performing due diligence on companies they are considering funding isn't new, but there's been an influx of new entrepreneurs approaching VCs--who do not know them--with blind pitches. VCs are trying to size up both their financials and their character. "The lion's share of [VCs'] due diligence is conducted on the people themselves," says Angelo Santinelli, business professor at Babson College and a former VC.

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VCs hire third parties to do the digging for them. Corporate Resolutions is a 22-employee business investigations and consulting firm that can churn out a 15- to 60-page report within days for its VC clients. Ken Springer, the company's founder and a former FBI special agent, says the two biggest problems for entrepreneurs are not being forthcoming with information and having a hidden pattern of lawsuits. "Many times, there are sensitive personal issues," says Springer, "someone who's gone through an ugly divorce or something."

Santinelli says he never saw entrepreneurs knowingly misrepresent themselves when he was a VC, but he did see them leave companies off their resumes and fail to disclose certain relationships. In one case, two members of a startup team that pitched his VC firm didn't reveal that they were married, a detail that came out during the VC firm's own due diligence. "Was it a big deal? Yes. It goes to character," he says. Springer believes the key is to get everything on the table--a DUI, a messy divorce, a bankruptcy, whatever--before the VC firm inevitably finds out on its own.

Now entrepreneurs are giving VCs a taste of their own medicine at sites like TheFunded.com, where they can post the lowdown on their interactions with VCs. In these days of instant information, due diligence is a two-way street.