Forrest Gump accidentally receiving Apple shares, thinking it was some fruit company, is a beautiful story. And, although monkeys launching darts have been rumoured to invest as efficiently as an average analyst, mimicking the abovementioned tactics is hardly a winning stratagem. A test drive with your buddy mechanic or a property visit before the purchase is common sense.

Or is it?

A company valuation is both a non-exact science and an art form. It's an exercise of reading financial statements, people, and your crystal ball. Predicting pandemics, wars, or changes in leaders' marital status and emotional state is impossible. But, reading the code and blueprints, on the other hand, is absolute. Such Technical Due Diligence arguably yields the most accurate predictions.

Although it's often considered solely an audit of tangible engineering artefacts, where geeks are asked to vet other geeks' work, it's just the tip of the iceberg. Like different due diligence types, it's a reading exercise, too. You're examining the inner wirings and architectural choices of businesses under scrutiny. However, reducing this phase to just the abovementioned could be somewhat shortsighted. Having been on both sides of the fence, there's more to it than meets the eye.

The Two Sides of the Coin

The parallel with the stock market investment is palpable: investing is as much about people (if not more) as it is about accounting. Similarly, Technical Due Diligence can be represented by a pie chart with two analogous slices: the hard and the soft parts.

The Hard Part

—MARTHA BECK

This refers to inspecting bits and bites, infrastructure and hardware or software architectural choices. We're looking at programming efficiency, selecting the right tools for the right job, and overall engineering common sense. It's essential to understand the problems that needed a solution, how they were solved (if they were), and the rationale behind how everything was wired together.

When clarity is gained, it's time to ensure they're used "by the book". This part is strategic because it unveils the author's mindset. Therefore, if the employee didn't bother deep-diving into the documentation of the tool he chose, it represents a glaring red flag.

Another slice of the tech stack worth scrutinising is the prototyping and wire-framing of pixel-perfect UI/UX prototypes. I lump it as an integral part of Technical Due Diligence, even though it might feel like the realm of design and artistry. This is because we have to pay a higher price for each corrected mistake as we move from cheaper prototyping to more expensive refactoring of production workloads. If errors occur early in prototyping and transition to development unnoticed, the company and its investors will incur unnecessary expenditures.

Lastly, product and project management processes can be responsible for inefficiency. The team becomes numb to the backlog if it is confusing, has pieces of incomplete information, duplicates tasks, or becomes stale or chaotic. It becomes a zombie cell drifting in an organism, slowing its metabolism and not making it any money. Often, it's related to the lack of formal project management training within smaller teams. But, sometimes, it's pedantry, bureaucracy, laziness, or absence of time. It could also be all of the above. I recommend including product backlog, trackers and specifications in the scope of the Technical Due Diligence. You want to identify if that popular project management framework yields the value it promises in the context of this particular startup instead of hindering it.

The Soft Part

It examines people and processes. When a seasoned engineer inspects another engineer's work, he can see more than just the code. He sees style, personality, skillset, and experience like a talented mechanic who can diagnose the issue solely by listening to the exhaust.

I've heard many non-engineers classify "tech people" as those who'll always complain about the quality of someone else's work. And, although it's characteristic of most humans, tech folks' reputation seems to have been permanently stained. Walking on such eggshells is tricky if you're not technically inclined, but I recommend a few ways to address this finger-pointing dilemma.

First, find a trustworthy technical auditing partner and maintain a warm, long-term relationship. It can be a professional provider or a network of senior technologists, preferably with a solid track record. Second, align incentives by turning a consultant (who's maximising for hours billed) into a co-investor (who maximises for equity value increase).

Depending on the fund size, you might or might not have a dedicated person in-house. However, even if you could, one brain is seldom sufficient to keep up with the ever-expanding technological landscape.

The bitter truth about most businesses is that 20% of the personnel tends to produce 80% of the company's value. This means that the analysis could quickly turn into fat trimming.

In the process of Technical Due Diligence, you might discover that certain employees are better off out than in. Some might simply not be experienced enough, and the runway doesn't allow the business to spend years breeding them into the superstars it needs now. Some are rotten apples that poison the code and the crew's morale, like senescent cells in your body poisoning the healthy ones or broken windows turning neighbourhoods into ghettos. As mentioned in the article Understand Entropy if You Want Your Startup to Succeed, a business is, first and foremost, an institution to make money. Fire fast. You owe it to the rest of your team that suffers.

So, what benefits could you expect from Technical Due Diligence?

It Tells a Story

The scrutiny of the current technical snapshot is but one point on the continuum of insights collectable during this investment analysis phase.

Much like the science of archaeology, it interprets the company's past, present and future. It explains how today's things came to be. It also makes relatively accurate projections since history revolves in circles, and everything old is new again.

The science of Technical Due Diligence studies the inner wiring that reveals how the company compares to its competition, what choices from the past led to its current shape, whether those lessons were learned, and whether the engineering team should expect a head or tailwind moving forward.

Situations where the investment was made based on the promise of new features but was mostly or entirely spent rewriting the solution from the ground up are more common than any fundraiser would like to admit.

However, just as that skilled motorcycle mechanic can predict the upcoming costs simply by listening to the sound of the machine, the same is true for a seasoned engineer looking at an application's user interface. This is where the line between the formal scientific approach and the art becomes blurry.

It Reveals the Superfluous

—Michelangelo

Many prolific artists had mentors whose external objective opinion was instrumental in helping them mould masterpieces. It often takes a few pairs of eyes to pinpoint the extras that distract the spectator from the focal point.

Technical Due Diligence has a lot in common with such mentorship. It can identify the sub-optimal in the product that doesn't necessarily stem from poor execution but from being married to one's ideas or getting used to how it always looked or worked. It identifies areas needing improvement but, more importantly, those needing to be chipped away. Pay attention to the interfaces, websites and advertisements of your top-of-mind products. It's mainly negative (blank) space. The same applies to their hidden inner wiring.

Everything comes at a cost. The cost of working around convoluted business logic or maintaining legacy scripts that the team's too afraid to touch to avoid breaking something can be unnecessarily high. Technical Due Diligence can act as a strict weight-loss coach. You'll be surprised how much can be ditched without anyone noticing.

Concluding Thoughts

As a pedantic CTO and Head of Engineering blowing the dust off my products and polishing them, it always upsets me how little attention is generally paid to Technical Due Diligence or how shallow it is when done. It always feels like an afterthought, a formality, somewhat similar to the quality assurance department, which never sees the colour of the money invested in product development.

Yet, I'm convinced that reconsidering this tunnel vision attitude and looking at this technical evaluation process holistically is arguably one of the best investment strategy upgrades you can make. This is especially relevant when software is eating the world.

Even in the times of big data, AI and the world's wisdom at your fingertips, many investments remain borderline gambling, primarily when investing in the FANG-like titans that'll only allow whale super-investors to have a coffee with the CEO and deep-dive into the nitty-gritty.

But, what works on mega-scale share purchases also works for cigar butt investing at earlier stages, with the difference that, here, you do get the necessary transparency.

You'll naturally prioritise the types of due diligence you're most comfortable with. Numbers-inclined people will favour tables and charts, communicators will resonate with charisma and vision, and cartesian folks will double down on the scrutiny of the product or service.

Leverage your strengths and team up with professionals to fill in the gaps. But don't skip on the opportunity to squeeze the most out of this lemon to avoid investing in one.

Special Thanks

This article underwent extensive Technical Due Diligence by Lilian T., Magnus Hambleton, Jason Collins, and Gregory Van Ass, sparing you agonising rookie-writer mistakes.