CTOs: The Overlooked Asset in a VC's Portfolio

The due diligence process can be thorough, involving discussions with potential customers, industry experts, and references. However, we have observed that genuine technical diligence^[1] is surprisingly uncommon. Investors tend to focus on what they know best, often diving deep into financials and market potential. Areas outside their expertise, particularly the technical aspects, receive less attention. As a result, there’s a tendency to treat the presence of a technical co-founder as a simple checkbox. If a team has someone with technical credentials, investors may prematurely consider that aspect covered, without delving into the actual technical depth or capabilities.

The allure of a technical co-founder is often irresistible. Investors scan pitch decks, eagerly searching for that golden nugget—a brilliant engineer ready to lead the tech charge. Yet, this checkbox approach to early-stage investment often leads to one of the most costly mistakes in a startup’s journey: the overvaluation of technical co-founders without the necessary breadth of skills.

Many investors have internalized a flawed process. They see “engineer” on a founder list and breathe a sigh of relief, mistaking technical prowess for holistic leadership. However, not every engineer possesses the multifaceted expertise required to guide a startup through the turbulent waters of early growth. Leadership, strategic vision, financial acumen, and management—these are the pillars upon which successful startups are built, and they are not always found in even the most talented engineers.

This oversight can saddle a fledgling company with what amounts to dead weight on its cap table. Imagine giving away significant portion of your company’s equity^[2] to someone who is essentially an independent contributor—a brilliant one, perhaps, but still limited in scope. All the while, the company struggles with the very challenges that a seasoned CTO would have been perfectly positioned to address: aligning tech strategy with business goals, navigating complex scaling issues, and building a cohesive team that can execute with precision.

When investors miss key technical nuances, they often push founders down paths that undermine long-term success. These blind spots in understanding can result in missteps that compromise a startup’s true potential. In venture capital, where decisions are often made in a matter of minutes, the role of the Chief Technology Officer (CTO)^[3] frequently flies under the radar. Understanding the nuanced role of a CTO and the value they bring to a venture is crucial for any VC aiming to make informed, successful investments.

The Strategic Importance of a CTO

A CTO is not merely a technical expert; they are the bridge between a company’s vision and its execution. They oversee the development of technology strategies that align with the company’s business goals, ensuring that technological investments are not just cost centers but drivers of innovation and growth. A CTO’s insights can be significant in determining the long-term viability of a product or service in sectors where technology is often the differentiator such as digital health, security, regulated sectors, and so on.

One of the common misconceptions about CTOs is that they are purely operational figures, responsible only for managing the IT team or ensuring the stability of the company’s tech stack. However, a seasoned CTO plays a far more strategic role. They are deeply involved in product development, often working closely with the CEO and other C-suite members to shape the company’s direction. Their understanding of emerging technologies, market trends, and customer needs allows them to anticipate shifts in the industry and adapt the company’s technology roadmap accordingly.

For VCs, understanding the value of a CTO can be the difference between backing a company that merely survives and one that thrives. A CTO’s ability to innovate and execute can significantly impact a startup’s ability to scale, enter new markets, and fend off competition. By overlooking the CTO’s strategic contributions, VCs may find themselves underestimating the potential of their investments.

Bridging This Gap: What VCs Need to Know

The disconnect between VCs and CTOs often stems from a lack of understanding of the latter’s role. While financial metrics and market analysis are crucial, they are not the only indicators of a company’s potential. VCs who take the time to engage with the CTO and understand the technical landscape in which the startup operates are better positioned to make informed decisions.

One key area where CTOs add value is in risk management^[4]. Technology-related risks, such as cybersecurity threats, regulatory compliance, and scalability challenges, can make or break a startup. A CTO’s expertise in identifying and mitigating these risks is critical to a company’s success. For instance, in highly regulated industries like healthcare or finance, a CTO’s knowledge of compliance requirements can prevent costly setbacks and ensure that the company remains on the right side of the law.

The ability to innovate is a significant competitive advantage. A CTO who understands the intricacies of both the technology and the market can lead the development of products that not only meet current customer needs but also anticipate future demands. This forward-thinking approach can position a startup as a market leader, making it an attractive prospect for further investment.

VCs should also recognize the importance of the relationship between the CTO and the CEO^[5]. A strong partnership between these two roles can propel a company forward, while a disconnect can lead to misaligned priorities and stalled progress. The CTO’s input on technological feasibility and scalability is essential in shaping realistic business strategies. When the CEO and CTO are in sync, the company is better equipped to navigate challenges and capitalize on opportunities.

What’s the Solution?

A seasoned fractional CTO or a technology consultant. Unlike a full-time hire or an untested co-founder, a fractional CTO will bring deep, battle-tested experience to the table without the prohibitive cost. For early-stage or pre-funded startups, this can be the difference between life and death. A seasoned fractional CTO knows how to optimize resources, prioritize development goals, and create a roadmap that not only attracts investors but also maximizes the chances of long-term success.

Fractional CTOs offer a unique blend of leadership, strategy, and hands-on technical expertise—all at a fraction of the cost of full-time executives or co-founders with limited business acumen. They provide the strategic oversight that ensures your technology choices are aligned with your business objectives, helping you avoid costly missteps that could derail your startup’s growth.

So before you lock down equity in a technical co-founder who may not be the right fit, consider the smarter, more strategic choice—a fractional CTO or a technology consultant who can guide your startup to greatness. When it comes to investing in software-driven startups, the role of the CTO is akin to the head of R&D in a traditional product company, demanding thorough scrutiny during investment evaluations. However, it’s surprisingly rare for VCs, especially outside the top-tier firms, to conduct detailed technical due diligence such as code reviews, often focusing instead on financials while overlooking the critical technical foundations of the company.

Finding a capable fractional CTO isn’t always straightforward, as the best candidates possess a rare combination of technical acumen, leadership, and strategic insight. To identify the right fit, start by examining their patent portfolio and research papers, academic credentials, which can provide a window into their innovative thinking and technical expertise. Additionally, look at the companies they’ve founded or co-founded and assess their track record in successfully scaling these ventures alongside other founders. This due diligence will help ensure you’re bringing on a fractional CTO who not only meets your immediate needs but can also drive long-term success.

Bibliography

1. Chen, Holliday, Pierce, "Is Your Tech Due Diligence Good Enough?," Bain & Company, Inc., March 7, 2022

2. Kamps, "Most VCs have no clue what a CTO does," TechCrunch, August 17, 2023

3. Woollacott, "What Is A Chief Technology Officer? CTO Role Explained," Forbes Media LLC, March 16, 2024

4. Radtke, "Why CTOs Should Have A Greater Role In Risk Prevention," Forbes Media LLC, November 29, 2022

5. Fraenkel, "How To Make The CEO-CTO Relationship Work," Forbes Media LLC, June 17, 2019