Originally published here.

In 2024, venture capitalists invested more than $200 billion into U.S. startups. On average, these VCs earn around a 12% return on their investments—but 95% of those returns are earned by just 5% of investors. What does it take to become one of these top performing VCs, whose investments take home the lion’s share of the payoff?

It can come down to crafting an effective investment thesis. At a high level, an investment thesis is simply a list of statements that provide a clear, concise, and actionable perspective of an investment opportunity in a given space.

Importantly, not all successful investments qualify as having achieved venture-type returns. In the world of venture capital, returns are not expected to fall along a normal distribution. To the contrary, in a successful VC firm, most investments are expected to fail, while just a few investments are expected to return up to 50 times the money invested into them. As such, an effective investment thesis is one that articulates a belief that a given investment won’t just pay off, but that it will deliver outsized returns—the hallmark of successful venture capital.

So, how can VCs develop such an investment thesis? Through my work with over 40 portfolio companies as the president of the corporate VC firm TDK Ventures, I’ve defined a four-step approach to help any investor create a winning investment thesis. To be sure, this approach is not the only possible method. However, we have iterated on this process continuously over the last five years at TDK Ventures, improving it and simplifying it down the essence of what’s most important, and we’ve found that it has been effective for us.

Note that in this article, my focus is just on space-specific investment theses. While much has been published on how to define an overall investment thesis for a VC fund, this piece explores how VCs can evaluate specific opportunities in a given investment space or market segment. In other words, if a fund-level thesis is like choosing which sea to fish in, a space-specific thesis is like deciding which fish to target and which tools to use within a given sea.

Indeed, these best practices have helped us identify several theses that ended up paying off. We’ve used this exact approach to analyze all our potential investment opportunities in the past two years. For example, in the industrial heating space, we identified that high temperature heat storage solutions that can balance repeatable customer integration with extracting better power pricing from the grid were likely to win.

Here are the four steps we use to land on these investment theses, as well as a more recent real-world case study of how we used this approach to identify a startup poised to become a market leader in the electrical grid technology industry.

Defining what you know lays the foundation for your investment thesis. The first step is to identify the well-understood facts about an opportunity in a given space. Ask:

Importantly, this isn’t just about defining all the reasons an investment is a good idea. It’s also essential to acknowledge the key limitations of a potential investment thesis. The known downsides you’re likely to face are just as relevant as the potential upside, so it’s vital to be aware of both the good and the bad from the outset.

In the electrical grid technology space, we started by defining several knowns. We first determined that the rapid adoption of electric vehicles (EVs) and megawatt-scale DC fast charging is inevitable in the U.S. market. Declining EV costs across vehicle types are driving a flywheel of operating economics improvement for vehicle owners and profitable utilization rates for charging operators.

We also identified that North American utilities are under considerable pressure to deliver safe and reliable power to more customers with increasing load sizes and flexibility requirements, such as AI datacenters, which stretch the capabilities of existing power infrastructure solutions.

We further ascertained that transformers are critical for connecting high-power AC and DC loads to the grid, but traditional designs have not seen meaningful innovation in decades. These traditional transformers represent a supply chain constraint for energy project developers who are sometimes forced to wait more than 12 months to receive equipment.

Next, it’s important to identify the unknowns to refine your investment thesis. For example:

President Trump’s tariff moves, for instance, could have a substantial (yet still uncertain) impact on venture capital. These kinds of uncertainties are to be expected—but they can significantly impact your investment thesis, and you can only get ahead of them if you’re willing to admit that they exist.

Indeed, no matter how confident you are in your investment thesis, it will still inevitably have some unknowns. Rather than sweeping these risks and assumptions under the rug, it’s essential to acknowledge the potential shortcomings of your thesis. Openly sharing what you don’t know helps your team know where you stand, allows for higher quality feedback, and bolsters your credibility by demonstrating humility and intellectual honesty.

Having defined the knowns, we turned to the uncertainties associated with this market. On the one hand, we noted that the timeline for large-scale adoption of Solid-State Transformer (SST) technology across traditional U.S. grid customers such as utilities and power providers remains uncertain, especially considering potential recovery of traditional transformer production.

In addition, regulatory hurdles and permitting processes for integrating SSTs into the existing grid infrastructure may vary, and the long-term reliability and maintenance of power electronics-based electrical infrastructure equipment also remains unproven.

Finally, the cost structure and optimal business model for commercial SSTs at scale hasn’t yet been demonstrated, and the influence of changing administrations on electrification and renewable energy deployment policy may negatively influence incentives for SST manufacturing and customer adoption.

Once you’ve identified the relevant knowns and unknowns, you can start to define the core beliefs which, if fully (or sometimes, partially) proven correct, will enable you to achieve outsized returns.

This is also where you can document how you believe you will be able to add value. After all, venture capital isn’t just about achieving outsized returns and turning a profit. An effective investment thesis also considers the unique strengths of the investor—their “superpower”—and focuses on areas in which the specific venture capitalist will be especially and uniquely likely to add value and contribute to driving those venture-type returns.

Taken together, these knowns and unknowns enabled us to document several core beliefs. First, SSTs represent the future of transformers and power conversion, enabling smarter, faster, and more reliable energy distribution. At the same time, EVs are causing power-electronics supply chains to become cheaper and more robust, which SSTs can take advantage of.

We further noted that modular and scalable SST design will allow it to address diverse use cases across data centers, EV charging, and green molecules. Shifting to controllable and digital infrastructure hardware like SSTs will unlock unforeseen value creation in our power grid, enabling next generation services-led business models for startups that define the sector.

In addition, there are sufficient private-sector customers in EV charging, data centers, ports, and related markets to support venture-scale revenue growth outside of traditional utility customers. However, incumbent electrical equipment manufacturers face a classic innovator’s dilemma: their existing transformer businesses are thriving, making them reluctant to shift focus, while talent from earlier climate-tech inverter efforts is leaving the field as that wave winds down.

Finally, draw on the insights from the first three steps to clearly define the KPIs that a company must meet to warrant an investment in this space. In other words: In light of everything you know, don’t know, and believe about this investment opportunity, what does a company in this space need to deliver to be poised to become a market leader?

And remember: Not all investments that seem like great opportunities actually are. Once you’ve defined your preliminary investment thesis, it’s important to make sure it’s backed up by evidence. Don’t just guess or follow your gut. Do your research, cite your sources, and talk to as many entrepreneurs as possible to get deep insight into their space.

With these KPIs in hand, you’re equipped to assess opportunities objectively and ensure your thesis aligns with the evidence.

Our core beliefs informed the following investment thesis: A leading company must deliver modular, scalable SST systems with low capital expenditure (path to <$1,000/MW), high reliability (>20-year service life), and rapid deployment capabilities (plug and play, same day integration). The company must demonstrate competitive unit economics, strong partnerships with key grid and charging infrastructure players, continuous innovation in power electronics, and an operating SST at commercially meaningful power ratings (e.g. >1MW), ideally in grid-connected conditions. Finally, the company must have a strong leadership team with expertise in power systems and a track record of successful deployment.

Through our research, we identified a grid infrastructure startup that met all these criteria. We were lucky enough to have the opportunity to invest, and time will hopefully validate our investment thesis.

The only certainty in venture investing is uncertainty itself. No one can predict the future, and no investing strategy is foolproof. Successful VCs don’t shy away from this reality—they embrace it. By applying this four-step framework, you’ll be set up to craft (and clearly communicate) an investment thesis that will help you identify not just good investments, but opportunities to truly add value and achieve outsized returns.

The venture capital landscape may be unpredictable, but by crafting a strong investment thesis, you can turn uncertainty into opportunity and position yourself to lead in your chosen space.