Sunday, July 12, 2015

Angel investing misnomers

Adapted from Josh Maher's blog....

I hear a lot of misnomers about angel investing. Some are grounded and some are far from grounded. Before you completely discount angel investing or early stage investments from your investment portfolio - read through these and let me know what other misnomers are out there...

I'm a great financial analyst and therefore I'll be a great angel investor - sorry, one does not follow the other. You may be a great financial analyst AND a great angel investor, but often there is limited financial detail to analyze at the stage of investments that angels participate in. There is certainly a requirement to understand the capitalization of the business, how many rounds will be required, and who will invest in those rounds - but there is very limited current financial analysis involved

It's called angel investing because I am giving my money away - don't confuse angel investing with philanthropy. One thing the majority of the fifty or so top angel investors I interviewed from my book agree on is a broad diverse portfolio is important for angel investors. Meaning you have to have enough investments to make the power law work for you. Granted, investing in public markets generally does not require the same type of strategy because it is easier to invest in five public companies that consistently return a specific amount. In early stage investing, there will be a lot of losers so the thought of "throwing money away" is grounded. It is the ones that aren't losers that provide outsized returns that make all the difference though, these return more than enough to make up for the losers. The term "angel" comes from the need these businesses have to be saved - they are continually on deaths bed at the early stages, spending every last dime to grow the company. Angels are swooping in to provide capital, mentorship, connections, and sometimes hands-on work. The more expertise or support an angel can provide to the company the less likely the investment will be thrown away.

I like to build or turn around businesses so I am going to angel invest - whoa... slow down a little, try your hand at private equity - not angel investing. Unfortunately many angel investors think they will have deep hands on roles in the businesses they invest in. In some cases this is true, more often the involvement is from a mentorship point of view or from a connections point of view (connections to customers, partners, employees). The majority end up being very hands off though, most angel investors are relatively passive in their activities even though they do get regular updates and opportunities to provide feedback and make connections. If you really want to be operational, look harder at being an employee, consultant, or enter into a private equity relationship where you are buying a controlling stake for the purpose of operations. If you would rather provide assistance as needed and have something of value to offer on a couple hours a week basis, angel investing is suitable. If you want to be passive, build in a great portfolio management strategy such as investing in a curated (pre-screened) list of startups or following great investors into deals.

I don't know enough about startups to be an angel investor - well you know more than you think. Especially if you are investing in deals with other investors (whether that be curated (pre-screened) deals or following top investors). If you have quality deals to select from you really can look at the companies where you understand the industry or the business model and make investments based on that information.

Investing in the public markets is safer - this is what everyone said about real estate right? Honestly though, it is more about managing your portfolio than it is about investing 100% in early stage companies. Yes these are risky, yes there is an opportunity for outsized returns. Many investors only invest 3-10% of their portfolio and understand that they could lose the entire amount. That small percentage of your portfolio should really be invested in 25+ companies to be properly diversified. If you are at the low end of the accredited investor qualification you are probably only investing $1k-$10k per investment to get that many companies into your portfolio. In this way you are relying on the effect of a power law where a couple of those 25 companies will make up the entire return for your early stage investment. When you plug the numbers into a spreadsheet you are risking 10% of your entire portfolio for the opportunity to return 27% IRR or 2.6x return on 10% of your portfolio. You should be making similar calculations with every other asset you allocate towards in your portfolio and can do the math to see how safe or not safe the investment really is.

Only the wealthiest people in the world are angel investors - I think we need to define wealthy a little more precisely. Accredited investors only have $1m in net-worth, this is actually a huge number of households (especially considering how few do invest). That said, the median wealth of accredited investors is $2.5m so not that much higher considering angel investing can return 27% IRR when done properly.

What other reasons have you heard or said yourself about angel investing?

Check out my blog for more thoughts about including early stage companies in your portfolio.

Thursday, July 2, 2015

Want to learn about angel investing?

There are a lot of places to help new and experienced angel investors learn more about the practice. Our newsletter (sign up here) is the best place to stay up to date with the latest happenings around Seattle for angel investors and entrepreneurs looking to raise capital. We highlight the best blogs, podcasts, workshops, and events to help you learn more.

We also put on a few of our own and there are a few coming together in July that you'll want to attend...

The first (7/7/15 @6PM) is Intro to Angel Investing w/John Sechrest.

Interested in exploring how startups get funded? Ever wonder what it really takes to build a successful company? Perhaps you have some expertise to offer to help get a new business off the ground but aren’t ready to give up the day job.

Come join John Sechrest an entrepreneur, angel investor, and the founder of the Seattle Angel Conference and the Willamette Angel Conference. John will provide an introduction to angel investing on July 7th at 6:00PM in 36/1108 – Elliott.

What: Intro to Angel Investing w/John Sechrest
Where: Microsoft Building 36/1108 – Elliott
When: July 7th, 2015 at 6:00PM
RSVP: Reserve your spot for free!

Sunday, June 28, 2015

“Angel Portfolio” summer workshop series underway

This post comes from a local Seattle angel investor Keith Laepple, who's active investing is usually in collaboration with other investors in groups such as Seattle Angel Fund, Alliance of Angels, and Seattle Angel Conference.
What basic strategies should guide angel investors’ selection of various startup opportunities coming their way?

It’s an on-going and often confusing question for angels of every experience level. And Seattle Angel Fund manager Susan Preston’s presentation at Seattle Angel’s recent “Portfolio Approach to Angel Investing” kick-off workshop drove head-on into some of the fundamental principles – and math -- angels should know as they build a portfolio that in the long haul will make the difference between lackluster (or worse, negative) returns, vs. the 20-30% IRR known possible with favorable deal flow and due diligence. As Susan showed, the very skewed averages of eventual startup exits – e.g. only 7% of deals bring 75% of returns – implies that by the numbers, every pure equity deal (i.e. no revenue-based returns) in a typical angel portfolio needs 10-20X return potential on paper, independent of the competence of the entrepreneur team, innovation of the product, size of the market, and so on.

That may sound daunting on the surface, particularly for new angels and entrepreneurs, but Susan (thankfully) went on to show that estimating ROI is actually straightforward, even refreshingly objective, once you know the basic formula and data to use. It’s also made easier by working together with the founders, who as equity stakeholders themselves want as clear a view on exit ROI as their prospective investors.

While examining a startup’s financials before diving into the typically more fun team, strategy, and technology vetting, does take discipline, it also usually produces some of the most useful insights for founders. Importantly, it can prevent a waste of everyone’s time on further due diligence if key numbers– revenue growth, valuation, industry multiples, exit timeframe, subsequent funding rounds, etc. – can’t show high potential return. By walking through even speculative “pro forma financials” together with investors, entrepreneurs will test and improve their grasp of their market, industry, and business model. And beyond just number-crunching, this exercise surfaces relevant assumptions and open questions for product roadmap, customer definition, and marketing strategy, which then give investors clear focal points for the rest of their business due diligence.

Of course, a lot more than just ROI math factors into the portfolio strategies and preferences of experienced angel investors, and this was explored in part 2 of the session in a panel conversation with angels Geoff Harris and Eric Doebele, who invest independently and as part of groups including Seattle Angel Fund, Alliance of Angels, and Oregon Angel Fund. Looking for “something extraordinary,” Geoff said, like the hydroponic lettuce company in his portfolio, often leads him towards individual startups, since he enjoys the intellectual curiosity and stimulation of angel investing. Eric Doebele highlighted that in his portfolio, diversification isn’t so much about a mix of industry/product category, but rather investing in startups at different stages of growth and valuation. And for both, seeing opportunities to utilize their career experience and network to help founders build their businesses is an important consideration.

Attendees, a mix of both active and aspiring entrepreneurs and angel investors, engaged Geoff and Eric with questions about their portfolio approaches, from a variety of angles:  How do you narrow your deal flow, before devoting time with specific startups? Do you look only for opportunities for on-going involvement as an advisor or board member, or do you also make passive investments? What traits do you look for in entrepreneurs? What signs of revenue, or revenue potential? How do you defend against dilution from future funding rounds? How much do founder salaries and personal skin-in-the-game matter to you? How does crowd-funding affect portfolio diversification?
As every angel investor comes to figure out through sessions like this plus their own experiences, there are no uniquely correct answers to any of these questions. But some common patterns and principles do emerge, first and foremost that, as this Seattle Angel session thoroughly underscored, angel investing truly requires a portfolio approach in order to produce great returns in the face of startups’ high-risk odds and skewed exit returns. Moreover, there as many successful portfolio strategies and “investment theses” as there are successful angels, built around the various aspects of investors’ experience, personalities, talents, and values. For this reason, participating in a local angel group fund and network is probably the easiest and most fun way to develop and refine a personal strategy, learn what types of startups fit your interests, and build a portfolio faster and with less overall risk through collaborative due diligence and fund pooling.

Watch this spot for additional Seattle Angel blog posts and education session announcements that will further explore angel portfolio topics!

Sunday, June 21, 2015

Angel Profiles: Chris Bradbury

Chris Bradbury is currently working on a project to help startup entrepreneurs that combines his passion for startups and his background in management consulting and angel investing.  Additionally, Chris is involved with Clean Tech Open, which is an accelerator for startups in the cleantech space.  

What attracted you to exploring angel investing?
Two things.  I wanted to diversify my portfolio and I have always been passionate about startups ever since I started working for one right out of college (or perhaps even earlier at my first lemonade stand).

If you’re still angel investing, where do you find most of the companies?
Yes, still active.  I've found companies through angel groups and networking.

What are the top three things you look for in companies where you invest?
Team with integrity, ingenuity, credibility and the ability to get things done, followed by a focus on a market they can dominate.  

How did you incorporate angel investing into your overall portfolio?
Keeping it as a small part (5-10%)

What have you learned since you started angel investing?
How much I enjoy doing due diligence (DD)!  As an engineer, I think it's great, because companies are literally showing you all the details of "how it works."  :) Since DD is the key to financial performance of this asset class, it's nice that it is within my control to make happen.

What do you wish you would have known before you started angel investing? 
  1. The importance of developing an investment thesis and sticking to it before writing checks.  It's one area where diversification is not a good thing.
  2. Another is not to get swept up in "a great idea or team" because that is insufficient for a great investment.
  3. Along the same lines, the purpose of due diligence is to filter out companies.  There is no point making an investment if DD raises flags (of any color)!

What space are you most interested to invest in next?
I tend to invest in talented people rather than industry sectors, although there are some I do avoid due to my lack of knowledge (e.g. biotech).  It's nice to be able to help the company succeed by making connections or leveraging one's experience or network. 

What resources should entrepreneurs and angels use to learn more?
Angel groups are a great way to learn the ropes.  Find a mentor to discuss potential deals.  One thing I did when I joined a local group was to volunteer to help on DD.  I explained to entrepreneurs that I was only doing DD and would not be investing until I'd been through the process a few times. 

Friday, May 29, 2015

In Seattle we practice diversity

We recently had our first member dinner at Seattle Angel to celebrate the Seattle Angel Fund coming into existence, our first SAF investment, the great success of another Seattle Angel Conference, and of course the great investors and sponsors that make it all happen. Seattle Angel members consist of current and former investors from the Seattle Angel Fund and the Seattle Angel Conference.

We went for a formal dinner at one of the 100+ yr old social clubs in Seattle and about 20 Seattle Angel investors attended to get to know one another better, share some great food, and of course celebrate our progress. The conversation was great and I learned a lot about investors in the group. For example, I found out that one of our members wrote the network ROM for HP Calculators back in the day... I laughed, "Why would you need a network for your calculator?"... He went on to explain the use cases they were dealing with and I realized that HP was decades early to the Internet of Things. Timing obviously means a lot. Fine, I guess being a young guy has it's downsides. One of the older women angel investors in the group smiled at the story and started telling us about her early work life as an engineer using that specific calculator.

For some reason during the conversation, it struck me that our group was different than the media portrayal of angel investors and capitalists and it prompted me to write this post. Everyone keeps handing out kudos for speaking up about diversity, I'd like to see more people getting kudos for actually doing something and practicing diversity. For example, Jonathan Sposato recently keynoted the Seattle Angel Conference and announced that he will only invest in businesses going forward that include a female co-founder. That's #PracticingDiversity!

The investors and entrepreneurs that I interact with regularly have a wide mix of gender, nationality, color, age, and just about every other attribute you could throw in the mix to claim diversity. I wouldn't have even noticed except for the fact that this is a prominent topic of conversation amongst startups and tech in general. This week I was hearing the talk a lot. Maybe practicing diversity instead of just talking about it is more of a norm here in Seattle than in other ecosystems. Maybe that's one of the unique things about building companies and being an angel investor in the Northwest. There's a lot more practicing diversity here instead of just talking about it.

Btw, if you're thinking about becoming an angel investor or just want to learn more about being a great angel investor... Join the world renowned Susan Preston for Angel Portfolio 101 on June 9th @6PM. We'll cover the academic theory behind designing your portfolio and she'll be joined by Geoff Harris, Eric Doebele, and Josh Maher for a panel discussion with real life portfolio critique!

Saturday, April 25, 2015

Angel Profiles: Jeff Park

What attracted you to exploring angel investing?
For two reasons - one more personal, the second more financial.  Personally, the startup process that a team goes through from having an idea to a finished product to the success or failure of that product  has always intrigued me.  And angel investing provides an in depth mean of examining the various strategies of multiple startups from the due diligence process. 
From a financial viewpoint, while angel investing is a considerably riskier form of investment than some of the conventional alternatives (i.e. stocks, bonds, real estate, etc.), I believe it indirectly benefits my other non angel investments from a wealth management standpoint.  By examining and learning from how a startup operates - dealing with competition, quality of the founders, pricing, customer acquisition, market validation, etc it provides the angel investor a new set of tools and a different perspective to make better informed decisions about their own alternative investments.   

If you’re still angel investing, where do you find most of the companies?
In the past primarily from trusted syndicates on AngelList and also from local Angel Investing groups.  Once in awhile I will participate in a Startup Weekend or Hackathon to get a better idea and understanding of those potentially looking into joining the startup community.  Often times, the best ideas are from those with no tech experience but an expertise in a traditional business model that tech has yet fully integrate into. 

If you’re not still angel investing, why did you decide to get out of angel investing?
Recently decided to do my own startup.  What better way to learn about angel investing other than actually going through the same process that the investments that we make in experience. 

What are the top three things you look for in companies where you invest?
In order of importance 
1.) Ability of the founders to consistently out execute the competition.  
2.) Is the product with the wind or against.  While timing and trends are impossible to predict, better to play the odds  
3.) Is this a slight moderate iteration of an already existing solution or a massive alternative?

How did you incorporate angel investing into your overall portfolio?
As a relatively new and inexperienced angel investor, I treat it more as an expensive hobby until I gain more experience and knowledge.  Therefore, a very small percentage of my overall portfolio is based on angel investments.  Mistakes and poor choices are inevitable in any new venture, so might as well learn from them as cheaply as possible. 

What have you learned since you started angel investing?
One, that no matter how great the idea or how big the market is, it is  basically worthless without a strong team to actually execute on it.  Two, that the devil is truly in the details.   

What do you wish you would have known before you started angel investing?
Up to this point nothing yet as my single expectation when I started angel investing was to learn anything new whether good or bad and to make small manageable mistakes.  The desire of having a predetermined set of knowledge before the experience would run counter to my personal purpose to make and learn from new mistakes. 

What space are you most interested to invest in next?
I try to stick with spaces that I have some general knowledge and expertise which helps avoid the huge learning curve of not only learning about the market but also trying uncovering its unique problems.  This also allows for an overall higher quality of due diligence by focusing on the other important aspects of the startup other than the actual market it is in. 

What resources should entrepreneurs and angels use to learn more?
Depends at which stage the entrepreneur/angel is at and what their purpose is.  Personally I don’t think there is single resource or set of resources that would be a quick efficient hack.  It’s not a simple magic bullet answer but I would say read as many various resources as possible - articles, books, blogs, etc and gradually build up your base of knowledge and then extrapolate key lessons that are specific and personal to your purpose as an entrepreneur/angel.