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FiBAN - Angels in groups - By Bill Payne
- 1. Angel in Groups Helsinki, May 7, 2012 BILL PAYNE www.fiban.org/billpayne
- 2. Bill Payne isan active angel investor, board member, and advisor to entrepreneurs. He assisted in founding four angel groups: the Frontier Angel Fund (2005), Tech Coast Angels (San Diego – 2000), Vegas Valley Angels (2003) and Aztec Venture Network (1999). For three decades, Bill Payne has successfully founded or invested in over 50 start- up companies. He served as an Entrepreneur-in-Residence to the Kauffman Foundation for twelve years. While there, he directed the development of the Power of Angel Investing education series for entrepreneurs and angel investors. He has served as lead instructor for over 100 seminars in seven countries. In 2009, Bill was named the Hans Severiens Award winner as the “outstanding angel investor in America.”
- 3. AGENDA Angels: Importance toUS Economy Portfolio Strategy for Angels Study: Returns for Angels in Groups Implications of Study to Investing Strategy Investing with Groups versus Solo Investing Angel Group Investing Process Angel Group Models Syndication Among Angel Groups Copyright © BillPayne.com 2012
- 4. The Capital Lifecycle Investigation Feasibility Development Introduction Growth Maturity Proof of Pre-Seed Seed & Early First, Second, etc... concept Start-up Government Sources Self PROFIT Friends & Family Venture Capital Angel Investors IPO, Banks First Revenues VALUE OF DEATH TIME
- 5. Who Are TheseAngels? Wealthy individuals – sophisticated investors “Been there, done that” entrepreneurs Invest time and money in portfolio companies “Mad money” Generally $25K-$250K per deal per angel Many angel investments Range of involvements Lead investor – Chairman of the Board Investor/advisor Passive investor
- 6. Professor Josh Lerner (HarvardUniversity – 2010) Regarding angel investors: • Angels make a large and significant impact on the success and survival of their portfolio companies • Mentoring and business contacts are even more important than angels’ money
- 7. Motivation VENTURE CAPITALISTS: makemoney ANGELS Return on Investment is the metric Staying involved (sense of usefulness) altruistic Give back to community motivations Affection for entrepreneurs
- 8. US Job Creation(1977-2005) Kauffman Foundation 2009
- 10. Quotes: Dr. Bob Litan,VP Kauffman • Companies less than five years old have created 40 million jobs in the US in the past 30 years • Companies five years and older have, in the sum, lost jobs in the past 30 years
- 11. American angels fund20,000 new companies per year that are in the sweet spot of job creation in the US
- 13. Portfolio Strategy forAngels
- 14. Classic Assumptions • Highrisk asset class • A high fraction failed • Shooting for home runs = >10X • Seed/startup VC yields >20% IRR • Paucity of data
- 15. Two Studies byProf. Rob Wiltbank (Willamette University, Portland, Oregon)
- 17. 3 yrs 3.3 yrs 35% 0X Overall Multiple: 2.6X Avg. Holding Period: 3.5 years 4.6 yrs 4.9 yrs 6 yrs
- 18. Time to Exit 16 Years from Investment to Exit 14 12 Pessimistic 10 8 Wiltbank Data 6 4 Optimistic 2 0 0 10 20 30 40 50 Return on Investment (ROI – cash on cash)
- 19. Conclusions from WiltbankStudies Returns are skewed Therefore:
- 20. Adjusted Portfolio Strategy Invest in at least 10 -25 deals (lifetime) 90% of deals return all capital invested in portfolio 10% provides all upside and must be a 20X Investing in more than ten deals is good Conversely, a small number of large angel investments increases risk All deals must have potential for 20X Angel investing is a 10+ year commitment Similar to VC investing, perhaps longer!
- 21. Gambling Analogy: AngelInvesting
- 22. Portfolio Strategy: GamblingAnalogy Pay $1 and pick number from 1-10 Win $25 if you pick correctly (25X) This is a skewed distribution (like angel investing) Win 10% of time lose 90% Expected Value is 2.5x ($1 for 10 plays, win $25) Play once, likely lose; but could win $25 If you play many times, should win 2.5x what you bet But also reduces chance big win (25x in one play)
- 23. Example: Gambling Analogy Play1 time likely lose money (90% of time) could make 25X Play 3 times probably lose your money could make 8X, 17X or 25X Play 10 times probably make money most likely about 2.5X Play 100 times expected return is 2.5X Play 5000 times assured return is about 2.5X
- 24. Lessons Learned 1. Thedistribution of returns from the Wilbank study strongly suggests that invests pursue a portfolio strategy of at least 10 investments and perhaps as many as 25 investments to optimize returns. 2. Based on the Wiltbank studies, anticipated returns for angel investing is an IRR of 20-25% (~2.5X ROI) 3. Investor patience is required (10+ years)
- 25. Patience is required LemonsRot Faster than Plums Ripen • -1X typically takes 2.5 to 3 years • 10X is expected to take 4-5 years • 30X could take 6-8 years or more Hint: Angels should not expect high portfolio yields (IRR) after only three years of investing!
- 26. Invest in atleast 10 companies But: How much should angels invest in each deal?
- 27. Determining Size ofAngel Investments • Invest in at least 10 deals (lifetime) • • • • Determine total personal assets set aside for angel investing (3-10% of total assets) • Divide total commitment by 20 investments •
- 28. Strategy: A PersonalChoice • Invest in each round of perceived winners o Invest along side subsequent investors o Invest a lot in some company, little in others o OR…limit follow-on investing • Invest in new companies o Be very selective in follow-on investments o Chose to diversify over betting on winners
- 29. Other Triggers forInvestment • Scalability and diversity are not only issues • Vary by investor and within angel groups • Some additional critical triggers may be: • • • • • •
- 31. Groups versus SoloAngel Investing
- 32. Solo Angel Investing •Process is time-consuming • Deal sourcing • Reading plans • Due diligence • Due diligence is difficult • Finding vertical experience • May require using outside experts • Legal support is expensive
- 33. Advantages of SoloAngel Investing • Control over the round of investment • Take a little – take a lot • Include only your friends • Negotiate control ownership • Grab hot deals • Move quickly • Dominate an emerging business sector • Negotiate your own term sheet
- 34. Disadvantages of SoloAngel Investing • Much more difficult • To manage deal flow • Doing sufficient due diligence • Mentoring/supporting growth in funded companies • Leads to larger investments • Fewer to share any round • Larger personal investments • Pressure to invest in follow-on • Less diversification • See fewer deals • Lose deals to others/no incentive to share deals
- 35. Solo versus GroupAngel Investing Group investing facilitates best practices • Easier to see more deals • More resources to evaluation deals • More experts to mentor companies • Business sector experts as Directors/Advisors • M&A experts to facilitate exit • Best practice for optimum returns (Wiltbank) • Many, smaller investments • Easy to make many, smaller investments
- 36. Sharing Deals isBest Practice
- 37. Larger Portfolio ImprovesReturns 1. Wiltbank Study – Investing in 10 -25 deals is a best practice for optimum returns. Invest in more deals – with smaller investments per deal Investing with groups • Increases deal flow • More investors – less investment per deal per investor • More investors for follow-on investing
- 38. Due Diligence: InGroup Investing 2. Extensive Due Diligence Improves Returns • Group offers substantial business expertise • Group members have time to do diligence • Team due diligence is faster and more comprehensive
- 39. Median: 20 hrs Multiple: <20 hrs - 1.1X Multiple: >20 hrs - 5.9X Multiple: <40 hrs - 7.1X
- 40. 50% of dealswere not related When related, they typically had 14 years of experience
- 41. Mentoring Funded Companies 3.More experts to mentor companies • Business sector experts as Directors/Advisors • M&A experts to facilitate exit • Angels groups provide Director training and establish Director/Board best practices
- 42. High = 1-2times per month Low = 1-2 times per yr High: 3.7X (4 yrs) Low: 1.3X (3.6 yrs)
- 43. Investing through AngelOrgs • Increased deal flow – more deal choices • Pick and choose the deals you like • Variety of vertical experience available • Expertise in due diligence • Mentors for growing portfolio companies • Standardized processes and term sheets • Great camaraderie among the like-minded
- 44. Growth in USAngel Groups 350 300 250 200 150 100 50 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Source: Center for Venture Research (pre 03 data) and Kauffman Foundation/ARI (04- data)
- 45. Profiles of USAngels (Wiltbank – US) Years investing 9 Number of investments 10 Total exits/ closures 2 Years as entrepreneur 14.5 Number ventures founded 2.7 Age 57 Percent of net worth 10% Education University
- 46. Engagement from EachAngel Ten portfolio companies Engaged with 2-4 o Chairman o Director o Mentor/coach Passive with six or more Available, if needed
- 47. Typical US AngelGroup Deal - 2011 • $150,000 to $2 million in a single round o Median round size $700,000 o Median from local angel group: $250,000 • 20-40% ownership in company • Board position(s) • Special voting rights • Liquidation preference
- 48. Engagement of Angels 5to 20 angels invest in a company Which angels engage with the company Available Time Vertical Experience, familiar with M&A exits Good rapport with entrepreneur How many will be involved One or two – depending on need Others on call for special assistance Note: Most angels are part-time investors
- 49. Angel Roles inPortfolio Companies Board of Directors Advisor, mentor, coach o Of CEO, of management team Step in during crisis (temporary) Assist in raising additional money o Another angel round o VC or strategic money Tee up the company for exit Angels are active in a few deals and passive in most
- 51.
- 52. Nondisclosure Agreements (NDAs) •Most angels and VCs will not sign o See too many deals o Integrity is key to continuing business o Not motivated to steal technology • May sign NDA… o During due diligence, not earlier o Covering a very narrow set of issues • Business Plan - no proprietary information
- 53. High Growth vsLifestyle Companies Lifestyle companies • Organic growth • Great income source for entrepreneurs • Flexible exits o Sell o Stay engaged into retirement o Give business to children • Not fundable by investors (no anticipated exit)
- 54. High Growth vsLifestyle Companies Fundable Companies (high growth) • High growth potential • Need investor’s capital to grow • Exit strategy defined at outset o IPO (very unlikely) o Sell to public or private company • Entrepreneur builds wealth but perhaps not high income
- 55. Evaluating Deals What investorslook for?
- 56. Angel Rating System Management team 0-30% Size of opportunity 0-25% Product & technology 0-15% Sales channels 0-10% Competitive advantage 0-10% Size of this round 0 - 5% Need for more funding 0 - 5%
- 57. Don’t Like TheseRatios? Management team 25-40% Size of opportunity 20-30% Product & technology 10-30% Sales channels 5-20% Competitive advantage 5-20% Size of this round 0-5% Need for more funding 0-5% BUT: Don’t Make Product/Technology 95%
- 58. Fundable Management Teams CEO o Coachable (very important) o Integrity o CEO experience, Leadership o Vertical experience o Team members identified Team o Balance and complete o Experience working together
- 59. Size of theOpportunity Scalable o $20 million (min.) in revenues in 5 years o (VCs look for >$100 million) Large niche market o Achieve high revenues with minimum competition High gross margins o Growth with internally generated cash o Requires less investment capital
- 60. Product and Technology Product available for customer validation o Prototype o Beta test • Unique technology o Patents, trademarks o Trade secrets o IP protection underway • Manufacturability in quantity validated
- 61. Intellectual Property Patents,trademarks, trade secrets Competitive advantage is a “must have” o Competition with resources cannot just reverse engineer and compete o But, IP does not bring great value to startups because they do not have resources to defend Intellectual Property primary value at exit o Acquiring companies insist on IP o Great IP adds substantial value at exit
- 62. Marketing and Sales Customer validation is available o Investors need to verify with customers o Essential to investment • Marketing/branding issues addressed • Reasonable sales channels defined • Some partnerships established • Competitive advantage identified o Small competitors, fractured marketplace
- 63. Other Issues International o Sales and marketing off-shore Direct or landed presence Capital o Size of this round o Subsequent funding required Small (angels) or Large (VCs) Raising money off-shore Substantially increases risk
- 64.
- 65. Typical Angel GroupDeals (p1) • Management team has: o Integrity o Experience (management, business vertical) o Identified key advisors/directors o Key players in the wings • And…CEO is coachable • Willing to build a functional board o Entrepreneur will not have control
- 66. Typical Angel GroupDeals (p2) • The business will scale o Build revenues to >$20 million in five years • The business serves a large niche market o No major players as direct competitors • Large gross margins can be expected • M&A exit are feasible within 5+ years o Multiple acquiring targets can be identified o Technology key to target’s tech roadmap
- 67. Typical Angel GroupDeals (p3) • Company has prototype ready for customers. • Customers have been identified and have been shown the product or prototype. • Customers can validate that the product is a pain killer, not a vitamin pill • Company has unfair competitive advantage
- 68. Typical Angel GroupDeals (p4) • The business model can be validated • Reasonable sales channels are available • Customer acquisition costs are low • Competition is fractured (Microsoft is not lurking around the corner)
- 69. Typical Angel GroupDeals (p5) • Entrepreneurs is flexible on terms • 20+X ROI is possible (not all angels agree..) • Valuation is reasonable • Structure of deal allows input/control by investors. • Board makeup is flexible by entrepreneur • CEO is willing in advance to step aside when opportunity justifies this Board decision
- 70. AVOID COMPANIES WHOHAVE MADE FIVE COMMON MISTAKES (Traps Entrepreneurs Must Avoid)
- 71. 1. Taking dumbmoney from many investors!
- 72. 2. Pitching productand technology. Entrepreneurs must present their business plan and the investment opportunity
- 73. 3. Overestimating themarket size
- 74. 4. Don’t allowentrepreneurs to “ball park” revenues as a percentage of the total market.
- 75. 5. Don’t beimpressed with “first mover advantage”
- 76. Summary • Betting onthe Jockey, not the horse • Looking for companies with large opportunities in niche markets • Seeking a competitive advantage • Skeptical about companies that have huge capital requirements.
- 78. Angel Group InvestingProcess
- 79. Angel Group InvestingProcess PROCESS SOURCE COMMENTS % Deal Flow Referenced or Groups seek 100% New unreferenced deals Pre-screening Staff review Criteria for Investment 50% Screening Members Due Diligence or Reject 20% Due Diligence Team of 4-6 Invest or Reject 5-10% Investor Varies by Deal Collect money ~2% Commitment Seek additional investors Closing Varies by Deal Include outside investors? ~2%
- 80. Deal Flow • Manydeals come from members, incubators and local lawyers (etc.) • Groups encourage unreferenced deals from local community • Refer outside deals to groups local to the deal
- 81. Pre-screening Deal Flow •Pre-screening done by o Staff o Interns (students from local schools, trained by angels) o Small groups of members • Based primarily Criteria for Investment o Published on website (next slide)
- 82. Criteria for Investment •Geography (local deals) • Business sectors of interest • Range of acceptable round sizes o Typically $150,000 to $1 million • Upper valuation limit • Preferred stage of development • Other criteria
- 83. Screening • Presentation tosome or all members • Structured meeting • Using PowerPoint template • Timed presentation, Q&A, private discussion and feedback to entrepreneur • Objective o Move on to Due Diligence phase, or o Optional recommendations to entrepreneurs
- 84. Due Diligence • Teamof angel members (4-6) • Negotiate term sheet (not part of DD) • Use due diligence checklist • Validate investment opportunity o Management team, Size of opportunity o Technology/IP, Capital required, financials • 2-3 months, decision to write checks • Document in DD book, share with others
- 85. Investment • DD teamrecruits investment from group • Collect investment funds • Make decision about investment from other groups (70% of US deals are shared) • Provide DD documentation to others • Select lead investor (board directors) • Close deal
- 86. Syndication with OtherGroups • Move quickly • Provide with Due Diligence book • Make entrepreneur and lead investor available to syndication partners • Emphasize importance of timing • Close deal
- 88. Models for AngelOrganizations
- 89. Models in theUS • Organizational models o Angel networks o Angel funds • Management models o Member managed o Manager managed o Administrative support
- 90. Funds or Networks Angel Funds Angel Networks Manager-managed X X Member-managed X Time commitment X X X Dues X X X Carry (preferential return) X X Individual investments X Group investments X X
- 91. Angel Funds • Pool money in advance • Screen and Due Diligence as group • Vote of members determines investments • Member managed or • Hired manager o Leads the process o Provides administrative support o Is paid thru dues and/or “carry”
- 92. Angel Networks • Membersdo the heavy lifting o Screen and Due Diligence as group o Negotiate common term sheet o Select a deal lead • Members make personal investment decisions o Some pass – no investment o Other invest a little…or a lot • Usually some administrative support
- 93. Strengths and Weaknesses Group Organization Model Strengths Weaknesses Network Individual decisions Less diversification Less investment in recessions Diversification for all members Group decisions Fund Pooled funds- recession proof More startup work Accounting issues
- 94. Manager-led Networks andFunds • The manager o Leads the process o Provides administrative support o Is paid thru dues and/or “carried interest” o Or, provided by public agencies • Sometimes do “heavy lifting in o Due diligence o Coaching, pre-investment • Member must engage post investment
- 95. Strengths and Weaknesses Member versus Manager Leadership Strengths Weaknesses Member Member engagement Administrative load Leadership succession Consistent leadership Member engagement Manager Single point of contact Operational costs Carried interest cost
- 96. Side-by-side Group Investing • Individual member investing along side angel funds, or • A fund established to invest along side individual angel network members • Add leverage for angel group • Let’s members fund their favorite companies • Allows network members to diversify portfolio
- 97.
- 98. Automatic Side-by-Side Fund No manager, no carry Leverage to angel group No fiduciary responsibility Angels can diversify Typical investment: Other accredited investors o 30-50% match, if can invest o 5 angels in network Fees could offset costs of invest at least $250K angel organization Diversified portfolio Possible to engage 10 to 20 investments governments as investors
- 100.
- 101. Trend towards Angel-onlyDeals • World-wide VCs are troubled • Returns are low • Raising new funds very difficult • Follow-on funding by VCs problematic • Many angels look for angel-only deals • Require few million US dollars to succeed • Syndicated angels in multiple rounds can fund • Seek earlier exits via M&A, not IPOs
- 102. Definitions • Syndication andCo-investment have similar definitions, depending on the region • In some jurisdictions, investing as part of a single, local angel groups is syndication • In US group investing is the standard (and not considered syndication or co-investment) • In other locals, syndication (or co-investment) means different investment groups (angel groups, VCs, family investors and others) investing in the same round.
- 103. Syndication (or co-investment) withinUS Angel Groups • Standard practice for US angel groups • Average round size 2011: $700,000 • Local group invested about 1/3 = $250,000 • Cooperate on due diligence • Negotiate a single term sheet • Coordinate with a single deal lead • Leverage group investment for best terms • Invest a little, invest a lot…or pass
- 104. Syndication (or co-investment) amongseveral US Angel Groups • Trend growing rapidly • Local group leads the deal • All groups agree to single term sheet • Coordinate with a single deal lead • Local group shares due diligence results • Principal advantage: • Raise more money • Engage more investors (and expertise) • More investors available for follow-on rounds • Not so dependent on VCs for follow-on
- 105. US Angel Groups Co-InvestedDeals in 2011 Halo Report - 2012
- 106. Growth in USAngel Groups 350 300 250 200 150 100 50 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Source: Center for Venture Research (pre 03 data) and Kauffman Foundation/ARI (04- data)
- 107. New Zealand AngelGroups • New Zealand Demographics • Land mass of UK, population of 4 million • 14 angel groups, spread over the country • About as active as Boston in the US • Invest together as a group, similar to the US • Syndicate deals • All groups participate • Small VCs engage • About 50% of deals involve more than one group
- 108. Trend for Multi-groupSyndication Among Kiwi Angel Groups NZ Young Company Finance 2012
- 109. Multi-group Syndication inNew Zealand • Exports are key to NZ economic success • Raising money in multiple rounds is critical • Raise money for startup • Raise money to demonstrate traction locally • Raise money for exports • Raise money to create landed presence off-shore • Successful fundraising offshore only possible after offshore product validation
- 110. Keys to Success (With a Group or Between Groups) • Build trust with other investors • Join due joint due diligence teams • Sharing deals goes both ways • Single investor contact point • One term sheet • Share due diligence • Cooperate finding best angel experts • Single lead investor • Cooperating angels can fund larger deals
- 112.