Raising Money from Business Angels

2-2

What’s an Angel?

• A person who provides capital from his own funds to a private business owned and operated by someone who is neither a friend nor family member.

2-3

Many Different Types of Angels

• Accredited and unaccredited• Active and passive• Knowledgeable and naïve • Interested in early and late stage ventures• Providers of large and small amounts of money• High- and low-risk investors • Providers of debt and equity• Investors as individuals and as part of groups

2-4

Angel Market is Small

• Angel capital market is about $23 billion year– About equal to VC market– All informal investors provide $162 billion

• Only 8 percent of informal investments are made by angels; 92 percent by “friends and family”

• Angels invest in only about 0.2 percent of U.S. companies

But angels are important for certain types of startups

2-5

Typical Angel

• Isn’t an accredited investor• Makes investment of $10,000• Prefers cash flow positive businesses• Is no better than friends and family

– Has no more entrepreneurial experience– Makes no more informal investments

• Doesn’t attract VC follow-on investment

Not right investor for true high potential businesses, but useful for others

2-6

Angel Groups

• Accredited investors• Active investors• Knowledgeable investors• Interested in early stage ventures• Provide of more money than typical

angels• Primarily equity investors

Valuable for high potential companies

2-7

But They are Very Rare

• In 2006, angel groups invested in only 512 of the 25.4 million businesses in the U.S.

• In 2006, angel groups invested $250 million of capital

2-8

Typical Angel Group

• Is three years old

• Has 37 members

• Is structured as a network (3/4)

• Is member led (59 percent)

NEO’s groups are Arch Angels and North Coast Angel Fund

2-9

Investors in Angel Groups

• 5,600 people across the country

• All accredited investors

• Many with experience in high growth startups

• Many have made multiple angel investments

• Invest around $30,000 per investment round

2-10

What Members of Angel Groups Are Looking For

• Early stage businesses

• “High tech” businesses

• Very high potential for growth - $50 million in sales in 5 years

• Clear exit strategy – acquisition or IPO

• Investment around $250,000

2-11

Investment Process

• Source deals – through members and unsolicited • Initial screen, weed 60-90 percent with “no chance” of

funding• Select companies for presentation, ¼ to ½ of

remainder• Typical presentation is 20 minutes with 20 minutes of

Q&A• Group decides whether or not to do due diligence• Subgroup does due diligence and reports back to

members with recommendation • Members decide whether or not to invest• Group monitors investment with a board seat

2-12

Highly Selective

• 400 companies apply to the typical angel group annually

• 24 companies present to the typical angel group every year

• 4 companies per year receive an investment from the typical group

2-13

What Angel Deals Look Like

• Few angels have VC-like term sheets– Convertible debt is used in less than 7 % of

investments– Money is staged in only 21% of investments– Investor veto of management decisions in only 5

percent of cases– 40 percent of investments are straight common

stock– 40 percent of investments involve debt

• But, angel group terms are getting more like VC terms– Often preferred stock, rarely debt– Adding VC-like terms and covenants

2-14

Performance of Angel Group Investors

• ROI is 19.2 percent per year after investor’s opportunity cost is factored in (probably biased up by willingness to talk)

• But lots of variance– 7 percent of investments account for ¾ of all

returns– 52 percent of the investments return less

than the capital put in– Only about 40 companies founded annually

reach $50 million in sales in 6 years in industries that investors target

2-15

What the Best Investors Do Differently

1. Are very selective

– Only about 500 U.S. startups hit the $50 million sales target so they don’t believe projections

2. Have high return expectations

– 30 X +, Put in $100,000 get out $3 million

– Only 45% of angels have 10X + return expectations

3. Invest in the same industries as VCs

– Typical angels favor retail and personal services

– IPOs and acquisitions are concentrated in industries VCs invest in

4. Conduct substantial due diligence

– 25% of angels will invest without seeing a business plan

– Only 15% of angels report doing “extensive” research

– More than half of angels get no independent references

2-16

What the Best Investors Do Differently

5. Are accredited investors– Fewer SEC limitations– Can invest as part of a group– Can invest more money

6. Become involved with their portfolio companies – Bottom third of angels only spend 7 minutes per week per venture

7. Use appropriate financial instruments – 40 percent of angel only rounds are common stock,– 40 percent of funding is debt)

8. Avoid overvaluation– Initial valuation of a business has a curvilinear effect on ROI

9. Diversify across 10+ investments– Return across investments is worse than return to investors with

multiple investments– New investments in place of following on

2-17

Implications for Entrepreneurs

• Be aware of how difficult it is to raise angel money

• Understand what angels are looking for• Understand the angels’ investment process• Angel groups are important type of investor

between individual angels and VCs• Choose the right type of angel – don’t choose

angels who provide nothing more than money• Recognize that the best angel investors have a

unique approach to investing

2-18

Questions and Comments

????????

Scott Shane

Case Western Reserve University

Scott.shane@case.edu

(216) 368-5538