Posts tagged with “vc”…

Angels are everywhere. It's a nice thought, isn't it? Over the last twelve months, and since the onset of the credit crunch, we've heard all sorts of stories about angels. One of the most commonly reported is that there's been an increase in the number of “new” angels signing up to private investor networks, up by as much as 31% according to Angel's Den.

Our experience is bearing this out. There really are a lot of angels out there, be they sophisticated or HNWI, and there's a lot more attention being paid to early-stage. As the markets have become riskier, and perhaps also as banks have laid and paid off HNVIs, there are more would-be investors and founders out there. Able entrepreneurs looking to raise sub-six-figure sums have some good opportunities.

Unfortunately, it's a bit more complicated than that. Angel networks are often self-serving and put out misleading data, driving up their membership revenues. One private network boasts that 40% of the unvetted entrepreneurs who register with them receive funding from their members. It doesn't take an expert to realise the absurdity of that; we'd be surprised if more than 25% of their applicants were highly investable, and of those we'd be surprised if they all closed deals, and did so solely within that network. Angelsoft, a platform provider for angel groups, claim that only 14% of plans get screened, and only 3% received funding in 2008.

The British Business Angels Association -- who rather unhelpfully don't date their news releases -- state that there are fewer angels, and that they are investing 20 - 50% less. At first glance this is at odds with the networks claiming more angels than ever, but it's really not. Qualifying as angel investor doesn't take much, and in the majority of cases, it doesn't even require making an investment. To be one of the reported 31% increase, angels need only sign up with a network, typically having self-certified that they've met one the FSA's qualifying guidelines:

• A "high net worth investor" (HNWI) is someone with earnings of more than £100kpa or net assets in excess of £250k, excluding pension, insurance benefits and primary residence
• A "sophisticated investor" is someone with at least 6 months' membership of a network or syndicate of business angels; or who has made more than 1 investment in an unlisted company in the past 2 years; or has had professional involvement with private equity in the past 2 years; or is a director of a company with turnover of at least £1 million in the last 2 years

So these individuals are out there, with money, are interested in investing, but aren't doing so. Why not?

There will always people who claim to be “investors” but who don't invest. A trip to W1 on a Thursday for the weekly Open Coffee meet-up should be enough for most people to see the London scene has some pantomime performers alongside committed investors. This is not limited to London, though, and it's not really the problem.

In part, we need to go back to the networks again. They're poorly organised (subject of much TechCrunch debate last year), quote crazy numbers, and -- compared to the States -- provide much less information on what they really get up to. There are groups in the UK trying to improve this, but it's rare to see information like this getting posted. “1-out-of-20 to 1-out-of-30 angel investments work”? That may be a more believable figure.

Another factor impacting UK angel investment is a lack of experience. The newer angels don't have it, as it comes from investing money and time, amplified by smarts. Perhaps a few dozen investments of £50,000 and a few years' experience is pretty instructive, or a successful exit or two, but few angels will stretch that far. To put this into perspective, Angel News claimed in their January newsletter (#56)that only around 157 people in the UK used their full £400,000 EIS allowance, 55 used between £350,000 and £400,000, and a further 300 between £200,000 and £350,000. Admittedly, these numbers are extrapolated from HMRC EIS data for 2006/07, but they're still interesting.

Our experience over the last year or so is that whilst many HNWIs lost a good 40% on the markets, the wealthier extreme were highly leveraged, and lost much more. They won't be back investing for a little while, and when they do, they'll be far more conservative.

Strangely, there might be some hope from venture capital. Despite speculation over the future of their strategy, several UK/ European VCs are claiming to have raised significant funds for investment. We suspect a lot of this money is going into warchests to protect existing portfolios, and the suggestion last year that Accel's $1bn funds are there to safeguard Facebook is intriguing. Our theory is that with VCs ring-fencing much of their funds, they'll increasingly look to “cheap” earlier stage investment, citing the opportunity there. VCs investing early-stage chasing opportunity is a self-fulfilling prophecy and will surely create opportunity.

Is this good or bad for entrepreneurs? It's complicated. Angel investing needs to become more open and an element of democratisation is needed. We have some ideas on how this might happen, and we'll be talking more about them over the coming months.

Entrepreneurs need to be careful, and whilst it's nice that there might be more approaches to make, doing a deal with a wise angel will be more to their benefit than a new “early-stage” VC or an inexperienced angel. We've written before about the “Belgian Dentist” investors, and we think it can be as dangerous taking money from a first time investor as it is investing in a first time entrepreneur. Founders need to look at the track records of would-be angels, speak with other investees, and lend serious consideration to the number of rounds they might need and how well their investors will cope with the unexpected. Founders may also need to take on non-executive directors separately, for experience and mentoring that they might have previously received from their angels.

As always, we're impressed by practical start-ups that boot-strap and only raise investment when they've proofed and prototyped their venture.

We'd love to hear from angels, networks and entrepreneurs with their opinions on this. We haven't had time to discuss some of the developments with co-vesting or virtual incubators (like Reincubate), but we'll touch on those subjects in future posts.

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So you've had the idea, done some research, and maybe got an early incarnation of your business running, perhaps even assembling a small team along the way. You need more money to make the business really tick over, and the banks are talking of rates in terms of "LIBOR plus something" or won't lend at all.

What do you need to have together to raise investment? The depends on the investors and the returns you can provide. Angels, early-stage, small funds, VCs, VCT and corporate venture teams all take different angles on investments. Angels can be the best and the worst -- investing after their emotions -- which can make fundraising easier. Watch out for the "Belgian Dentist" on your board: an investor whose only qualification to be involved in the strategic direction of your business is the money they have, rather than experience or connections they have in your field of business.

There's a whole laundry list of things to show. Here's a short checklist:

• Have a team together. Even if they're not involved full-time, show that you are connected with and can involve credible experts to sell or develop your platform. They can sell you. Most importantly: getting someone on board with you who has successfully launched or funded a business is magic.
• Demonstrate a willingness to bootstrap, and understand what a lean, agile business is.
• Present a strong business plan. Future capital expenditure that isn't broken down will confuse and scare investors. Make it easy to read, and cut out the rubbish. Can you do it in no more than five pages? Annotate it in the margin. Some investors read business plans all day, and they'll skim yours however short it is. Make sure they can see the good bits easily.
• Make sure the numbers are all there. Include a P&L for the first few years. Include summary figures up to five years. Show where the workings come from. If your business is converting web traffic into revenue, work the numbers bottom up and top down and see if they match (don't work on a market-share basis: "The market is worth $10bn and we will capture 0.1% of that for $100m", anyone can say that). If you have clear competitors, find out what their numbers are like. If you can't find the numbers online, call the competitors and ask. People like talking about their businesses and will often say more than they should.
• Have diverse revenue streams if you can.
• Demonstrate clearly that the business model is scalable, and back up your claims.
• Don't ever say there are no competitors, or that it will sell itself. Creating an entirely new product and marketing it is expensive, and if you think noone's after you're lunch you've not done your homework.
• Don't talk about "building a brand" unless you're raising millions of dollars or you really know what you're doing. It's not cheap or fast.
• Demonstrate a solid return on investment. Most investments will expect a 10x return on three to five years.
• Have a clear exit plan for your investors.
• Understand why you are building the business. Be clear it's not a lifestyle business. What do you expect in five years time?
• Show that the business is suitable for the current economic climate. Is it a business that will work in the credit crunch? Are there parts you should scale back or put on hold?
• Consider the funding runway you need. If you're asking for £50,000, is that the only capital the business requires? How many rounds of funding will the business expect? Professional investors will ask you this. Have you left enough runway: if the cost of your initial activity doubles, or your revenue is late, will the extra six months it could take for further fundraising run the company into the ground?
• Do you have any intellectual property (IP) in the business? Can you protect what you have with patents or trademarks?
• Build a proof-of-concept or a prototype. This makes funding much easier to obtain. You can really show would-be investors what they're buying into. Understanding somebody else's business is hard, and having a play with a demo product is usually easy. Building a prototype shows that as a founder you can get it together to raise your own seed funding and or executive on delivering the first part of your business. Prototyping also helps as we see most pre-money business change their plans at least three times. Investors will wonder whether you have settled those issues.
• Understand funding types on offer, and how each class of investor is likely to invest. Are you after cash for equity, or convertible debt? Do you know what class of stock you might offer, and how much?
• Make sure the company valuation is sensible. If the investment opportunity appears to be to good to be true, it probably is. And if it's that good, you probably don't need equity funding.
• Don't waste the investor's time, and do your research on them beforehand. A lot of investors talk to each other, and annoying one can be harmful. Don't approach the wrong investors for the wrong sort of funding, and understand what sort of investments they make.

This is by no means a complete list, but we hope it will be useful to many of you. For assistance with your planning, preparation, implementation and funding, please do consider Reincubate.

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