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Angel Investing

Angel Investing. Gary Rowe. Tech Coast Angels (TCA). Alliance of Angels. CA Non-Profit Founded in 1997 The largest angel group in the US –investing primarily in Southern California. Golden Seeds. Sierra Angels.

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Angel Investing

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  1. Angel Investing Gary Rowe

  2. Tech Coast Angels (TCA) Alliance of Angels • CA Non-Profit Founded in 1997 • The largest angel group in the US –investing primarily in Southern California Golden Seeds Sierra Angels • Over 300 members organized in five networks overseen by a Board of Governors Life Science Angels Desert Angels • Members are encouraged to • collaborate within and across networks. • attend any TCA meeting or activity. • participate in any member-led investment Los Angeles (92 members) Central Coast (22 members) Inland Empire (16 members) Orange County (70 members) • syndicate larger deals (new) • provide mentoring and guidance as well as capital San Diego (102members)

  3. Outline • Funding Alternatives • Angel Investing • Angel Investing Decision Process

  4. Starts with the Entrepreneur • An idea for doing something better, faster, cheaper • You build on the idea and bring in others • The frenzy starts…this will be great, we will be rich…the euphoria peaks with the first Excel spreadsheet… • Revenue from nothing to $1 billion in 5 years…it must be true, it’s in Excel

  5. Then Reality sets in • I only have $5K in the bank • I have to cover my monthly living expenses • I’ll have to leave my current job/salary • I need outside funding or my idea will never see the light of day

  6. Funding Alternatives • Self fund—may limit growth, but no dilution • Friends/Family—early stage funding • Angel Investments—$250K - $1.5 million • VC funding—$3million - $20+ million

  7. Angel Investing

  8. What Is Angel Investing? Angel investors provide Seed Funds for • proof of concept, • product development, • market research, • business plan development, • recruiting management and • early production. TCA Angel investors also provide Startup Capital for early stage product development, initial marketing, expansion and growth. $ $ $ $ $ $

  9. Who are Angel Investors ? CEO Accredited* investors who invest their own capital TCA • They come from diverse operating backgrounds • C-Level Managers, • Entrepreneurs, • Senior Executives & Other Professionals They can devote time and add substantial value TechCoast Angels • They mentor and coach entrepreneurs • Serve as directors • Provide industry contacts & advice • Assist with team building, strategic planning and subsequent fundraising *Securities Act of 1933 - net worth > $1 M, income exceeding $200,000 in each of the two most recent years or a trust with assets > $5 M

  10. Spectrum of Start-Up Investments % of All Start-Up Firms < 10% < 1% > 90% Angel Investing, Osnabrugge & Brown > 50% High-Potential Firms $50+ M ANGEL’S INTEREST Annual Growth Rate Middle Market Firms 5-Yr Revenue Projection 20% to 50% $10 M to $50 M Lifestyle Firms < $10 M Entrepreneurial Firms < 20% Bootstrapping & Angels Internal Angels & VCs Primary Sources of Funding

  11. Investor Focus Power of Angel Investing, Payne Angels • Scarce capital – very few deals • Wealthy, solo, private investors • Strategic partners – corporate investors • Boutique VCs • Alliances between Angels and VCs Number of Investors Gap VCs $2.5 $5.0 $7.5 $10 Seed Track Funding Investment Per Round (Millions)

  12. Angel & VC Markets Are Large, Complementary Late Mostly Late Stage 3,808 Deals $28.3 B STAGE $19.2 B 55,480 Deals Mostly Early Stage Early 2008 Angel Investments UNH Center for Venture Research 2008 VC Investments National Venture Capital Association Connect Framework Presentation - Jack Florio

  13. WHAT DO ANGEL INVESTORS EXPECT? 5 7 4 6 3 2 1 Investment Horizon 3 - 7 years ROI = 30% - 40% Revenue Experienced management team Ongoing relationship with management

  14. How are Angels Currently Investing ? Preferred Raise < $150 K $150 K - $250 K Preferred Investment Stage Seed/Startup Early Stage 80% 60% 40% 20% 0 Later Stage $250 K - $500 K Expansion $500 K - $750 K 0 20% 30% 40% 50% 60% > $750 K Source: 2009 Angel Capital Association - Angel Group Confidence Survey and 2008 Member Directory Connect Framework Presentation - Jack Florio

  15. What Do Angels Bring to a Start-Up ? • Funding • Direct • Venture Capital Affiliates • Guidance & Team Building • Mentoring and Coaching • Active on Board of Directors • Advisory Board Participation • Business Contacts • Additional Management • Customers • Vendors • Strategic Partners • Service Providers • Follow-on Financing

  16. Member Portfolio Considerations • 5-10% of net worth (asset allocation) • 8-10 investments (risk diversification) • High tech, low tech, no tech • Variety of involvements • Lead investor • Board, advisor • Passive • Most of ROI from 1 - 2 of 10 companies

  17. Member Portfolio Strategy • Expect to exit in 3-7 years (assume 7) • You want a balanced portfolio • Seek to build a portfolio of companies covering all stages of development • Perhaps in multiple business sectors • Build to a 10 company portfolio gradually • Invest in 2-3 companies per year • Diversify (stage, sector, …)

  18. Getting Funded by Angels

  19. TCA Investing Process Website Universities Word Of Mouth PR Members VC Affiliates Sponsors Pre-Screen 40+ Applications/Month Screening 33% Due Diligence 10% Network Dinner 7% Funding 5% 20+ Companies Funded Each Year

  20. Angel Investment Decision Process • How TCA (and other investors) make decisions • Investment is about maximizing returns while minimizing risk—early stage companies are higher risk which is why investors generally need more equity to offset higher risk • Understanding what investors look for is valuable in helping entrepreneurs shape their business plans and funding strategies • Following slides are how TCA evaluates invesments

  21. Start With The Idea & Why Its Valuable? What urgent problem does it solve? Who is going to buyit? What would they pay to get this value? How is it better, faster, cheaper than alternatives? Will they adopt your new technology before you run out of money?

  22. Good Ideas The next Big Thing A new Killer App Disruptive Technologythat can form the core of a new business A new application enabled by the Convergence of New Technologies A novel New Applicationof an existing technology.

  23. Then Determine if the Idea is Fundable ? A market opportunity sufficiently large to create a business with at least $50 to $100 million in annual revenues. Proprietary technology or other strong barriers to entry. A compelling, well articulated strategy for capturing and defending a significant market share. TCA Strong management (not necessarily a complete team) with relevant and successful experience. An exit strategy for the investors. A desire for advice and coaching Lastly, the company valuation must fit within TCA’s risk/reward expectations for the investment.

  24. Will They Use the Funds Raised Effectively ? Capital sought must take the company to the next level and materially increase its valuation. • Proof of Concept Prototype • Patent Filing • Product Development • Product Launch • Market Research Major Contract • Management Team

  25. Will They Need Follow-On Funding ? Early money (Angel) must be used for growth Early Later VC Later money (VC) is used to ready the company for acquisition or IPO The most desirable companies are those that don’t need further funds or will quickly become attractive to VCs HOWEVER Your Company SO Angels Early money is inferior to later money Early money investors will want a significant (30%-50%) ownership stake in the company Company $ $ $ $ $ $ And Early money investors need to see significant increase in value

  26. Look for Deal Killers

  27. Look For Deal Killers We have no competition! I must remain President - FOUNDERITIS This is the Valuation. Take It or Leave It. All I need is Your money If we build it, they will come I can’t explain the technology in simple terms – It’s just too complicated We don’t own the IP We want to use your money to pay our salaries and retire the company’s debt. We’ve been too busy to put together a business plan We don’t have a shareholder/partner agreement

  28. Question Exaggerated Claims • Our projections are conservative. • In 3 years our market will be $50B. • Our key customer will sign our contract next week. Key employees will join us as soon as we’re funded. No one else is doing what we do. Several outside investors are doing due diligence. Our competitors are too slow to be a threat. Beta sites will pay to test our software. Our patents make our business defensible. All we have to do is get 1% of business.

  29. Examine Pro Forma Consistent w/ # of units sold & sales cycle? % of Niche Market? GPM ~ 50% Does this match business sector? Reasonable % of Revenue? Sales, R&D and G&A High/Low? 4 Yrs Negative Profits Follow-On Rounds

  30. Agree on Terms

  31. Typical Terms to Consider Valuation Debt vs. Equity Cap Table Required Funds Shareholder Rights Equity Debt

  32. Debt vs. Equity Convertible Debt • Convertible debt financing is an investor loan that has a future conversion-to-equity feature. • Convertible debt typically converts (often at a discount & sometimes with a cap) to equity the next time capital is raised • Conversion to equity is based on the valuation set at the time of “qualified financing.” Equity • Investor’s capital is exchanged for company equity • The exchange rate is determined by the pre-money valuation for the company • Conversion to cash or to common stock is based on the valuation set at the time of the next “qualified financing” round.

  33. Valuation - Berkus Method (Early Stage Start-Up) Company Attribute Add $500,000 Attractiveness of Core Idea Upon Which the Company is Founded Good management is in place to execute to the plan in the early stages of rapid growth $500,000 $2,000,000 The company has struck impressive strategic alliances with either vendors or customers, adding to barriers of entry for other businesses. $500,000 The company has a completed product or prototype and has demonstrated its attractiveness before an appreciative customer candidate. (Which further reduces the risk of investment, adding to value.) $500,000

  34. Summary • Many entrepreneurs need outside funding • Angel investors fill a valuable need for high-potential start-ups seeking $100K -$1.5 million • Angel groups such as Tech Coast Angels bring investors together to collaborate on deals, due diligence and funding • Understanding angel investor decision criteria will help entrepreneurs get funding

  35. Thank you Entrepreneurial Playbook blog: http://garyjrowe.com

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