What Companies Are Angels Actually Investing in?

It seems as if a new startup is funded every day, but in reality a very small percentage of startups are able to successfully raise capital. To give some perspective, the Impact Angel Group reviewed 522 angel investments last year and only invested in five. Of those 517 deals that we didn’t invest in, we declined 513 because we didn’t think they were viable investments and only four because of timing and other circumstances.  So what kinds of companies are angels actually investing in?

Every angel is an exception to the rule, so it’s impossible to really determine which companies will and won’t raise capital. However, I can share what types of companies the Impact Angel Group would invest in and the patterns I’ve seen from my experience as a full-time angel investor for the past two years, as well as conversations with over 400 angels.

Slam Dunk Capital Raisers:
If a startup has all of the following qualities, I can almost guarantee they will find angel investors:

1)      Experienced leadership – A CEO with previous successful exits and/or a proven ability to take a similar product to market or acquisition

2)      A HUGE market – an addressable market at least 200 million, but over a billion is ideal (note: If the company needs to raise VC money in the future, the market should be at least 500 million)

3)      A valuable technology – a patented technology and/or a technology that would cost a significant amount of money or time to replicate

4)      Proof that someone will actually buy the product or technology – Significant sales or license revenue traction (The company is earning revenue and/or letters of intent or sales/licensing contracts are in place.)

5)      A quick and clear path to market – a lack of major go-to-market hurdles (i.e.: FDA approval)

6)      A quick and clear path to exit – Identification of likely acquirers who have made similar acquisitions in the recent past and/or limited barriers to profitability in the near future

7)      The ability for investors to realize a 5 – 10X return on their investment – a valuation that will allow for a 5 – 10X return on investment. Compelling information indicating that acquirers will purchase for 5-10x the valuation or the company will be able to buy back the shares at a 5 -10x multiple. (Note: I haven’t looked at too many angel deals that plan to exit via IPO, so I can’t speak to that.)

Times When Angels Might Make an Exception:

Unfortunately, there are very few early stage investment opportunities that meet all seven of these criteria. The Impact Angel Group tries to exclusively invest in companies that meet these seven criteria, but we (and most angels we know) might make exceptions in each of these areas under the following circumstances. (Again, every angel is an exception to the rule, but for the purpose of this article, we are defining “angels” as the Impact Angel Group and most of the angels we know):

1)      A lack of experienced leadership – If the company has the 2-7 criteria and the existing team is truly open to a leadership change, angels might consider investing. If the new leaders are identified and have already agreed to come on board, that makes it even more interesting.

2)      A less than HUGE market – If the entrepreneur can either pivot to capture a larger market or if there is a low valuation and a small amount of capital required, angels might make an exception.

3)      A replicable technology – If the company has significant sales traction in the market and a strong brand value, then angels might make an exception. The key thing to understand is how much time and money it would take the competition to do the same thing and whether the competition would be willing to purchase or partner with an outside company.

4)      No proof that someone will actually buy the product or technology – Many angels invest in pre-revenue companies, but the Impact Angel Group at least tries to get some qualitative data to back up the entrepreneurs’ assumptions. If angels can talk to potential customers and industry experts to validate that the target market will actually understand the value proposition, they might make an exception.

5)      A slow and painful path to market – Angels might consider opportunities with regulatory and other go-to-market barriers if the potential payout is HUGE and if 1) the entrepreneurs understand and have experience overcoming these barriers or 2) the investors have some experience that they can leverage.

6)      No exit in site – If the structure of the investment supports an unlikely exit, angels might make an exception. I recently considered an opportunity to invest in a business that had no intention to be acquired, but they were already profitable and were offering a revenue share opportunity in exchange for growth capital to scale and meet existing demand.

7)      A less than 5 – 10X return on investment – If the time to exit is shorter or the non-financial impact of the deal is greater, angels might make an exception. However, I can say from experience that the deals offering a high social impact, but a low financial return are becoming less appealing to many investors. There are an increasing number of investment opportunities that offer the possibility to achieve a significant social impact as well as a 5-10X financial return, so the competition is getting steeper.

There are always exceptions and no two entrepreneurs or angels are alike. However, the closer the deal is to the ideal scenario, the more likely investors and entrepreneurs will succeed.

What do you think? Is it possible to invest only in companies that meet these seven criteria? When are you willing to make an exception?

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2 Responses to What Companies Are Angels Actually Investing in?

  1. An Entrerpreneur says:

    re: ” Is it possible to invest only in companies that meet these seven criteria? When are you willing to make an exception?”

    Of course it is possible to do so, it is also possible to only invest in Fortune 500 companies. The risks however obviously need to be balanced against the potential reward. If you tolerate more risk you may get more failures but also potentially larger wins. Many of those criteria make sense, like market size and potential ROI, but I sincerely doubt based on those criteria you would have touched say Tumblr which was just sold for a $billion with a ten foot pole. It makes sense that different angels should have different criteria for risk, and by failing to acknowledge that it seems you may be doing a disservice to innovation in this country by pushing such criteria. It is doubtful you would have invested in Apple, Amazon, Ebay, Google, etc, etc.

    Many angel investors and VCs aren’t truly looking for the “next big thing” since they won’t take the risks involved to find it. That is a perfectly valid choice, but if so you should be clear to other angels that they won’t get the “next big thing” if they follow your path, that they need to take a different path if they truly want to make a large impact. This blog seems to indicate you had an early e-commerce startup fail, which would lead naturally to caution, which means you may not fail as much but won’t reap the potential rewards either.

    The issue of not having “replicable technology” is considered by many tech entrepreneurs a siren song for investors that are out of touch with the realties of what leads companies to succeed (ask Brad Feld what he thinks of software and biz process patents, or most experienced software types who recognize they are a bad joke). You need strategies for building a “barrier to entry” for your competition, however that is just one of them. Yes, it would be ideal if you had a protected technology or one difficult to reproduce, but that criteria would have led you to not invest in a large chunk of tech companies that have been successful. Yes, it can increase your risks if you rely on for example “first mover that is good enough at the right time to grab market share and build up switching costs and barriers”, but it also increases your potential payout if you don’t rule out huge markets where there will *never* be a solution with technology you can protect, and yet some company will profit greatly from entering the niche anyway.

    The experience criteria also must be weighed carefully. You do note the willingness to bring in experience might be enough, but often it should be considered not only enough, but appropriate. I’d suggest that an angel stage company is often only just getting to the point where they might attract candidates from the limited pool of “been there, done that” CEOs who might be a fit for that particular niche rather than merely being brought in to check off a box. There may not always be a candidate available at that stage who is an appropriate fit in a new niche compared to the less credentialed but potentially more in tune with the niche existing management. Think of Apple’s attempt to bring in a consumer brand guy.. vs. leaving it to Steve Jobs. Not every startup manager is a Steve Jobs obviously, but sometimes new niches require new ways of thinking, and it can take time to find an appropriate manager to bring in and rushing it may head things down the wrong path in the long run. Should they bring in a CEO who is on paper “been there done that” but a poor fit just to get angel funding, leading the company to never reach its potential due to a lack of vision and or hold off for a star CEO to build it to another level that takes a little more time to find? Investors should want businesses to rationally time things.. not time them to appease investors who may know less about their business than they do. Yes, it increases your risk to not have a cashed-out CEO on board… so it is a tradeoff.

    re: the customers, I’d suggest considering being more open to the notion of “talking to potential customers” and pre-revenue companies if you want higher payout. e.g. in the case of a Tumblr or Facebook the revenue comes from advertisers.. who may not show up until the user numbers grow, but will when they do. In addition there are many sorts of hardware and software that require more than a “friends and family” round to build, which may have far larger potential. There is a major funding gap that steers many entrepreneurs away from bigger ideas with larger payouts where their product development would never be funded by shortsighted investors.

    • Thanks for your detailed comment!! Re: “You should be clear to other angels that they won’t get the “next big thing” if they follow your path, that they need to take a different path if they truly want to make a large impact” — I’m not claiming to have all of the answers and would never claim to be qualified to give investment advice to other angels. This blog is simply a reflection of the types of companies I’ve seen angels invest in over the past two years. Additionally, as I said in the blog, companies that meet these seven criteria seem to have the easiest time raising money and there are times when angels make exceptions. Most angels I’ve spoken with agree that the most important ingredient is the team and if the team is exceptional, but the companies lacks in other areas, then they may make exceptions. But one thing I can say for certain is that all angels are individuals and every individual is different. The intention of this post is simply a reflection of the activity I’ve seen through my experience. Thanks for reading!

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