Tl;dr: A guide to the fundamentals of how to think about investing in startups at angel stage. This is useful both to early stage investors for how to critically evaluate startups, and for startup founders to understand what is (or should be!) important to investors when thinking about pitching them for funding and evaluating their own business model. I teach founders to evaluate their business model not to pitch investors, but to give them a better shot of an exit. If you are fundable, you are fundable.
[Note: I’ll make a video to present this in detail when I get back to London]
This is a keynote I delivered to the Angel Partner Group at the Luiss EnLab demo day in Rome. I went a little over time, but with only 3 hours sleep I’m happy I was able to ;).
At 127 slides, it’s not short of information (though there is often one key message per slide). I was meant to talk for about 20 minutes, so I know I haven’t gone into the level of detail I would have liked to, particularly with regards to developing an investment thesis- which is super important, no one explains and is really complicated. And… I wrote this in about 8 hours the day before, so go easy on me!
As one angel said to me over drinks “The presentation is quite dense with information. There is a lot to process.” Yup. There is a lot of information in here to think about. You aren’t going to just get it with one read. The points I make are going to be things you are going to have to think about and decide how to apply in your own decision making process.
Rather than trying to teach you how to invest, I’m trying to help you to think about what is important so you learn to think about risk factors when evaluating whether a deal is a good calculated risk. For those more au fait with investing, some of it may seem obvious, but the basics are what really matter and we so often overlook.
Investing is really hard, but if you know what you are looking for, you can triage deals effectively to figure out what is a bad deal. It’s just hard to know what will work as often it’s the crazy ideas that make it big (Snapchat and Twitter anyone?). It’s that upside which you should be focusing on once you underside the risk factors.
I spend some talking about startup failure at the beginning and that may sound peculiar. Learning from failure is so incredibly instructive. Over 90% of startups fail, so you need to understand why they fail and then why they succeed (largely the team). There are a lot of deals which just don’t have sound business models and the unit economics will never work, but that might not be evident prima facie. You can learn to filter them out with practice and a commitment to understand business models, something I am still learning.
One of the best ways to understand the details of failure, beyond the headlines, is to read fail blogs. These are blogs written by brave founders who lament about how they messed up. Autopsy.io has compiled a fantastic list of these fail blogs. I recommend you invest a weekend (or two) parsing them.
Investing at angel stage is the absolute hardest given the lack of information. If you are investing at say series-B, sure, it’s hard too, as you need to have specialty analysis skills and databases to benchmark and evaluate if you can generate suitable returns, but you have information (Hopefully not analysis paralysis though). You don’t at angel. I attempt to explain the importance of what is known and what is unknown. There are known knowns and unknown unknowns, and a matrix in between. What is known comes from the traction startups present to you, but also what you can ascertain from your experience and research. The unknown part is something you need to define as they are your key risk factors, at this stage of the thesis you are proving for. Startups are fundamentally a series of thesis to solve for as they process to each progressive stage.
As an angel you need to ascertain what is known (the traction they have given you to date) and what is unknown (can this scale, will CAC/LTV work, do they really have PMF, can the team really hire, etc.). You then need to weigh these to decide if this is a positive calculated risk. The only control you will ever have is deciding to invest or not, so invest with conviction and an investment thesis.
I didn’t talk about this in the deck, but portfolio construction is important. Angels need to invest in 20 companies in order to generate returns given the high rate of failure. You also need to try your best to do your pro-rata (double down) on the startups that seem to be doing well. This is where your returns happen. In fact it’s central to the 500startups investment thesis. Given this fact you need to allocate a defined amount of your disposable wealth to angel investing. Divide that by say 30, so that 66% goes to first round and 33% to follow on. VCs typically reserve 50% for first investments and 50% to follow on.
Another point I briefly mentioned live, but not that in the deck is secondaries, or selling out early. I have angel friends who totally sell out early. Over time your partner “Won’t let you invest anymore!” to quote one angel in London. Your capital is committed. Exiting early let’s you start investing again. If something is working it often makes sense to keep holding on (Not HODL ;)) but if you book enough of a multiple and the fun bit is writing checks, then cashing out can make sense to you.
I won’t keep writing now. Have a read of the slides. If you have any questions, please reach out and I’m happy to discuss them with you.
A lot of slides in the deck refer to blogs I have written or in some cases third party blogs. Below I will give you links so you can read up on particular topics of interest.
Download the presentation in PDF
Reading list companion for angel investing
- Venture Capital Funnel Shows Odds Of Becoming A Unicorn Are About 1%
- Why I Stopped Angel Investing (And You Should Never Start)
- The Top 20 Reasons Startups Fail
- Startup Genome Report Extra on Premature Scaling
- Fail blog collection
- 287 Startup Failure Post-Mortems
- Private Airbnb email on how a VC missed out on a unicorn
- Uber Isn’t Worth $17 Billion
- Shrinking a market and owning it
- Best presentation you can read on defensibility (Economics moats)
- My very long read on business models and strategy
- Your solution is not my business problem
- Timing: The single biggest reason why startups succeed
- The real reason founders are not funded VCs don’t say in a pitch process
- The three key things you need to know to build a great startup
- Passion is over-rated. Build a better mousetrap instead
- Investment Thesis Collection from Venture Capital Firms
- How do you validate a startup idea?
- How to forecast a startup to exit (free tool)
- Why I want a pitch deck before a pitch in a fundraising process
- Key convertible note terms that no one understands and cost you big
- Seed round convertible, priced and SAFEs. What venture capital terms are standard?
Angel guide to startup investing presentation
Download the presentation in PDF