Natural Entrepreneur: How to Fly with Angels

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How to Fly with Angels

Investment criteria that angel investors look for

by Arlon Chaffee, eCoast Angels Network, Portsmouth, NH

Angel investors are private investors who typically fund early stage ventures seeking to move the business from prototype to product or from initial product introduction into the marketplace. For entrepreneurs and businesses at this stage and in need of funding, the question becomes, how do you get the attention of these investors?

Angels are, by nature, a disparate lot. They’ve made their fortune (or fortunes) by plying their expertise, often in a specific area (telecommunications, healthcare, etc.) or discipline (engineering, marketing, etc.) Some prefer to stick within their areas of expertise. Others are willing to venture into new areas, provided they see a significant market opportunity and a strong team. When approaching an angel investor, it is important to understand their experience, past investments, and what piques their interest.

An individual angel typically invests between $50,000 and $250,000 in a company. In recent years, angel investors have joined together into networks that may co-invest in a particular company. Co-investment, or syndication, enables investors to participate in larger deals they might not otherwise be able to justify or afford. Such investment structures distribute the risk among each of the investors within the network. These investors also benefit from the combined experience of their partners, and so can you. Whether operating as an individual or with co-investors, angel investors may expect the company to stand on its own with their initial funding, or more typically, may anticipate the company will seek additional investments within a few years, perhaps from venture capitalists, to take the business to the next level(s).

Getting one angel’s attention is difficult enough but, with the phenomenon of angel networks formation, the process can take on the characteristics of herding squirrels! So, how do you get the attention of these investors? There are several common areas that you’ll want to cover in your Executive Summary or Business Plan – I’ve outlined these below – and, while it is not absolutely necessary that you score a 10 on each one, you’ll want to make sure you have a plausible reason as for why not.

From the perspective of an Angel investor, an ideal equity investment opportunity would have the following characteristics:

An Experienced Core Management Team: (not necessarily a complete team) with relevant success in developing similar technology, starting up new businesses, and penetrating similar markets.

Often the management team is the most important consideration in a prospective investment. While market conditions can change rapidly and perhaps unexpectedly, having the right people at the helm who can respond and change as necessary is key. The people in charge are a lot more real than the business plan and the paper (or disk) it is written on.

Angel investors do not necessarily require that the key players be “on board” and fully engaged before making an investment commitment. However, once funding is secured, the management team must be prepared to match the commitment with a full-time effort. In addition, it is not unusual for the team to include advisors who participate at more arms-length, but add credibility and strategic perspective.

A Significant Market Opportunity: A market opportunity sufficiently large to create a business with revenues that exceed your investors’ dollar and timeframe targets.

Most entrepreneurs who set out to write a business plan understand the importance of defining the size of the market opportunity, the timeline for growing the business, and the potential for return on investment. A key to attracting the angel investor is defining a market size that is realistic.

A typical mistake is to grab global market sizes (ex: “this is a five billion dollar market”) and claim potential to capture just a small percent (“and with just 1% market share we will be a $50 million business in 3 years.”) While the entrepreneur may believe this claim, the investor needs to see a market opportunity that is more specific and meaningful. Define a narrow market where you can capture a leading market share, yet is sufficiently large to sustain the anticipated business growth.

(A consequence of your market analysis may be you find you have a very good business opportunity, but not one that meets the growth potential favored by some investors, and might be advised to seek funding alternatives, such as an SBA guaranteed loan).

Having one or more paying customers— now— is the best testament to the realism of your claims; second best is having non-paying customers (i.e. beta testers). At a minimum, try to line up one or more interested customer prospects that can act as reference accounts on your behalf and validate the market.

A Thorough Understanding of the Dynamics of the Marketplace: Exciting, unique products or services that meet important customer needs, obsolescing existing alternatives.

No doubt you’ve heard the old adage about “building a better mousetrap”. To attract angel funding, it is important that the new product be more than an incremental improvement over what is already available on the market. Demonstrate that you have a different way of looking at a critical customer problem, and that your unique solution replaces available products or processes and ultimately helps the customer save money and/or gain their own competitive advantages. Depending on your solution, it may be necessary to show how customers can easily migrate to your product or service, and your compatibility with existing (perhaps competitive) solutions.

A Convincing Business Plan: A compelling, well-articulated strategy for capturing and defending a significant market share, including key execution milestones.

Specifically, what are you going to achieve? How? And when? In addition to financial projections, the plan needs a marketing and sales strategy that describes the profile of your target customers, how you plan to reach them, and specific prospective customers who may already be in your pipeline. Similarly, every market strategy should include strategic partnerships, alliances, and other business development efforts.

An Unfair Competitive Advantage: A thorough understanding of the competitive landscape and a sustainable, overwhelming competitive advantage.

Research the other products and services that presently address your market, citing competitors’ web sites, analyst reports, industry articles, etc. Be honest in how your solution stacks up against the competition. If you have any market information that suggests future product releases from the competition, note it in the analysis. Risk is a real factor in every business, so it is better to be up front about your risks, and discuss how you plan to mitigate for them. The investor needs to be convinced that your business will beat out the competition.

Defensible Intellectual Property: Strong and defensible underlying intellectual property.

Your intellectual property can be protected through a combination of patents, copyrights and trademarks, trade secrets, and aggressive innovation. If you expect to have patents, it is not necessary to have them filed by the time you seek investor money. Bare in mind that in today’s world, a nimble, aggressive, creative research and development team will often do more to protect your market position and keep you ahead of your competitors than getting embroiled in court battles. If you are dependent on any 3rd party IP, this should also be clearly stated in the business plan.

Realistic, Achievable Financial Projections: Supported by a detailed list of underlying assumptions that stand up to typical investor cynicism.

Beware of the “hockey stick” financial projections (a sales graph shaped like a hockey stick showing exponential grown). Choose conservative, achievable milestones that you are confident you can meet. If your projections are too optimistic, an experienced investor will know better. And in the long run, you will be held accountable to the results. It is always better to meet or beat your projected sales revenues. Your business credibility can quickly be tarnished by actual sales numbers that fall short of optimistic projections.

Appropriate Capital Needs: Know your investors’ targets. Most individual angels are looking to invest $50K to $250K, while angel groups can syndicate one million dollars or more; all are looking to have their investment garner a significant equity stake in your company.

Anticipate your cash needs carefully— asking for too little money puts you at risk of prematurely running out of cash; asking for too much may erode investor confidence while you prematurely forfeit more equity than necessary. Successful entrepreneurs learn to manage what limited resources they have, running their operations “lean and mean”.

Believable Exit Strategy: Have a credible, multi-option exit strategy, achievable within your investors’ time window and capable of providing acceptable Return on Investment (ROI) multiples.

Angels do not invest in “lifestyle businesses”. Rather, they are looking to put money in only if they can see an exit strategy that provides for significant gains. While tolerances vary from one investor to the next, an exit window of 3 to 5 years (or more) and ROI multiples in the 5X to 10X range may be acceptable

Good Fit with Angels’ Mission, Skills and Interests: By definition, most angel investments are in early stage opportunities. Finding an angel whose interests and geographic targets match your business is important.

Doing your due diligence on the investors you hope to approach, as they will do on you, can save you time and energy. Visit each investor’s web site (if one is available), do a Google search on them, and speak with other companies they’ve invested in (including references the Angel provides, as well as some they did not).

Cooperative Relationship between Your Company and Angel Investors: You and your company must have the need and desire for advice and coaching, and be willing to work with the angels as they help to actively advance the company.

So there you have it, a snapshot of what it takes to “fly with the angels”. Does your plan cover all of these important points?

Arlon Chaffee is a founding member of eCoast Angels Network in Portsmouth, NH, and is a partner at Warren & Morris Ltd. (www.warrenmorrisltd.com) executive search for technology companies.

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