I’ve heard it said that it costs a quarter of a million dollars to learn to become a good angel investor and the number is shocking, but can make sense for people who decide to take their MBA “wisdom” and go it alone in figuring out this unusual market.
At the end of this post I’ll share ways that investors can speed up their learning and put far less capital at risk, while increasing their odds for high returns over a portfolio of angel investments.
Why $250K? The average angel investor writes checks of about $25,000 and it takes at least ten (some say thirty) investments to truly get the hang of it. Worse, it takes five to seven years to learn whether those bets really paid off or not.
Venture capital and, by association, angel investing, works under different rules than MBA economics. I call these rules “Venturenomics.” Unlike MBA economics that looks for positive cash flow and profitability, venturenomics has a different type of value creation. In fact, too much free cash flow can actually be a bad thing in the world of venturenomics. Venture capital counts on strategic value creation typically leading to a sale of the business or IPO. These exits value the company based less on cash flow, and more on strategic value that can be leveraged by the acquiring company. A company that buys another company does so because, even though it may be paying four or five times top line revenues, it feels that it can take the assets of the company it acquires and grow them tenfold, a hundredfold or even more.
Naïve new investors often push startups to cash flow positive too early, and end up leaving money on the table. Think about it this way – if one dollar of free cash flow could have been reinvested into marketing, that could result in additional revenues of $5.00. Now, since acquisitions are often priced at some multiple of top line revenues, and 5X revenues is not an unreasonable multiple, that extra $5.00 would be worth $25.00 at exit. So, when I see a company that has left $1 million of free cash flow unallocated, or sent back to shareholders via dividends, what I see is a $25 million lost opportunity. Value creation in VC comes from building value for acquirers, and not just from cash flow.
There are many other differences in how venturenomics works, and rather than taking five or ten years and spending as much as $250,000 to find out what they are, smart new angel investors will join an angel group, preferably one that is a member of the Angel Capital Association. The ACA has classes, webinars and workshops that teach the fundamentals of angel investing including valuation, term sheets, board service, exit strategies and more.
The Rockies Venture Club is a great way to engage with over 200 like-minded angel investors with a wide variety of experience and sector expertise that they bring to the table. Investing along side others who are experienced and have already been through the learning curve is a great way to make greater returns as an investor and avoid the pitfalls of having to learn it all on your own. Groups like RVC have bargaining power that lets them structure deals for 100% capital gains tax free investments – meaning that investors pocket over 22% more than on their other investments!
Rockies Venture Club also uses a Single Purpose Vehicle investment model which means that individual investors can invest much less on each deal than they would have to if they invested as an individual. This lets angels spread out their portfolio among more companies, thus reducing risk and increasing opportunity.
Consider participating in Rockies Venture Club. You can find out more at www.rockiesventureclub.org
If you’re interested in becoming an accredited investor member, please don’t hesitate to attend one of our monthly Angel Investing Demystified webinars, and/or schedule a call with us to get all your questions answered!