Investing in Early Stage Venture Capital

Talk from Founders + Funders in NYC on November 8th by Erica Duignan, Founder at 1000 Angels

Transcript

1. 1ST SESSION: THE BASICS ANGEL INVESTING 101: Getting Started Intro to Startup Investing Masterclass FOR DISCUSSION PURPOSES ONLY
2. COACH Erica Duignan Minnihan Investing in Seed and Series A for 13 years. Executove Director of Golden Seeds, Managing Director at Dreamit Ventures, Founder of 1000 Angels and Reign Ventures. MBA from Columbia Business School and a BS from UCLA. Co-Founder & Managing Partner at 1000 Angels FOR DISCUSSION PURPOSES ONLY
3. Table of Contents What is Venture Investing? Risks & Rewards of Venture Investing The Portfolio Approach Investable Deals The Investment Process FOR DISCUSSION PURPOSES ONLY
4. What is Venture Investing? Risks & Rewards FOR DISCUSSION PURPOSES ONLY
5. Definition of an Angel Investor FOR DISCUSSION PURPOSES ONLY Angel Investor: An individual who makes a direct investment of personal funds into a venture; typically an early-stage businesses. Because the capital is being invested at a risky time in a business venture, the angel must be capable of taking a loss of the entire investment, and, as such, most angel investors are high-net worth individuals. These individuals are nearly always “accredited investors” as defined under the Securities Act of 1933. Note: 1000Angels requires that members be accredited to make investments
6. Types of Early Stage Investors VC Firms CAPITAL RAISED DEAL TERMS Seed Funds Friends & Family Investment Clubs/ Angels FOR DISCUSSION PURPOSES ONLY $ $$$$ Preferred Equity Common Stock
7. Venture Investing Risks & Rewards FOR DISCUSSION PURPOSES ONLY
8. Why Start Venture Investing? FOR DISCUSSION PURPOSES ONLY Risks Potential Rewards High risk of total loss Lack of liquidity Above market returns Meet interesting people Have fun Learn a lot 5-10 years to Exit
9. Risk Profile of Various Asset Classes Risk Return on Investment FOR DISCUSSION PURPOSES ONLY Seed Stage Treasuries Corporate Bonds/MBS Public Equities Venture Investing Private Equity Commercial Real Estate Money Market Funds
10. How can you reduce risk? Diversification Co-investing Due diligence Engagement Good record keeping FOR DISCUSSION PURPOSES ONLY
11. Diversification • A single investment is a big gamble • With a minimum portfolio of 10-20 investments, statistics are on your side: 30-40% - total loss 30-40% - break even 20-30% - positive return FOR DISCUSSION PURPOSES ONLY Source: Returns to Angels in Groups published November 2007 by Robert Wiltbank, PhD & Warren Boeker PhD
12. Venture Investing The Portfolio Approach FOR DISCUSSION PURPOSES ONLY
13. What is the Portfolio Approach? The portfolio approach simply means allocating your investment capital among a larger number of investments, rather than investing large amounts into just a few companies FOR DISCUSSION PURPOSES ONLY © Golden Seeds 2013
14. Why the Portfolio Approach? The portfolio approach can help you increase your chances of above market returns in an asset class that is high risk. FOR DISCUSSION PURPOSES ONLY © Golden Seeds 2013 Each additional investment improves the overall risk/return profile of your portfolio of startup investments Because there is a large variance in the potential outcome of each investment
15. More investments offer better returns for the same/lower risk FOR DISCUSSION PURPOSES ONLY © Golden Seeds 2013
16. Three diversified portfolios FOR DISCUSSION PURPOSES ONLY
17. Multiples vs. IRR FOR DISCUSSION PURPOSES ONLY Years\Times 2X 3X 4X 5X 10X 15X 20X 1 100% 200% 300% 400% 900% 1400% 1900% 2 41% 73% 100% 124% 216% 287% 347% 3 26% 44% 59% 71% 115% 147% 171% 4 19% 32% 41% 50% 78% 97% 111% 5 15% 25% 32% 38% 58% 72% 82% 6 12% 20% 26% 31% 47% 57% 65% 7 10% 17% 22% 26% 39% 47% 53% 8 9% 15% 19% 22% 33% 40% 45% 9 8% 13% 17% 20% 29% 35% 39% 10 7% 12% 15% 17% 26% 31% 35%
18. Investable Deals FOR DISCUSSION PURPOSES ONLY
19. What are we looking for in an investment? • Strong management team • Strong Marketing Plan • CAC < CLTV/3 • Addressable market of $1bn+ FOR DISCUSSION PURPOSES ONLY
20. What are we looking for in an investment? • Scalable product and business model • Product in Market or Close to Market • Active Clients or Users • Barriers to Entry • Credible exit strategy FOR DISCUSSION PURPOSES ONLY
21. What are we looking for in an investment? • Capital Efficient Businesses • Attractive to Follow On Investors • Return Multiple 5-10X • IRR 35%+ • Diversification FOR DISCUSSION PURPOSES ONLY
22. The Investment Process Investment Process FOR DISCUSSION PURPOSES ONLY
23. The investment process begins when an entrepreneur requires capital • Start up • Growth • Liquidity • Acquisition FOR DISCUSSION PURPOSES ONLY
24. The entrepreneur can consider various sources of capital • Personal funds, friends and family • Grants: institutions, funds, non-profits • Loans: banks, SBA • Equity: Angel investors, Venture Capitalists, Private equity firms FOR DISCUSSION PURPOSES ONLY
25. Various investment rounds will be made during the life of a company FOR DISCUSSION PURPOSES ONLY PreSeed INVESTMENT PHASE Seed Series A or B Series C or D Public MKT Common Founder’s Stock INVESTMENT TYPE SAFE KISS Convertible Note Preferred Equity Preferred, Mezzanine Debt Publicly Traded Stock Founders Friends Family INVESTORS Angels Seed Funds Venture Capital Private Equity Investment Banks Investment managers
26. There are seven key steps in the process FOR DISCUSSION PURPOSES ONLY Screening Due Diligence Structuring the deal Term Sheet Closing Monitoring Investment Exit
27. Step 1 – Sourcing & Screening FOR DISCUSSION PURPOSES ONLY Screening Due Diligence Structurin g the deal Term Sheet Closing Monitoring Investment Exit
28. Step 1 – Sourcing & Screening • Events, Meetings, Phone Calls, Member Referrals • Accelerators and Incubators • Relationships with Seed and Series A VCs • 1000 Angels Applications (over 600/year) • Review of applications to determine participation in Monthly Screenings (10-12 companies) • Due Diligence Process • Selection of 2-3 companies to be featured as investment opportunities each month FOR DISCUSSION PURPOSES ONLY
29. Step 2 – Due Diligence FOR DISCUSSION PURPOSES ONLY Screening Due Diligence Structurin g the deal Term Sheet Closing Monitoring Investment Exit
30. The due diligence process is intended to mitigate risk Business Risk FOR DISCUSSION PURPOSES ONLY Market Product Sales & Financials Marketing Management Team People Risk Legal Risk Employment Contracts Business Contracts Intellectual Property
31. Efficiency is key in the Diligence Process • Don’t want to waste the company’s time • Don’t want to waste our time • Focus on the biggest areas of concern first • Communicate regularly with the team • Streamlined communications FOR DISCUSSION PURPOSES ONLY
32. Primary Diligence Materials • Investor Deck • Financial model • Marketing Plan • Historical Financials • Capitalization Table FOR DISCUSSION PURPOSES ONLY
33. Additional Diligence Items • Client List & Sales Pipeline Report • Material Contracts • Management Reference Checks • Customer Reference Checks • Intellectual Property FOR DISCUSSION PURPOSES ONLY
34. • Business model – does it makes sense? Can it make money? Is it scalable? • Market Opportunity – has the company made good assumptions? Is it really a billion dollar opportunity? • Customers – does the company have a reasonable customer acquisition plan? Is CAC<CTLV? What is the sales cycle? • Financials – Does the financial model make sense? Are the assumptions and outcomes reasonable? Is the plan scalable? • Competition – What do we think about the company’s value proposition versus competitors? • Management Team – Reference checks and background Complete independent research FOR DISCUSSION PURPOSES ONLY
35. Step 3: Structuring the deal FOR DISCUSSION PURPOSES ONLY Screening Due Diligence Structurin g the deal Term Sheet Closing Monitoring Investment Exit
36. • It’s always a negotiation • Capitalization table • What’s the right number? • Valuation Methodology • Meeting the entrepreneur’s needs Determining Valuation: An Art & A Science FOR DISCUSSION PURPOSES ONLY
37. Valuation methods differ by investor type, stage of investment and availability of capital FOR DISCUSSION PURPOSES ONLY Seed Series A Growth Private Equity Public Market • Rule of Thirds • Deferred • Berkus Method • Benchmarks • VC Method • Multiples • % equity • control • Multiples • DCF/NPV • Assets • Multiples • DCF/NPV • Assets • P/E ratio Underlying math: discounted future cash flows All of the above fluctuate depending on market cycles and availability of capital
38. Pre-money v. Post money valuation FOR DISCUSSION PURPOSES ONLY 3. Pre-money Valuation = $3m 1. New money $1m = 25% ownership of the company 2. Implies a Post-money Valuation = $4m
39. Pre-Seed Stage (common) FOR DISCUSSION PURPOSES ONLY Management Rule of Thirds • Amount raised dictated by immediate cash needs • Valuation determined by percentage entrepreneur is comfortable giving up • Minimal analysis Founders Investors
40. • Benchmarks: Utilizing recent valuation metrics for similar companies. • Berkus Method: The valuation determined by allocating up to $500,000 to five categories - a sound idea, the prototype, quality of the management team, strategic relationships and product rollout or sales. Implies a maximum valuation of $2.5 million. • Deferred: Using Convertible Notes to defer the valuation until a priced (typically a Series A) round. Typically will have a valuation cap. Seed round – possible valuation methods FOR DISCUSSION PURPOSES ONLY
41. • Terminal Value sale of company estimated based on multiple of sales or EBITDA • Total Amount of equity capital to be invested in subsequent rounds estimated • IRR calculated based upon number of years to exit (typically 5 years of projections) Venture Capital Method FOR DISCUSSION PURPOSES ONLY
42. Valuations Guideline FOR DISCUSSION PURPOSES ONLY Pre-Revenue $20-100K MRR $100K+ MRR $3MM+ ARR $10MM+ ARR
43. Step 3: Structuring the deal FOR DISCUSSION PURPOSES ONLY Screening Due Diligence Structurin g the deal Term Sheet Closing Monitoring Investment Exit
44. Common Seed Stage Security • Loan that converts into next priced round of equity • Typically has a valuation cap • Discount to next round, or warrants • Events triggering conversion • Allows you to defer valuation issues FOR DISCUSSION PURPOSES ONLY Convertible Note/ SAFE Technically Debt
45. Common Seed Stage Security • Preferred – you will receive return of capital and dividends prior to any distribution to holders of common shares. • Participating – After the preferred distribution, you share in the proceeds with common on an “as-converted “ basis • Liquidation Preference – You receive X times your capital before distributions are made to common shareholders FOR DISCUSSION PURPOSES ONLY Participating Preferred Equity
46. Want more? 1000Angels.com Questions? FOR DISCUSSION PURPOSES ONLY