In May, I commenced a four-and-a-half week tour of the USA to research angel groups and develop relationships to benefit Australian angel investors and their portfolio companies.
Angel investing has been with us for as long as successful business people have been using their own funds and expertise to foster growth in other businesses. The term was originally coined two centuries back in England to describe wealthy individuals who funded theatrical productions. In the last few decades it has come to mean private individuals investing their own money and time in growth businesses.
Many people could be considered angels even though they may not be aware of the term or the more formal organisation of the space that has evolved in recent years. Since the dot-com bubble there has been a strong swing towards angel groups – a collection of angels who review, evaluate, invest and exit deals together. Angel groups are now recognised as best practice due to the broader and deeper resources, experience, expertise and networks of a group over an individual. It is often said that a core benefit of a group is that it prevents individuals from making bad investments; another version of the common wisdom that there is safety in numbers.
Even in groups, angels are a collection of individuals investing their own money, which means that each group develops its own, idiosyncratic approach to the angel process of deal generation, screening, evaluation, terms sheet, due diligence, investment, portfolio management and exit. This diversity is an important strength of the angel movement because it promotes a wide range of interests and approaches that, in turn, accommodate the multitude of industries, markets and business models pursued by entrepreneurs.
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With all of this burgeoning activity around the world, who are the angels and why are they important?
Available data on investment metrics illustrates why angels are important. The most recent, authoritative study in the USA concluded that angels invest US$25b per annum. For comparison, PricewaterhouseCoopers’ Money Tree report estimates that venture capitalists (VC) in the USA in 2007 invested US$30.5b. The VC invested an average of US$7.8m in each deal while the angels invested an average of US$500,000 per deal for an average return of 2.6 times their investment in 3.5 years, or approximately 27 percent Internal Rate of Return (IRR).
Those numbers imply that angels invested in 50,000 companies, compared with fewer than 4,000 companies for VC. This order of magnitude difference emphasises the broader economic impact of angel investing and highlights that the two categories of investors are not a lockstep continuum. If every angel deal depended on subsequent VC investment then angels would be throwing away most of their money. That is not the case. Many angel deals do go on to access VC investments but, many others find alternate paths to market and exit.
Below is a generic view of the early-stage private equity market in Australia. As an illustration of a complex system, the diagram cannot describe every variation within this diverse and dynamic market.
So who are the angels?
They tend to be business people who have enjoyed success, frequently entrepreneurs, and have a passion to help grow new businesses. Typically, they are financially secure rather than the wealthy and the most valuable part of their investing is the application of their time, skills, experience and networks to actively guide and assist the entrepreneurs in whom they invest. Thus it is only natural for there to be significant diversity in the character and interests of angels and angel groups.
My tour of angel groups in the USA commenced with the Angel Capital Association (ACA) National Summit in San Diego. The Summit was attended by 365 angel group leaders and investors from North America, Australia, New Zealand, Chile and Europe. The groups in attendance represented nearly 7,000 individual angel investors. The ACA is a professional alliance of around 265 of the angel organisations in North America to share best practices, network and develop data about the field of angel investing.
At the Summit I and other Board members of the Australian Association of Angel Investors (AAAI) met with the ACA executive, the executive of the European Business Angels Network (EBAN), the leaders of many of the angel groups in North America and some from Europe and South America. These discussions led to a mutual commitment for ACA and AAAI to work more closely together and to collaborate on the development of angel education and investment data.
In the ensuing weeks I was welcomed to group meetings by over 15 angel groups and had conversations with more than a dozen other angel groups and angel funds. An interesting feature of their angel landscape is the use of Side Car funds and Angel Funds. I distinguish between the two by describing a Side Car fund as a pooling of funds from members of an angel group. The fund typically co-invests with group deals according to a formula that details how many members and how much money must be committed to trigger a co-investment, as well as characterising the matching ratio and investment cap. The fund is usually managed by volunteer group members. An Angel Fund is a pooling of funds from Angels and frequently from external investors, sometimes only from external investors. The fund makes angel stage/style investments with the decisions and administration of the fund being undertaken by appointed fund managers. So Side Car fund investments are member-led while Angel Fund investments tend to be co-investments with members of the sponsoring angel group (but that is not a strict requirement in every case).
In discussing angel activities with established angel groups around the country, several common aspects became evident:
- Working size for a group is in the 80-100 range. A few groups exist as stable groups with a smaller membership. Some groups with larger membership cap their size and have waiting lists. A few groups are so large that they break in to smaller chapters, each of which typically has around 100 members (e.g. TechCoast Angels).
- Most groups have at least a part-time paid manager for administrative support. In some cases that includes promotion and coordination of deal flow but, in the majority of cases, deal flow is handled by member volunteers.
- Most groups meet at least twice a month and many meet four times a month. Each meeting follows the life-cycle of a deal, i.e. the first meeting in the sequence is a screening meeting, the second is a pitch meeting, the third is a due diligence meeting and the fourth is an investment and portfolio management meeting.
- In the concentrated centres of Southern California, Silicon Valley, Boston and New York, large groups can follow their entire portfolio life-cycle locally – deal flow, due diligence, company growth and exit.
- Outside those exceptional locales angel groups typically co-invest with each other and with early stage VCs. Syndication of deals is a natural development that has more to do with market access (quality deal flow, evaluation resources, due diligence resources, growth markets and exit opportunities) than financial capacity.
- Most USA angel groups are quite prepared to invest in Australian entrepreneurs but, only when operating a USA company. Most USA angels admitted they are most likely to invest in an Australian opportunity introduced to them by their peers and friends in the Australian angel community.
- Most angel groups in the USA are less than four years old and around a third are less than two years old. This is consistent with the Australian situation.
- Europeans have been organising their “business angels” far longer than the USA, or Australia but, the fragmented nature of the market and strong government backing of that organising activity has meant slower pan-European development than has occurred in the free market environment of the USA.
- Many states in the USA, like countries in Europe, offer significant tax incentives for angel investors and the formation of angel groups.
- Many states in the USA have started to emulate the successes of England, Scotland, New Zealand and others with government-backed angel co-investment funds. The Australian federal and state governments have been slow to join this trend, which delivers significant injections of capital into the ‘innovation economy’ with a much higher degree of success and broader reach of benefits than similar efforts in the VC space.
My tour made it clear that the AAAI is recognised as a peer by its counterparts in the USA and Europe, that Australian angel groups are comparable to their international cousins and that there is a genuine appetite in the USA to invest in Australian entrepreneurial ventures referred by Australian angels.
Jordan Green is an experienced serial entrepreneur, venture capitalist and angel investor. He is a founding director of the AAAI, the founder of Melbourne Angels and an adviser and mentor to entrepreneurs, angels and other investors. For information about angel investing, or to find an angel group in your area contact Jordan at [email protected].
