September 10, 2016 by Fred Haney
The Void Between Angel Investors and Venture Capitalists
Over the past 30 years or so, venture capital firm’s have become larger and larger and various angel groups have been formed, supposedly, to fill the void. But have they?
Having been on both sides of the table, as a venture capitalist, venture-capital fund manager and cofounder of Tech Coast Angels, One of the largest angel groups, I have experienced both sides. I see some important differences in the kinds of deals that angels do compared to deals the VCs are likely to do. It’s difficult to generalize, but if you look at the underlying structure of the two types of organizations, it’s easy to see why they might approach investments somewhat differently.
Venture capitalists manage risk by building portfolios of 30 or more investments in just one of their “funds.” They try to invest in “disruptive” companies that have an opportunity to achieve well in excess of $100 million per year in sales, or much more for some biotech companies. They are hoping that they will have a few “homeruns” to make up for a significant percentage of outright losses and marginal returns. They are in the business putting capital to work, so they generally expect to participate in several “rounds” of financing in their companies.
Most venture capital partnerships involve a small handful of decision-makers, so they can deal effectively with complex, high technology investments.
The angel groups, on the other hand, comprise a large number of individual investors. It often takes 20 or more angels to raise $500,000 or $1 million. It can be difficult to get 20 investors to agree on an investment, especially if the investment involves complicated science or technology. I believe that, for this reason, Angel groups lean toward simpler technologies and products than VCs.
Also, angel groups are not generally perceived as “deep pockets” investors as are some venture capital firms. Many angels prefer to invest in companies that will require little capital, so that they suffer minimal dilution.
For both of these reasons, there is not a large overlap between the type of investments that venture capitalist like to make and those preferred by Angel groups. Do venture capitalists invest in Angel groups’ deals at later rounds, thereby providing necessary expansion capital? Yes. Sometimes. But in my experience this is the exception rather than the rule. If venture capitalists really like a startup, they will probably do the deal on their own account or with another VC firm as “syndicate partner.”
For a well researched view of these issues, read “Fool’s Gold,” by Scott Shane.
What’s the Bottom Line?
If you’ve created a business proposition that will “attract” capital, explore all your options. Getting funding is usually a complicated and unpredictable process, so explore “friends and family,” angels, venture capitalists, corporate partners, and anyone else you can find. But be aware that the interests of these investors can be different, so you may need to package your company differently for each one. Business plans are not “one size fits all.”