The Silicon Valley Investors Club is excited to have Dan Hightower join us for a talk about How to invest in startups with angel syndicates. Dan is two time venture-backed founder and Angel investor. You can find more of his writing at Product Market Misfits & on twitter: @danhightowerjr.
If Jeff Bezos can turn a $250,000 angel investment into $1.5B, then maybe you can do the same thing, just on a smaller scale, right?! The idea of investing in startups for huge returns is intriguing to say the least. But it’s not all sunshine!
Every investor has a theory when it comes to successfully investing in startups. But, even the best venture capital firms in the world invest in complete disasters all the time, and they also mistakenly pass on some seriously successful ones.
And it’s even less straightforward for me, a solo angel investor in 18 startups. I started my journey by founding a few startups and raising around $7M along the way. One of those startups worked out, so I have the financial breathing room and startup experience needed to angel invest.
Still, not coming from a ton of money, I don’t have the luxury of blindly writing checks. Rather, I had to diligently learn about angel investing as an investment class. Here are some questions I can help you answer:
In this post we will cover the following topics:
- Is angel investing right for me?
- Why should I start now?
- How to start: angel syndicates
- How to pick a syndicate and do your first deal
Is Angel Investing Right For Me?
As glamorous as angel investing sounds, and while it’s true that some people do it for the notoriety, you can’t get around the fact that investing is about returns.
Some public data exists on expected returns for angel investors (TLDR: ~3.5-6x total return). Other sources cite a 17-38% IRR. Anyone would be thrilled with those returns, but then there are the dismal reports that startup mortality rates are 70-80%.
So, if you’re going to turn $1 into $10 through angel investing, you’re going to have to decide if you’re comfortable with the very real risk that your $1 could magically disappear.
Additionally, there are timescales to consider. Startup investments are less liquid than stocks for example. You’ll need to be able to hold these investments for years before seeing returns. (I used to think the illiquidity of investing in private companies was a bad thing. Now I realize the illiquidity is sorta nice. By default, you become a long-term investor!)
That’s a lot of uncertainty to stomach, but there are a few silver linings:
- It works as a power law – A 70-80% mortality basically means 2 in 10 startups will survive to potentially generate a return. But, hitting one winner can return a lot, to compensate for losses. If you get into angel investing, building a portfolio is key to de-risking, and can significantly increase your chances of hitting your power law.
- Small checks are okay – To help you build a portfolio, don’t feel compelled to write large checks if you don’t have the dry powder. Sub-five-figure amounts across several investments are fine- as little as $1,000 can work.
- It is so much fun – If you invest early into a team that develops a real business, it’s incredibly rewarding to be a part of that journey even if you’re a small investor. The best investors find ways of adding value beyond the money, and you might provide an insight that unblocks a team all the way to unicorn status.
The current lack of angel investing return data also means that in 10 years, as more data surfaces and paints a clearer picture, it might become obvious that you missed out, forced to relive that time you almost bought 10 bitcoin at $200/btc.
So, if you have the financial means and you feel like the uncertainty is worth the potential reward, then angel investing should absolutely be a small part of your portfolio, right alongside real estate and your 401(k).
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Why Start Angel Investing Now?
Now you’ve bought in, and you’re ready to back the next Google! You’ve got great timing!
Historically, it has been very tough to invest in startups even if you wanted to. Before, you would need hundreds of thousands—if not millions—in capital. You would need access to the right deals. You would need experience evaluating those deals. But that’s all changing thanks to a few paradigm shifts:
It’s now more likely that you’re an accredited investor:
Modernization of the rules governing who is allowed to invest in private markets has led to an explosion in the number of accredited investors available to private companies. Now, you can invest in startups if you check any ONE of the boxes below:
- Make >$200k in annual income or $300k with your spouse
- Hold a Series 7, Series 65, or Series 82 license (I tweeted a guide to getting your Series 65)
- Work at a private equity firm of some kind, aka a “knowledgeable employee”.
- $1M in net worth
There are fewer barriers to entry for you thanks to tech:
We’ve come a long way from the days when it was hard to view your 401k online and E*trade could get away with charging $12.99 per trade. We have leveraged technology to significantly streamline angel investing.
For example, AngelList’s Syndicate platform (see deep dive below), makes angel investing as easy as buying socks on Amazon. There are plenty of other syndicate groups, so AngelList isn’t the only way to angel invest- it just might be the easiest.
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How To Start with Angel Syndicates
An angel syndicate is a private group of accredited investors (~150 active people), led by a syndicate leader, a very experienced investor responsible for finding great startups that are raising money and bringing them to the group.
Angel syndicates are the most accessible & flexible gateway to the private market. They are all about unlocking deals for the “average accredited” investor, whereas traditional VC funds have been more of an exclusive club with each of the VC’s backers typically investing tens of millions into a single VC fund.
Angel Syndicate Overview
With angel syndicates, you can invest as little as $1,000 in amazing startups you wouldn’t have found on your own.
The members of the syndicate collectively invest in the startups that the syndicate lead finds. That investment is made through a Special Purpose Vehicle (SPV), which is just a legal entity created to make a single investment in a single startup.
An angel syndicate’s average total check size into one SPV is $100-350K, which means each of the ~150 investors like you help come up with that $100-350k. The required minimum investment for you will range, but it’s usually around $1,000-$2,500 – some are as high as $10k.
You can pick & choose which deals you want to invest in. Don’t like a particular company that the syndicate is raising money for? Then don’t invest! Save that money for the next one!
This optionality is groundbreaking and fundamentally different than investing in a VC fund, where you rarely get a say in which startups the VC’s management team picks.
Related Article: SVIC’s Guide to Search Funds
How To Pick a Syndicate & Do Your First Deal
To browse syndicates, I recommend that you start your search on AngelList (a different platform, Republic, is coming up pretty fast too). AngelList has over 200 active syndicate leads to pick from, and the platform as a whole has invested $2B into startups… with a B, which is way more than Sequoia’s latest fund.
When you pick a syndicate, you’re really picking the syndicate leader. Syndicate leaders perform two very important functions:
#1 Find Deals-
Good syndicate leaders have deeply connected and their deal flow reflects that. You will see extremely high quality deals from the best syndicate leaders. But if they can’t find deals, then the syndicate members will leave for another syndicate. Beyond the resume check, you will want to experience their deal flow over time. Where do they tend to source deals from? For example, do they just recommend their buddies’ startups to the syndicate? (that’s bad)
#2 Help You Evaluate Deals-
Beyond sourcing deals, syndicate leaders help analyze the deal for the group and present the case for why the group should invest in this startup. More on this analysis later, but your syndicate lead should do a lot of the heavy lifting for you because it’s highly unlikely that you will have direct access to the founders or the full data room to do your own analysis.
It would be too much of a burden on the founders to have to connect with all 150 syndicate members. To help solve for this, sometimes syndicate leaders will record a Zoom FAQ with the founder(s) for you. But, if all they’re doing is just forwarding pitch decks, that’s no good.
Once you’ve found a syndicate you like, you’ll need to apply. You can be a part of more than one syndicate (no cap to how many you can join), so apply to multiple syndicates to diversify your deal flow. After you’ve been accepted into a syndicate, you will be able to see all of the available deals. If you don’t like anything you see, you can just wait.
After being accepted, you’ll get an email that will look like this (scrubbed for confidentiality):
When you click “View Deal and Invest”, you’ll see the Investment Memo. This is the moment you’ve been waiting for: doing your first deal!
Doing Your First Deal
The deals that good syndicate leads put forward are highly curated and usually of phenomenal quality. Which is awesome, but it also creates a big problem for the solo angel investor who has to pick and choose carefully! At the end of the day, liking a startup and investing are two different things. And you’ll need a framework that you use to decide which ones you invest in.
For me, this is still a work in progress, but here’s how I approach it:
Digest the Info
I always start by reading the Investment Memo, which provides key information on the startup.
Memos are highly confidential overviews of the startups and the investment opportunity. If you’d like to read one for yourself, Bessemer Ventures posts all of their memos online (shopify, pinterest, linkedin, & more), and they’re all amazing reads! Also Sequoia’s investment memo for Youtube leaked a while ago as part of a lawsuit, and you can read it on page 16 of the document here.
In the memo, you should see a brief overview (30 second read): covering the big hairy problem, vision statement, how it works, the syndicate lead’s personal reasons for why they like the startup, and a historical timeline of the startup (like maybe they were a YC company, or who their other VC investors are). You might also get company highlights/stats on the company like historical user growth/revenue growth, cash on hand, etc. Beyond the brief overview, you should expect to see deeper dive paragraphs into problem statements, product, traction, business model & competition, and team overview.
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Ask Three Big Questions:
When I’m finished reading, I use a simple framework for picking the startups I invest in:
- Can I see a clear path to $1B in annual revenue?
- Could I help this startup in some material way?
- Will this startup help further humanity?
If Not, I Pass Immediately:
If any of the above answers are no, I’ll pass.
Also, if I have too many unanswered questions after reading through the material, I will also pass on the opportunity because this is usually all the info that you will be given as a solo angel investor. Keep in mind that from an etiquette perspective, check size correlates with ability to ask questions. If you’re putting $1,000 into a startup that’s raising $1M, don’t expect to be able to ask more of the syndicate leader. But if you’re putting in $50k, then you might even ask for full due diligence materials.
If it Passes the Test, I Dig Deeper:
At this point, I’m usually pretty excited! So, I just want to check a few more boxes before I make a decision. Those boxes are 1) demand and 2) competition.
If I know a potential customer that would seem to be a good fit, I’ll call them and run a “hypothetical business idea” by them (to maintain confidentiality). If they seem interested, that’s huge. If they mention a competitor or two, I’ll shift gears to a competitive analysis.
If I’m Still Excited, I Invest:
I’m 100% investing if I feel like there is demand and a defensible competitive advantage after my analysis!
The specific amount to invest is a personal preference and a bit complicated. But my range is anywhere from $1,000 to $25,000. I hope to cover this in depth in a future post.
Oh, also, these deals move fast. I’ve seen some close in as few as 4 days.
After making the investment, don’t expect too many investor updates. I try to see if I can get on the email distribution list for the monthly updates, or I just follow my new investment on social media. Every once in a while, your syndicate lead will send out updates!
Instead of asking for investor updates, the better use of your time is to help your new investment. Remember the 2nd qualifying question, “could I help this startup in some material way?” This is a great time to start helping: look at their hiring page, intro a customer, share their social media posts. Then, start looking for your next deal!
For now, that’s a wrap!
- Share this article, if you enjoyed it!
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- Follow the author, @danhightowerjr, on Twitter for more on startups and angel investing.
- Subscribe to Dan’s newsletter and podcast to hear startup founder interviews.
The content here is for informational purposes only, and should not be taken as investment advice. All views contained herein are my own and do not represent the views of any other organization.
Silicon Valley Investors Club (SVIC) is a global community of STEM professionals interested in making smarter investment and career decisions.
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