The Art of Angeling

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The Art of Angeling
By W. Daniel MothersillPresident, National
Angel Organization
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Been There, Done That

• President and Founding Member, National Angel
  Organization
• Chair Founder, Ciris Group of Companies
• Chair Co-founder, Toronto Life Science Angels
• Chair Co-founder, Toronto Industrial Angels
• Founder, Entrepreneurial Bootcamps 80/2300/800
  million
• Coach-in-Residence Member, Toronto Angel Group
• CEO, Centre for Commercialization
• Selection Committee Member, Canadian Venture
  Forum
• Advisor, Banff Venture Forum
• Board Member, CEO Fusion Centre
• Serial Angel Entrepreneur six companies invested
• Advisor to Several Tech Life Science Companies
• Etc.

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What the Devil Is an Angel Investor?
Origins Mid-'20s term used for high-risk
backers of Broadway productions Today Princip
al seed financing engines for commercialization
in Canada
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Angel/VC Investment Landscape
VCs 2,876 Deals 21B
2004 Investment In North America
Angels 48,000 Deals 22-24B
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The Commercialization Constellation
Stage of Business
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The Commercialization Constellation
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Why Angel?

• Involvement in something exciting
• Influence the growth of enterprises
• Significant upside potential
• Balance portfolio
• Challenge/fun
• Most angels are repeat offenders

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Angel Characteristics

• Conservative
• Disciplined and really, really smart (at least
  some of the time)
• Founded and still operating, or sold their
  businesses
• (profitably)
• Former senior executives for major corporations
  with
• lots of options
• Motivated by challenge
• Driven to mentor
• Invest 2 billion in the Canadian economy annually

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Not All Angels Are Equal

• Some are sophisticated archangels - Terry
  Matthews (62 companies angeled)
• Some are looking to make their first deal and
  have no idea
• how to go about it
• Some have done a dozen deals
• Some dont even know they are angels
• Some have only a few hundred thousand to invest
  at any one time
• Some have several million
• Some will invest and act as president or CEO
• But most want to invest and mentor and are serial
  angels

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Investment Criteria Making the Right Deals

• Deal size ranges from 250K to 1.5 million
• Individual angel contribution 25K to 250K
• Rate of return 3X ROI (the days of 10 baggers are
  gone)
• There must be an exit within three-to-five years
• Usually invest within comfort zones
• Sectors all save for biotech
• Focus on tech, life sciences, advanced
  manufacturing, energy, alternative energy.
  Services sometimes considered.

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The Role Angels Played

• 1999/2000
• Single investments
• Write the cheque on the basis of a good idea
• Entered the market for a quick flip at huge
  multiples
• Passive
• Most had their heads handed to them on a platter

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Angels Today

• Invest in groups (angel organizations)
• Undertake formal due diligence
• Initiate term sheets
• Mentor/coach/monitor
• Serve on board of advisors
• Plug holes in the management team
• Act as CEO/President
• Become serial investors
• Follow the two-to-four mile drive rule (thats
  changing)

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Angel Groups in Canada

• Toronto Angel Group
• Toronto Life Science Angels
• Toronto Industrial Angels
• Kingston Angels
• Ottawa Angel Alliance
• Great Lakes Angels
• Waterloo Angels (sometimes)
• Peterborough Angels
• 7 other groups throughout Canada
• Numerous clusters (oil gas)

None existed five years ago
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Making the Right Angel Deals
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Successful Angel Deals

• Reasonable valuation allow for follow-on
  financing
• Return at least a 3X ROI
• Successful exit within three-to-seven years
• Provide active angel involvement
• Management talent to take the venture to
• profitable commercialization
• No need for daily oversight
• Successful exit IPO/MA/MBO

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Successful Angel Deals

• RIM a market darling
• Mitel rivaled Nortel in the PBX market
• Newbridge profitably sold to Alcatel
• Roots built on the basis of a bright idea
• Workbrain 3.7 million - 89 million since 2001

Note most successful companies in Canada were
seeded by angels
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Workbrain Company Overview

• Enterprise workforce management
• Enterprise solutions that allow large employers
  to deploy and manage their workforce for maximum
  profitability
• Began operations in 2000
• IPO on the TSX in 2003 ticker WB
• 650 employees in Toronto, Atlanta, Chicago,
  London, Los Angeles, and Melbourne
• FY2005 revenue US88.7M, profit 0.17/share
• FY2005 revenue growth rate 56
• Q4 2005 revenue US23.8M, profit 0.03/share

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Nov 1999 Apr 2000 Launch Company

• Startup Capital US1,000,000
• Recruit Founding Employees
• 2 Development - 1 Infrastructure
• 2 Implementation - 1 Sales
• Objectives
• Product prototype Web Native Time and
  Attendance, Self Service
• Sales documentation
• Business Plan and company positioning
• Recruit additional employees Business
  development (partnerships), Development, Delivery
• Raise Angel Capital US4,000,000

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April 2000 Angel Financing (6 months)

• US4,000,000
• High net-worth individuals
• Very fair term sheet

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Apr 2000 May 2001 Establish Beachhead

• Objectives
• Sell to three brand-named visionary accounts
• Ramp
• ? presales ? product development
• ? partnerships ? product delivery
• ? infrastructure ? management
• Develop company branding and marketing tools
• Raise US20MM VC Capital
• Operational Highlights
• US3, 000, 000 in new sales to British Airways,
  TVA, Russell Corporation
• Selected Vendor at two additional customers
• Partnership Agreement with Accenture and EDS
  Canada
• Closed VC/Angel Series B

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May 2001 VC Financing (18 months)

• US20,000,000
• Funds raised
• Very fair term sheet (no ratchets, liquidation
  preferences, Board control)
• Carefully chosen Venture Partners
• Large banks to give perception of Financial
  Stability
• Accenture to strengthen partnership
• Angels for continued support
• Investors
• ABS VENTURES (Alex Brown Deutsche Bank)
• EdgeStone (National Bank Financial)
• Accenture Technology Ventures
• Follow-on Series A Angel Investors

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Oct 2003 Prepare for IPO

• Over 50 customers w/average contact approx
  US1,000,000
• Revenue run rate approx US36,000,000
• Profitable and cash flow positive
• Scalable infrastructure and excellent management
  team
• Marketing leading product
• Objective
• Dominate the Enterprise Workforce Management
  Market

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IPO Financing (4 years)

• CDN46,046,000
• Syndicate RBC CM, CIBC WM, National Bank
  Financial, GMP, Sprott
• Legal Torys and Goodman and Carr
• Pricing range 12-14/share
• 90 days from start to Final Prospectus
• Purpose Provide Growth Capital

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Terry Matthews (62 companies Angeled, 60
successfully) And then there's the rest of
us
Anatomy of a Successful Angel Investor

• sets clear investment objective
• develops a disciplined angel strategy
• knows how to moderate risk
• thinks beyond the current angel round

• hands-on entrepreneur, with business acumen

• applies his rolodex

• desire to give back to the community

• excellent instincts for commercializing innovation

• Genus Angel
• Revived family business sold it
• 250K invested in 10 companies (serves as
  chair/CEO)
• Follows the 20/60/20 rule
• Belongs to at least one angel group

• visits investments frequently
• Co-sells when required

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Share Structure
Common shares Similar to public Preferred
shares Various series' of shares that hold
different rights, especially the order of
payout Warrants Sweetener similar to
options, right to own more stock Convertible
Debenture Debt that can be converted to stock,
often accruing the interest Debenture Straight
debt like a bank with a coupon (interest) Prefer
ence over all stock Debenture with warrants
(venture debt) Fixed rate debt warrants
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Finding the Right Deal
Succession opportunities CFIB estimates that
some 5 percent of its 100,000 members have
companies that are looking for takeover
opportunitiesInnovation-based opportunities
universities have become warehouses for
technologies that are waiting to be
commercialized Start-ups and New Market
Opportunities law accounting firms, chambers
of commerce, venture capital firms, industry
associations all have access to entities that
are looking for commercialization funding
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Providing Support for Northern Angels

• Due Diligence People, Product and Potential
• Due Diligence The Process and the Deal
• Valuation The Mechanics
• Valuation The Negotiations
• Term Sheets
• Managing your investment

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Due Diligence People, Product, and Potential

• Do you want to do business with the founder?
• (the beer test)
• Can they take the business to commercialization/pr
  ofitability?
• Is the product the result of technology push or
  market pull?
• Is the product, technology, science, or service
  in your sector?
• Can you add value?
• Is the market large enough for your ROI?
• What does your gut tell you?

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Due Diligence The Process and the Deal
The Circle of Life for Angel Groups

• Application submitted
• Forms available on website

• Investment managed
• Further rounds negotiated
• Successful exit

• Working committee screens
• Picks to 2 or 3
• Communicates deficiencies

Angel Group Deal Process

• Term sheet developed
• Negotiations undertaken
• Investment made

• Content template provided
• Presentation coaching (mandatory)

• Potential syndicate formed
• Site visit concluded
• Value proposition discovered

• Working committee reviews
• Find presentation
• Suggests changes

• Critique by the group
• Expressions of interest
• Due diligence team formed

• Companies present
• 3-4 dinner meetings
• 2 breakfast meetings

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The Team
Management Team Business acumen Domain
knowledge Operational expertise Financial
expertise Board of Advisors/Directors Names
that contribute to the success of the
organization Recognized industry leaders
wherever possible
60 of the financing decision
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Market Size

• Answers how large the total market is for the
  product technology, science, service
• Answers the question Are they playing in a big
  enough space?
• Its a top-down view

1 billion
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Size of Niche

• Defines the niche they are in
• Signals to investors the company knows its market
  space

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The Market Share

• States the revenue the company targets to
  capture in the next three-to-five years

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Milestones Achieved

• With xxx dollars raised, the company has
• Major accomplishments
• Successful track record
• Examples
• Research complete
• Patents filed
• Management team in place
• Pre-clinical/clinical testing complete
• Regulatory submission and approval

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Technology, Science, Product, Service

• Whats the pain in the market that the companys
  
• offering solves?
• Do they have proprietary IP?
• Can they produce chain of title? Do they own it?
• Is it market pull or technology push?
• At what stage of development are they Alpha,
  
• Beta, Commercialization?
• Is it scalable or franchisable?
• Do they have a platform technology?
• Is the technology patented or patent pending?
• Is the technology owned by a previous employer?
• Where was the technology developed?

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Competition

• Is there an 800-pound gorilla?
• Does management have a firm and detailed
  understanding of the competition and its own
  unique value proposition?
• What does the company do better than anyone else,
  and can they prove it?
• Can management articulate all the competition
  direct, indirect, status quo?
• How many months is the technology ahead of the
  competition?
• What are the largest risks presented by the
  competition?

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Financial Projections

• Seeking x million
• Use of proceeds
• Sales and marketing 50
• Capex 30
• Development 20

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Go-to-Market Strategy

• Often the weakest link
• Is it detailed?
• Is it a realistic plan in terms of moving the
  product to the marketplace?
• What is the split between direct and channel
  sales? Does the company have access to channels?
  Who has the connections?
• What experienced resources are responsible for
  the marketing? Is that experience in the same or
  similar industries?
• How detailed is the go-to-market strategy in the
  business plan? Have they worked through all the
  potential issues / challenges / problems?

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Legals

• Examine the current shareholders agreement
• Lack of such an agreement is a red flag

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Deal Killers

• 1) We have no competition
• 2) I must remain president founderitis
• 3) This is the valuation. Take it or leave it.
• 4) All I need is your money
• 5) If we build it, they will come
• 6) We dont have a business plan
• I cant explain the technology in simple terms.
  Its
• just too complicated.
• We want to use the investment to pay our salaries
  
• and retire debt.
• 9) We dont own the IP
• 10) Weve talked to dozens of angels VCs

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Valuation The Mechanics
Asset-Based Approach based on the notion that
the cost of replacing an asset may be an
indication of its fair market value Market
Approach involves identifying comparable
companies (usually publicly-traded) within the
start-ups industry and uses the comparable
companies financials to derive various pricing
models Income Approach involves a variety of
valuation methods all of which convert
anticipated economic benefits into a single
present amount. Discounted cash flow model used
most often
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Multiples A Simple Valuation Tool

• Valuation for a revenue generating software
  company which has not yet achieved break-even
• 1.5 X to 2.5 X this years discounted annual
  revenue projection
• 1.5 X to 2.5 X a factor of strength of
  management and IP
• The discount is a factor of revenue booked

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The Secret to Angel Valuations
They make it up But so do VCs and
ibankers
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Valuation The Negotiations

• The acid test
• The primary determiner as to whether you want to
  do business with the company
• Process that really determines the kind of people
  you are dealing with
• Will unearth whether or not they are reasonable,
  fair, ethical
• Reveals any underlying motives, attitudes, and
  intentions
• Truly the basis of a go/no go decision
• Do they just want the money

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Term Sheets a Must for Angel Investors
Establish the terms and conditions of
investment Financial structure Valuation or
mechanism to set valuation later Amount/parties
investing Use of funds Downside protection
(price, co-investment) Expenses Exclusivity/
no shop/ closing date Milestones and
tranches Short vs. long form Basis for legal
work Validity with follow-on capital providers
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Valuation The Negotiations

• Remember
• Who sets the valuation buyer or seller?
• Create a win/win. The founder and his team must
  be motivated to stay
• Preference is for a convertible debenture with a
  coupon
• Lays the process for milestone deliverables
• Test the assumptions re the capabilities of
  management

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Key Deal Terms

• Milestone investing
• Liquidation preference
• Conversion/anti-dilution
• Full Ratchet
• Weighted Average
• Pay to play
• Redemption rights
• Veto rights
• ROFR
• ESOPs
• IP ownership
• Restrictions on founders and employees
• Vesting of founders shares
• Vesting periods

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Managing Your Investments

• Board seat
• Voting trust (Angel groups)
• Anticipating another angel round
• Negotiating future rounds (your role)
• Co-investing with other angel groups, VCs
• CPCs as an alternative to VCs (greater control)

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Thank You Questions
W. Daniel Mothersill 416 368 8770 dan_at_ciris.biz