CASE WESTERN RESERVE UNIVERSITY

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ANGEL INVESTING Scott Shane
CASE WESTERN RESERVE UNIVERSITY
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INTRODUCTION

• Business angels play a key role in the
  development of new companies in the United States
• Angels provide 100 times the capital that venture
  capitalists provide
• We know little about angel investing and its
  contribution to entrepreneurial activity in a
  region
• We conducted focus groups to better understand
  angel investing and to identify key questions to
  address systematically

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METHODOLOGY

• Five Fed regional banks developed common protocol
• Focus groups with 8 to 10 business angels in
  Atlanta, Cleveland, Denver and Philadelphia
• The angels identified through snowball sampling,
  through efforts made to include different angel
  types
• Focus groups were unstructured
• Standard qualitative techniques were used to
  analyze data

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DEFINITION OF AN ANGEL INVESTOR

• A wide range of people make angel investments
• Common elements of all angels include
• Making relatively small magnitude investments
• In private companies
• From personal capital
• Some, but not all angels, are accredited
  investors

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TYPOLOGY OF ANGEL INVESTORS

• Alone or in groups
• Net worth of the angel
• Passive versus active angels
• Knowledgeable versus naïve about start-ups
• Stage of development of the investment
• Formality versus informality of the process
• High versus moderate risk investors
• Accredited versus non-accredited investors
• Relationship versus arms length investor

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WHY PEOPLE BECOME ANGELS

• Obtain financial returns
• Support the community
• Create and grow companies
• Find the next gig
• Learn new things
• Make use of their expertise
• For personal enjoyment

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MECHANISMS FOR ANGEL INVESTING

• Individual model
• Super angel model
• Social tie model
• Informal group model
• Loosely organized group model
• Pledge model
• Formally organized group model
• Fund model

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WHY ANGELS INVEST THROUGH GROUPS

• Pool capital
• Diversify
• Pool knowledge
• Obtain deal flow
• Check judgment
• Divide labor
• Create options
• For social reasons

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WHY ANGELS INVEST ALONE

• Personal financial capacity
• Cost of overhead
• Desire to remain unknown
• Networks are not an option
• Desire to get involved with portfolio companies

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HOW ANGELS FIND DEALS

• Deals are easy to obtain
• High quality deals are hard to find
• Better deal flow comes through social networks
• Deal flow is easier for organized angel networks

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VALUE-ADDED THAT ANGELS PROVIDE

• Providing contacts
• Offering strategic advice
• Giving operational assistance
• Process for evaluating ventures
• Serving as a confidant

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WHERE ANGELS INVEST

• Angel investing is a local business
• No more than 4 hours drive away
• Less frequent co-investing than VC
• Local investing is important
• Become involved with portfolio companies
• Monitor investments
• Identify entrepreneurs they know and trust
• Build companies in the community
• Rarely make investments outside the U.S.
• Exceptions to local investing rule
• Co-investing
• Super angels
• Experienced investors

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A GOOD DEAL OPPORTUNITY

• Not long horizon and capital intensive (e.g.,
  drugs)
• Recurring revenue businesses
• Scalable businesses
• Large enough market to provide return on capital
• Address real customer problem
• Not marketing intensive
• Not commodity products
• Not personal service companies

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A GOOD DEAL ENTREPRENEUR

• Experienced with start-ups
• Strong management skills
• Know how to build companies
• Know own limits
• Business colleagues, but not friends
• Work well with others
• Communicate openly and honestly
• Charismatic leader with a vision for company
• Good at overcoming obstacles

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INVESTMENT ARRANGEMENTS

• Time horizons and return expectations
• Exit strategy
• Magnitude of investment
• Investment instrument
• Key terms
• Portion of ownership
• Time spent with companies
• Board seats
• Co-investing

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THE PROCESS OF INVESTING

• Basic screen
• Presentations and Q A
• Due diligence
• Investment decision
• Monitor investment

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KEY REGIONAL FACTORS

• Seasoned entrepreneurs
• Seasoned managers
• First generation wealth
• Strong universities
• Relevant industrial base
• Entrepreneurial culture
• Sufficient scale
• Successful experience

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HELPFUL GOVERNMENT POLICIES

• Tax incentives for angel investors
• Tax incentives for start-up companies
• Matching grants for angel investors
• Support for universities

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WHATS NEXT

• Questions answerable by analyzing existing data
• What factors are associated with having a high
  level of angel investing in a region?
• What factors are associated with the rate of
  return on angel deals?
• Questions answerable by collecting additional
  data
• What mechanisms for angel investing generate the
  highest rates of return?
• How can angel networks improve their rates of
  return?