Recently, I made two angel investments in startup technology companies, signifying my first angel investments in five years. As someone who is a true dividend growth investor, I tend to be incredibly picky when it comes to early stage opportunities. Typically, I stick to big name blue chip companies that have:
- Long track records of raising dividends year-after-year
- Huge cash on hand, huge cash flow, and very little (or no) debt
- Competitive moats (barriers to entry) that are almost impossible to overcome
- Compelling prospects for many decades into the future (my horizon is: never sell)
That being said, I am a Silicon Valley business executive who truly gets excited about early stage companies, especially in the high tech arena. From time-to-time, I’m able to find a great pre-IPO angel opportunity and I’ll go for it. Today, I want to share my personal philosophy on how I approach these types of investments.
Invest In People
At the end of the day, I will only invest in angel companies where I personally know the founder. Small companies can be risky. Small companies oftentimes have to pivot their business strategy. My last angel investment from about 5 years ago is a perfect example of this. I invested in a business that has completely transformed over the years. While the original model had to evolve, the team pulled through and built an incredible, thriving business. In fact, what they have built now is even more exciting than what I ever imagined in the beginning.
With small companies, you are investing in people. It is impossible to invest in a person unless you have a friendship with them. While this can greatly limit your opportunities, it can help you make accurate decisions based on character, intelligence, leadership skills, and sweat equity.
I’m able to quickly filter towards people who are "going places". These are the people I invest in, when the opportunity arises. Build your ability to read people and surround yourself with people that are going places.
It’s a pet peeve of mine that people these days list all of their angel investments on their LinkedIn profiles. I understand if you are a venture capitalist or full time angel investor that this may be important because of your profession. In that case, it makes logical sense to me. However, if your career is somewhere other than venture capital or angel investing, I personally suggest keeping things more confidential. Sure, you may want to list one or two investments, especially if you have taken a large-commitment advisory role or board of directors role.
However, I feel sometimes like people are just investing in a lot of companies to make themselves look more "legit" on LinkedIn. I feel like some of these people are rushing into a lot of investments without exercising patience. Also, they may even be spreading their capital (and time) too thin, without really going big on the investments that matter. This isn’t a popularity contest, this is investing capital for your and your family’s future. The greatest investor around, Warren Buffet, has described his investment strategy as lethargic. He has no problem waiting around for years (or even a decade if he has to) for the right opportunity.
I’m really trying to encourage patience here. There is no rush. There is no need to impress anyone online with your investments. Wait for the right pitch, even if it takes five years (as in my case).
The best angel investment opportunities are not open to just anyone. Those that have a good thing going don’t need just anyone’s money. They can be picky. They can choose investors who can add value to the company (and they absolutely should). If you have a friend who is building a unique business, understand how you may be able to add value. Can you do some part time consulting to help them out? Can you offer some advice? Are you willing to be on their board of advisors? Are you willing to be patient, until they are ready for your investment? The best investments take time to cultivate. Don’t be in a hurry. Keep your eye on the long-term. More than anything, be a friend and do the right thing for your friendship.
Focus on Financial Performance
I only invest in angel opportunities that exhibit the following combination of qualities:
- Strong top-line revenue growth (I will not invest in companies pre-revenue).
- Reasonably strong earnings (It’s ok for an early stage company to break even or even slightly lose in an effort to reinvest in the business, but it’s not ok to lose a ton of money).
- Strong assets (Whether the assets be intellectual property, an amazing platform, or even world-class domain names, I like to invest in companies that have tangible value).
- Willing and able to share financial statements: balance sheet, income statement, cash flows, and other financial documents upon request. (Invest in those teams that are willing to offer transparency.)
Be a Lawyer
I’m proud that my roots are in digital marketing because that profession taught me many skills across disciplines. One area where I feel I am quite strong is the review of legal documents and contracts. When investing in early stage companies, make sure to review all of the documents thoroughly. If something does not look right to you, offer to redline the document yourself (or with the help of your counsel, if you prefer). When it comes to these types of investments, it’s often good to have another pair of eyes as well to make sure all the documents look perfect.
And, don’t feel bad if you missed something. In one investment I just entered, we later found a minor typo. I drafted an amendment and we immediately executed the amendment. (Another reason to invest in people you trust and know.)
Know Where You Stand
As companies raise money, it’s important to understand where you stand. Get your hands on the cap table. The cap table, typically an Excel document, will feature the various rounds of funding, who invested, how many shares each person owns, the valuation at each round of funding, and so much more. This is a living document that you should use for your personal records as well. Angel investments can be illiquid. When the liquidity event comes ten or fifteen years from now, it’s always helpful to have the original cap table so you know your exact level of ownership.
Have A Long-Term Approach
Publicly-traded stocks are liquid. You can buy and sell whenever the market is open. Angel investments are not. Your money could be tied up for an incredibly long time. I approach angel investments with no expectation of getting my money back. I’m not saying this in a negative way. I only invest in companies I truly believe will thrive and flourish. Rather, I’m saying this in the most positive way that I’m a long-term partner. I want to leave my money in the investment as long as possible, so it can keep growing. And, that’s what often happens with illiquid investments anyways.
While I’ve successfully completed a handful of angel investments outside of work, most of my private company investments have come via work. In my earlier career, I made a habit of working for pre-IPO companies on the ascendency. Via my hard work and sweat equity, I was rewarded stock options. These stock options allowed me to eventually own shares in three successful early stage companies (one bought out by private equity for $1.2 bln, one went public, and one had a division acquired for $100 mln with shareholders retaining equity in the rest of the business). These days, I’m a Partner at a commercial real estate firm and plan on building up a real estate portfolio, over time, through hard work and sweat equity. If you don’t have a lot of money to be an angel investor and want to be one, go the employment route. Choose your employers wisely.
That being said, don’t rule out publicly-traded companies. Stock options are still valuable at publicly-traded companies as well, and I lived that scenario first hand as well.
On a closing note, I want to reiterate that angel investing is very attractive because it’s the "cool thing". I worry that the allure of it draws people in for the wrong reasons and also convinces them to take undue risk (too much money invested in companies that have not been fully researched and proven). I personally like to diversify and keep these types of investments as a smaller part of my portfolio. Even if one of my investments fails, I can sleep at night knowing that I have diversified wisely.
All this being said, I do want to say that there is something special about investing in people, which brings me back to my first point. Angel investing is unique in that you are really helping make dreams come true for people that are important to you. That is amazing and should be celebrated.
Disclaimer: This blog post is for entertainment purposes only. I am not a licensed investment advisor and this is not investment advice. Please consult your licensed investment advisor before making any investment decisions (including angel investments).