Now, angels may find they have some competition in the market. Despite a quiet year, given the tight fist most VCs have had on their funds, there is a slight hum in the air that these might be improving.

Seed vs. Series A

According to VentureScore, VC deals are starting to increase, but the terms seem to be changing. For the better part of the last decade, VCs have committed themselves to Series A type funding. As investments are starting to heat up, “seed” financing is drawing more of the VC crowd. [1]

While seed financing and Series A deals are similar in the establishment of a valuation and ownership stake, the main difference is in the amount of money invested. Series A financing tends to be between US$500,000 and US$2 million. Seed financing tends to be anything below the US$500,000 benchmark.

This move may seem like something that has resulted from the recent recession, but seed financing isn’t necessarily a new ploy for venture firms. In fact, Y Combinator invested just US$6,000 in the cell phone software maker Loopt in 2007. Said Paul Graham, Internet entrepreneur and founder of the Y Combinator, when asked why he made such a small investment, “It’s gotten to the point now where the most important things you need to found a tech startup are food and rent.” [2]

Micro VCs

Startups really suffered the most when the dot com bubble burst in the early 2000s and the euphoria for Internet ideas died. VCs were suddenly very leery of startups and poured their focus on companies with proven track records. While that was certainly a safe approach, it wasn’t necessarily the most innovative or the one with the highest potential for return. Technology is still an area of intense opportunity, and has been throughout the entire decade. [3]

As valuations have also gone down, it makes sense that amounts raised have also decreased, but this isn’t all bad news. What is emerging is what Philip Smith refers to as Micro-VCs that are taking the place of angel investors in some situations. These investors include Nueva Ventures, Fruition Ventures and Capybara Ventures, who are drawn to the dynamics of great ideas, cheaper costs of execution and lower valuations. This trend of micro-investing and micro-startups could be the key to future growth, but it doesn’t mean the investing is as streamlined as angels can provide. [4]

Implications for Angel Investors

So, what does this change in the atmosphere mean for angel investors? It does mean increased competition and activity in the field, but it can also mean an advantage when the angel really wants to get on board with a particular startup. The key will be to identify the steps the VC will likely take in the deal. Remember, just because they are willing to do seed financing doesn’t mean they are willing to accept seed financing deals.

Remind the entrepreneur of these tips from Caine Moss in the Entrepreneur Corner:

• VCs might expect more than 20-40% of a company even with seed financing
• VCs might expect more than 1x liquidation preference
• VCs are likely to expect Series A-type control rights: they should be allowed one board seat, not control of the board
• VCs may demand certain investors rights they don’t truly deserve
• VCs could want a “super-pro rata” right in seed deals
• VCs may opt to decline to participate in Series A funding when the time comes, which can create a negative market perception. [1]

VC investments can offer substantial advantages to startup companies, but the price may be too high to accept the investment. This is where an angel may hold more appeal. It isn’t more lenient investing; just simply more equitable.

Notes:

[1] Seed is the New Series A for VCs
[2] Thinking Small
[3] Looking for Seed Money? Venture Capital May be the Answer
[4] New Dynamics Emerging in Early Stage Funding

If you want to be more than a one-trick pony – that is, if you want to bring more than just cash to the startup – you might be needed in some of the following areas to assist the business:

THE OUTSIDER: An angel investor brings an outsider’s viewpoint to the business. Many startups are run by passionate people who have a lot of skin in the game. Your point of view – as someone who arrives on the scene a little later – can bring sanity and perspective. Of course you’ll be “bought in” when you invest in the organization, but be sure to keep one foot outside of the business – on firm ground – to make sure that your outsider’s perspective adds value.

THE GUIDE: Taking a journey through the unknown is full of false starts and missteps. Having someone there who has made that journey in the past (perhaps more than once) can help to bring a startup to profitability sooner, and more efficiently, than without your help. You already know that you don’t simply drop off a check and consider your job done; active research and networking with this step in mind will increase your ROI.

BINOCULARS: Entrepreneurs can become so focused on their project that they can sell themselves on its value. Ever had a startup tell you that their product “sells itself”? They need your skill to point out that no product truly sells itself, but rather that marketing and sales will play a part. In a sense, you’ll help them to look up from the small picture of their microscope and look through binoculars at the panoramic view. At every conversation, get the subject matter away from the product’s features and put their focus on the full business.

THE ORGANIZER: One of the first hires of any rapidly growing business is an organizer – someone who can see the chaotic pieces and assemble them into an efficient whole. COO’s or CFO’s often play this role when they’re brought on board. However, introducing some organization earlier into the process will mesh nicely with your role as the angel investor. Granted, an organizational chart (and other organizing tools) might best be written in pencil, but you can bring value to the startup by corralling the team and bringing order.

THE OPPORTUNIST: When a product developer starts a business, their focus is on their product, and often on its tried-and-true uses. You bring greater value to the team by broadening their horizons beyond that initial purpose to show them that there are other opportunities or markets for their product.

A word of caution is important here: Make sure you can back up your contribution with expertise. If you’re an angel with money, just be the money and avoid foisting your grand (but inexperienced) ideas on the company. But, if you’re an angel with cash AND with decades of business wisdom then you’ll be a welcome addition to the team.

As an angel investor, you probably will bring money to the table. But you have a bigger role to play and you’ll make the startup more successful, faster, when you bring your entire toolbox of value to the agreement. This is a great way for you to actively contribute to the growth of your financial investment with a little “elbow grease”.

Today’s hot investments sit in the front of the lunchroom. They’re the darlings of investors everywhere. The less popular opportunities are sitting in the same room, overlooked by investors who just want to hang out with the cool startups. These “nerds” are ripe for the picking by savvy investors who are willing to take a risk on something that isn’t the whiz-bang fad everyone’s talking about.

In my previous post, I summarized Mercury News’ interview with Sequoia’s Mike Moritz, who seems to have a thing for frugal founders and “unfundable” startups. While everyone was whispering about the new-fangled “world wide web”, Moritz was investing in a manufacturing-services company called Flextronics. Today, while everyone is swooning over social media, Moritz is putting money into a contact center called 24/7 Customer.

Of course, Moritz has made numerous investments in the social web. But he’s also keeping tap on less popular trends and investing in “boring” startups that fill market needs. These startups just might emerge as the “boss” one day, just like the nerds who sat in the back of the lunchroom back in the high school days.

With the media frenzy about popular startups, it can be quite a challenge to find people who aren’t talking about them. So, if you want to keep up with emerging trends to guide your investing but don’t want to throw your money at “cool” startups that are likely overrated and overvalued, what do you do?

A good place to start is to go through Paul Graham’s “Startup Ideas We’d Like to Fund.” Some ideas are less exciting than others; nonetheless, they address market needs/flaws. Have you come across any startups that are homing in similar issues? If so, you might want to look into them.

You’d also check out futurists, and consumer and market trends at The Trends Research Institute, TrendHunter, and TrendWatching. These sites could help you spot those back-of-the-lunchroom emerging trends that other investors have overlooked.

What other sites would you add to the list?

Links:

• Startup Ideas We’d Like to Fund
• The Trends Research Institute
• TrendHunter
• TrendWatching

According to Vernon W. Yates, Chairman of Governors, Tech Coast Angels, angel investing is a team sport. In working together, angel groups provide a variety of benefits for both the entrepreneur and the angel investor as these groups bring a diverse set of talents and skills to the table that can be leveraged to maximize the return on investment. And, by participating in an organized group, angels can more professionally identify and fund the most attractive companies. [1]

In reality, the number of angel investment groups is growing substantially throughout the world. Those investors who are seeking to combine their skills and talents with those of others are finding that the networking benefits alone are enough to consider joining one of these groups. But there are other factors that enter into the decision to join a network or not. For one, you must decide just how much investing in startups you want to do and where you want to do it.

Many angel investors prefer to keep their investments local. For some, operating within the network is enough to make more deals “local”, but for others, geography matters, too. The ability to “re-live the startup adventure” is a perk for a number of angel investors who are also entrepreneurs. They want the same level of excitement that they found in their own startup experiences.

In addition, many angels invest by way of referral as a result of the circles they already travel in. Angels also often tend to want to support “local” entrepreneurs as they have been there themselves and want to “pay it forward”.

Jeanne Lee at Fortune Small Business recommends that first time angels should not enter into investments alone as they can get too emotional about deals. She recommends either informal or formal networks to help create more structure to investment deals and to allow the angels to invest smaller amounts in more deals to reduce the overall risk. [2]

Whether you decide to go it alone or work with a group, it is important to understand yourself and what you hope to gain from your investment experiences. If you want 100% involvement, going into an investment alone can often grant you as much access and control as the entrepreneur. But, keep in mind that won’t always be viewed favorably by the entrepreneur.

If you are seeking promising investments that require little time and just a portion of what you are willing to invest, consider finding a group that fits your needs. Understanding yourself and your limits will put you in a better position to enjoy the angel investing experience – no matter how much money you make.

Notes:

[1] Angel Investing Is a Team Sport

[2] Angel Investing 101

On the whole, experienced angels are an optimistic bunch. Where others see doom and gloom, they see flickers of light that could turn into bright flames.

This optimism can lead to opportunities. In the current economic climate, venture capital firms are cutting back on their investments and becoming more cautious than usual. They are especially reluctant to get involved in early-stage investments. For angel investors, this is good news. It means that they don’t have to compete with venture capital firms for a stake in the current crop of promising startups.

Angels who have been around for a while learned from their experience in the technology meltdown of 2001-2003. They know that there are always great startups around, no matter what the economy as a whole is doing. And with less venture capital available, there are plenty of good candidates that are not getting funded. This gives angels the luxury of being more selective in their investments. When the economy turns around, many of today’s promising candidates will become tomorrow’s superstars.

In an important sense, this is an excellent time to be an angel investor because the world’s economic troubles have driven down the valuations of startups. The value of a new company is determined by an estimate of its assets, its market, and its income stream. When these numbers go down, the value of the company goes down. This means that angels can buy a bigger stake in a startup for the same amount of money.

When things do turn around, it is highly likely that Asian economies will lead the way. When this happens, angels who have bought sizable stakes in Asian startups at bargain prices may see an impressive return on their investments.

In good times and bad, Venture Hype is a meeting place for people who look beyond today’s ups and downs to the promise of the future — people who know that any day is a good day to make a difference.

There are several reasons why angel investing is becoming more of a group activity. Perhaps the most important is that angels are taking on larger and larger projects. Established venture capital firms have become increasingly cautious in making investment decisions — especially when it comes to initial funding — and angels are stepping in to fill the void.

Larger projects obviously have larger capital requirements, but that’s not the only reason why angels are coming together to pool their resources. Larger projects also require more business experience and expertise. Groups of angel investors typically include members with a variety of business backgrounds. Besides providing funds for startups, they can offer the kind of coaching and mentoring that many budding entrepreneurs need. Angels can strengthen the management team, introduce best practices, and help create strategic plans.

The members of an angel investment group learn from each other as well. The typical group includes both novices and veterans. You don’t have to an expert to join.

Angel groups often come together around a common theme. For example, a group might specialize in clean energy or retail or hospitality. The members of the group feel more comfortable putting money into a venture because they understand the business they’re investing in.

Angel investing groups are springing up in key financial centers throughout Asia. According to Singapore Investment Network, 3.5% of adults in Singapore have made angel investments, and a growing number of these investors belong to groups.

Whether or not you belong to an investment group, Venture Hype offers a great opportunity to expand your investing horizons and get in touch with like-minded people — people who love the promise and the possibilities of angel investing.

The race to develop alternative energy sources is driven by two powerful forces: uncertainty about the price and availability of oil and concern about climate change and greenhouse gases. In the coming years, these two forces will create enormous opportunities for companies that can provide economical alternatives to fossil fuels.

Farsighted investors are already pouring money into green-tech start ups. In 2008, Chinese companies raised a total of US$430 million in green-tech investments, a 22 percent increase over the previous year. [1] Indian companies brought in US$277 million, an increase of 20 percent. [1] But these numbers are small compared to the potential size of this dynamic new industry.

The greatest share of venture capital is flowing to developers of solar power. In the past, solar energy has been held back by the size and cost of solar panels. Now that is changing. New thin-film solar panels are lightweight and inexpensive to manufacture. They can be glued straight onto an existing roof without the expense of mounting racks. Startup companies are developing new ways to bring this technology to the market, and angel investors are providing the funds and the business savvy these companies need.

Wind power is also experiencing breathtaking growth. Global wind energy capacity grew by 28.8% in 2008. Close to a third of all new capacity was installed on the Asian continent. [2] The Chinese government has identified wind energy as one of the most promising areas of economic development. Angel investors are backing new companies working on ways to bring down the cost of manufacturing wind turbines and components. They also have their eye on small-scale wind turbines that can be used to power individual buildings or neighborhoods.

Beyond solar and wind power, angel investors are also looking at the next-generation of biofuels. They recognize that ethanol and biodiesel have some inherent limitations, but they know there are some promising news technologies on the horizon, especially fuels produced through synthetic biology.

You can keep in touch with exciting new developments like these through the Venture Hype network of angel investors. Venture Hype is a place for practical visionaries — people who have their feet on the ground and their eyes on the future.

Note:

1. Dawn Kawamoto, Green-tech venture funding jumped nearly 40 percent in 2008, CNETNews.com, January 7, 2009.

2. Global Wind Energy Council, Global Wind 2008 Report

Image: Hugh MacLeod

You and a group of other angel investors have placed your trust — and your money — in a startup venture. Now what? What can you and your fellow investors do to help your portfolio company live up to its potential?

The previous articles (Challenges #1, #2, #3, #4) in this series focused on choosing an investment and making sure that you’re getting your money’s worth. But successful angel investors don’t stop when money changes hands. The next step in the process is monitoring the performance of your investment. This is actually something you should consider early in the game. How much involvement do you want to have in the company, and what will that involvement look like?

As an investor of a startup, you need to think about who’ll speak for you. If one seat on the board is reserved for an angel, you need to think about who’ll be able to accomplish the most in that position. And that may not be the person who made the largest investment. The angel who serves on the board should be someone who knows the business thoroughly and is skilled at interacting with others.

Oftentimes, angels also act as mentors and coaches to management. Many startups are headed by young, inexperienced managers who have wonderful ideas but little knowledge of how to make them work. You can provide the sort of expertise and business savvy these novices need. You can also put managers in touch with your network of valuable contacts in the business world.

Even before the investment is made, you need to think about how you’ll communicate with management. You don’t want managers to feel like you’re breathing down their necks, but you do want to establish regular channels of communication. At a minimum, you should request quarterly reports on the company’s progress.

You also need to think about how you want to measure the company’s performance. Are you mainly interested in tracking revenue, profits or technical progress?

And what happens if problems emerge? If, for example, the company badly misses milestones? In these cases, you should initiate closer contact with the company and more frequent communications. You may also offer additional coaching and advice to get the company back on track – but don’t breathe down management’s necks.

Will Your Foal Turn Out To Be a Prize-Winning Horse?

Mature companies are like mature race horses. It’s fairly easy to place a value on them based on their winnings. But startup companies are more like foals. You can study their bloodlines and their conformation, but placing a value on them is more an art than a science.

The most successful angel investors have mastered this art. They’ve developed an exceptional ability to judge how much a young thoroughbred is really worth. They make good judgments about valuation because they know what to look for.

The previous articles (Challenges #1, #2, #3) in this series focused on screening potential investment candidates, doing due diligence, and basing decisions on facts rather than intuition. This article addresses the next challenge in the investment process: placing a value on startups and negotiating favorable terms and conditions.

There are 3 basic approaches to estimate the value of a startup. The cost approach bases judgments on the value of the company’s current assets. The market approach analyzes the size of the market for the company’s products and estimates market share. The income approach looks at the company’s current income stream and makes predictions about future income. A thorough process of valuation uses all 3 approaches.

Coming up with an accurate valuation for a startup is crucial if you’re investing in equities because it’ll determine how big a share of the company your investment will buy. If your investment is equal to 5% of a company’s current value, then you’re entitled to own a proportional share of the company.

Once a value for the company has been established, the process can move on to negotiating terms and conditions. You need to ask some crucial questions. What special rights do early investors receive? What type of securities will be issued to early investors? What assets will investors be due if the company is sold or liquidated?

Placing a value on a startup and negotiating terms and conditions is a complex process. Fortunately, you’re not on your own. Venture Hype is learning exchange for aspiring and motivated angel investors who are interested in seed and startup ventures. The team at Venture Hype shares a passion for bringing practical information to help investors get started, make informed decision, and invest wisely and profitably.

The next article in this series talks about what happens after the investment and what you can do to help your investments grow.

This is not to say you shouldn’t trust your instincts. They do come in handy. For example, if you don’t like or trust the entrepreneur, it’s probably best to just pass on the opportunity. You’ll be working and interacting with him for a good few years. Why waste your time and energy doubting the startup’s ability and/or integrity if you don’t even have faith in the founder?

What I’m saying is, it may be tempting to make decisions based on intuition alone because you find it difficult to gather the facts you need. But the more information you have about a company, the more likely you’ll be to succeed.

What kinds of information? For starters, information about the principles involved. What experience do they have in the field? What experience do they have running a business? You should also look at the business itself. How big is the potential market for its goods or services? Who are its competitors? What sets it apart from the competition?

Then there are the financial facts to consider, information about audited accounts, management accounts, and financial projections. Depending on the industry, you may also want to look into legal questions and issues involving intellectual property.

Digging up all this information can be a daunting challenge. The good news is that you don’t have to do the digging alone. Venture Hype is a learning exchange for angel investors who want to use both their hearts and their heads to guide their investment decisions. The network delivers news and information in digestible format and teams up with seasoned industry players to help take the grunt work out of investing. This doesn’t take the passion out of angel investing. It simply channels it in a more promising direction.

The next article in this series takes up another tough issue: how to set ideal valuations and establish favorable terms and conditions.