“Do I like the product? Do I like the team? Am I comfortable with the market? Do they have meaningful traction compared to the other startups beside them?”
This is what angel investors ask themselves while talking to you. If you want to maximize your chances of finalizing a positive outcome -- having them write you a big fat check -- you better have a damn good answer to all those questions. Particularly in the current ecosystem, where any investor doing basic homework can reach any company via tools such as AngelList and collect third-party data on you and your competitor via tools such as Mattermark.
Here are three insights into why or why not angel investors may decide to buy a stake of your company.
1. The future isn't written.
Regardless of what the average investor may tell you, the reality is that no one can predict what company will become successful. Companies pivot, markets shift, founders split up. In short: stuff happens. Look at the three companies everybody knows: Uber, AirBnB, Color. Uber started with an AngelList round at $5 million and now is the hottest company in the planet. Color started hot and vanished regardless of a monster round. AirBnB sold cornflakes and air mattresses before nailing down the model that made it worth more of the Hyatt without owning a single room or hotel.
2. Competition can get fierce.
Another element is the timeframe: when the most exciting companies start fundraising, they usually become oversubscribed very fast. Some other companies fundraise for a long time, collecting interest, until they find a lead on which everybody wants to pile on, but at that point it’s the company that decides who’s in and who’s out.
The actual window for investors to act upon is pretty small, and when it does open they’re forced to make a decision very quickly. From a timeframe perspective, if they don’t know you beforehand it’s very unlikely that they’ll have the time to collect all the data they’d like.
3. A full picture is obscured.
It’s very hard to say how a company is performing from the outside. The majority of founders don’t disclose monthly key metrics in time. It’s like peering through the keyhole: sure, they get a glimpse of what’s going on, but cannot really tell the whole story. That’s a huge issue, because having access to information before other investors means being able to put more money at lower valuations (win!).
Given the above elements, the downside for angel investors is that many early bets will fail. The upside is they’ll get privileged access to information and they’ll be able to know (instead of guessing) who is really outperforming the other companies they have information on. Why is this important? Because the real action is what happens next.
Put yourself in the shoes of an investor for a moment, with, say, 20 investments. If you invested at a $5 million average valuation and 15 of the companies eventually fail, four of them could exit for an average of $20 million and one could make a $250 million exit. It’s a 64-time return on a 20-time investment -- not bad at all. But here is where things get interesting, because if you double down at the following round of the best performing company, that’s an additional 10-time return on a single -- and much less risky -- investment.
This is why angel investors don’t really care that you’re messing things up and failing, as long as you’re up front enough to share that with them, enabling them to benchmark the other companies with you. Not only that, they’ll be more than happy to help.
Now you know.