Paul Graham: Super Angels
October 2010
After barely noticeable changes over the past ten years, the startup financing business is now in such a state that, at least in comparison, could be called a mess. We saw significant changes in the startup finance environment at Y Combinator (YC). Fortunately, one of them can be called a much higher valuation cost.
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The trends we saw may not be specific to YC specifically. It is a pity that I can’t say this in the past tense, but the main reason, most likely, is that we first see the trends, partly because the startups we sponsor are very much woven into the structure of Silicon Valley and quickly take advantage of different innovations, as well as partly because we invest so much that we have enough data to clearly see the whole scheme.
What we are seeing now is likely to be seen by everyone in the next two years. Therefore, I will explain what we see and what it will mean for you if you try to get a subsidy.
Let me start by describing what the world of start-up financing was like. There were two sharply different types of investors: business angels and venture capitalists. Business angels are individual rich people who invest small amounts of their own money, while venture capitalists are employees of funds who invest huge amounts of money belonging to other people.
For ten years there were only these two types of investors, but now a third intermediate type has emerged: the so-called super-angels. [1] Their appearance provoked venture capitalists to implement a large number of investments like business angels. Therefore, the previously clear distinction between business angels and venture capital investors has become hopelessly blurred.
Previously, there was a neutral zone between business angels and venture capitalists. Business angels invest from 20 to 50 thousand dollars at a time, and venture capitalists usually from a million or more. Thus, the business angel financing round meant the accumulation of angel investments totaling maybe $ 200 thousand, while the venture capitalist financing round was a series A round in which one venture fund (or occasionally two) invests 1-5 million dollars.
The neutral zone between business angels and venture capitalists was a rather inconvenient circumstance for startups, since it coincided with the amount of money that many wanted to get. Most of the startups presented at Demo Day (a private event where a group of companies funded by YC represent themselves to a specially invited group of people), wanted to raise a sum of about 400 thousand dollars. But it was extremely difficult to reconcile this requirement, since the amount was too large for angel investments, and most venture capitalists were not interested in making such small investments. Here is the main reason for the emergence of super-angels. They respond to market needs.
The emergence of a new type of investors has become important news for startups, because there were only two types, and they rarely could compete with each other. Super-angels compete with both. This will soon change the rules for seeking investment. I still do not know what these rules will be, but it seems that most of these changes will only benefit.
A super angel possesses some qualities of a business angel, and some qualities of a venture capitalist. Usually this is a separate person, as is the case with business angels. In fact, many of the current super-angels were originally business angels of the classical type. But, like venture capitalists, they invest funds owned by other people. This allows them to invest larger amounts than business angels: the typical investment of a super angel at the moment is about 100 thousand dollars. They make investment decisions quickly, like business angels. And they conclude much more investment transactions per partner, unlike venture capitalists, up to 10 times more.
The fact that super-angels invest other people's money makes them doubly dangerous for venture capitalists. They do not just compete for startups, they also compete for investors. What super-angels really are is a new form of a dynamic, light-hearted venture fund. And some of us from the world of technology know what usually happens when something that can be described from this point of view appears. This is usually called replacement.
And will she? At the moment, some of the startups taking money from super-angels, exclude the possibility of taking money from a venture capitalist. They simply delay this event, which is still a problem for venture capital investors. Some startups who postpone the use of such funds can do so well with the money of business angels that it would never enter their heads to ask. And those who have used the funding of a venture capitalist will be able to get higher value estimates when they need the money again. If the best start-up gets a score at a cost 10 times higher when they use money from rounds of A-series financing, it would cut venture capitalists' revenues from winners at least 10 times. [2]
Thus, I believe that venture capital funds should seriously worry about super-angels. But there is one thing that can save them to some extent. This is an unequal distribution of the final results: in fact, all revenues are concentrated in several startups with great success. The mathematical expectation of a startup is the percent probability that this startup is Google. Therefore, if we take the victory as a question of a full refund, then super-angels could win almost all the battles for private startups and still lose the war if they simply could not get those few big winners. And there is a possibility that this could happen because top venture funds have a better reputation, and they can also do more for their supported companies. [3]
Since super-angels invest more investments per partner, they have less of these partners for each investment. They cannot give you as much attention as a venture capitalist could have on the board of directors of your project. How much does this extra attention cost? It will vary greatly from one partner to another. In the general case, an agreement has not yet been reached on this issue. Therefore, at the current stage, each startup solves this individually.
Until now, venture capitalists ’complaints about the cost they added were similar to government. They may have made you feel better, but in this case you would have no choice if you needed the amount that only venture capital investors could provide. Now that there are competitors for venture capitalists, this will entail setting the market price for the assistance they offer. But what is interesting, no one yet knows what this price will be.
Do startups who really want to pererosis in large projects need some kind of advice and connections that only top venture capitalists can provide? Or will the super-angel money just fit in? Venture capitalists will say that you need them, and super-angels will say no. But the truth is that no one yet knows, not even the venture capitalists and super-angels themselves. All that is known to super-angels is that their new model seems quite promising, and it is worth trying, and all that venture capitalists know is that it seems promising enough to worry about it.
Whatever the outcome, the conflict between venture capitalists and super-angels is good news for founders. And not just for the obvious reason that a higher competition for deals marks the way to better conditions. The structure of these transactions is changing.
One of the significant differences between business angels and venture capital investors is the size of the share of your company that they want. Venture capitalists want a very large share. In rounds of financing series A, they will want a third of your company if they can get it. They don’t really care how much they pay for it, but they want a larger share because the number of A-series investments they can make is quite small. In traditional A series investments, at least one partner from a venture fund takes a place in the leadership of your company. [4] Since it is possible to be in a leadership position only for about five years, and each partner cannot occupy more than ten at a time, this means that a venture capital fund can only complete about two series A deals with one partner per year. This means that they need to get the largest possible share of the company, which is possible, in each of these rounds of financing. You really have to be a very promising start-up, so that a venture capitalist would spend one of his ten opportunities to be among project managers just for a small percentage of your firm’s share.
Since business angels usually do not occupy places in the project management, there is no such deterrent for them. They will be happy to acquire even a small percentage of your company's share. And although super-angels are in many ways mini-venture capital funds, they retain this critical property of business angels. They do not occupy leadership positions, so they do not need a large percentage of your company.
While this means that you will receive less attention from them, this is otherwise good news. The founders never really liked to give up such a large share of the capital that venture capitalists are requesting. It was too much of a firm to part with at one moment. Most of the founders, concluding Series A deals, would prefer to take half of this amount for half of the block of shares, and then see what grade they could get for the second half of the block of shares after using the first part of the funds to increase its value. But venture capitalists have never offered such an opportunity.
Now startups have another alternative. Now it's easy to enter the angel rounds in half the amount of rounds in Series A. Many of the startups that we finance go this way, and I believe this will be true for startups in general.
A typical large round of angel financing could be as much as $ 600,000 based on convertible loans with an estimated upper limit of $ 4 million before paying the investment. Assuming that when a bond is converted into a block of shares (in the later rounds, or upon acquisition), investors will receive 0.6 / 4.6, or 13% of the company's share, in this round. That is much less than 30-40% of the share of the company, which you usually give in rounds of series A, if you start this procedure earlier. [five]
But the advantage of these rounds to the sum of the average size is not only that it usually contributes to less dilution of capital. You also have more control. Almost always, after the angelic round, the founders can still influence the affairs of the company, while after the round of Serie A, they usually cannot boast with this. The typical structure of the board of directors after a round of Series A consists of two founders, two venture capitalists and a (supposedly) impartial fifth person. In addition, the conditions of series A usually give investors the right to ban various kinds of important decisions, including the sale of a company. The founders usually have de facto ample opportunities to control the situation after the round of series A, as long as everything goes well. But this is not the same thing as simply being able to do what you want, as before.
The third and rather significant advantage of the angelic rounds is that the deals on them are made with less hassle. It took weeks, if not months, to complete a trade on a regular round of Serie A. When a venture company can only conclude two transactions with one partner per year, it becomes more cautious in its actions. To get a regular round of series A, you have to go through a series of meetings, which can end with a full-fledged partner meeting, where the company as a whole will answer yes or no. This is a really scary part for the founders: not only because the rounds of Serie A take so much time, but also because at the end of this lengthy process, venture capitalists can still refuse. The chance to be rejected after such a meeting averages about 25%. In some firms, this figure is above 50%.
Fortunately for the founders, venture capitalists have become much more agile. Now, Silicon Valley investors are likely to need two weeks rather than two months. But they are still not as fast as business angels and super-angels, the most decisive of whom are sometimes determined to make a choice in a few hours.
Making an angel round is not only faster, but you will also receive feedback during the process. The Angelic Round does not belong to the “all or nothing” area, as in Series A rounds. It consists of many investors with varying degrees of seriousness, from honest ones who clearly put their resources into action, to scum who give you phrases like “come back” me to complete the round. " You usually start to collect money from the most obligatory investors, and diligently avoid questionable ones whose interest rises as the round ends.
But at every point of this process, you know how things are going. If investors cool down to your project, then maybe you will collect less money, but when investors lose interest while in the angel round of financing, the process at least politely disappears and does not collapse before your eyes, leaving with nothing, as it happens when a venture capital fund rejects you after a full-fledged partner meeting. Although, if it seems that investors have lit up with your idea, then you cannot take it like that and quickly finish the round of financing. But now convertible loans are becoming the norm, and in fact they raise the price to reflect demand.
However, venture capitalists have weapons that they can use against super-angels, and they have already begun to do so. Venture capitalists also began to make investments commensurate with business angels. The concept of “angel financing round” does not mean that all investors that are part of it are business angels; it simply describes the structure of the round. More and more often, participants include venture capital investors who invest in a hundred thousand or two. And when venture capitalists invest in angel rounds of financing, they can do what super-angels don't like so much. Venture investors are fairly independent of the evaluation procedures in the angel rounds - partly because they are in general, and partly because they do not really care about the revenue from the angel rounds, which they still mostly consider as a way of recruiting startups for rounds A further. Therefore, venture capitalists investing in angel rounds can increase the cost estimate for business angels and super angels who also invest in these rounds. [6]
It seems that some super-angels are concerned with the processes of valuation. Some of them refused startups sponsored by YC, after Demo Day, because their cost estimates were too high. This was not a start-up problem; By definition, a high valuation means a sufficient number of investors willing to accept it. But it was a mystery to me why super-angels bicker over these ratings. Didn’t they realize that a lot of revenue comes from just a few projects that have great success, and therefore it means much more what startups you have chosen, and not how much you paid for them?
After thinking about it for some time and drawing attention to other true signs, I had a theory explaining why super-angels can be smarter than they seem. For super-angels, it would make sense to want low ratings if they hope to invest in startups that they buy earlier. If you are hoping to stir up another Google, you should not worry if the estimate will cost 20 million. But if you are looking for firms that will be bought for 30 million, you will care. If you invest 20, and the company buys for 30, then your revenue will be only 1.5 times higher.It is possible to buy Apple.
Thus, if some of the super-angels would be looking for firms that could be quickly acquired, this would explain why they would be worried about cost estimates. But why should they look for such? Then, depending on the meaning of “fast,” this could actually be very beneficial. The company, which is acquired for 30 million, is considered a failure for a venture capitalist, but for a business angel this would result in a 10-fold revenue, and even more so, a quick 10-fold revenue. Profitability is what is important in investing, and not the multiplicity of revenue received, but the multiplicity of revenue for the year. If the super angel receives a 10-fold increase in income for 1 year, then such profitability is higher than that which the venture capitalist hoped to get from the company, which would take 6 years to go open.To obtain similar indicators, a venture investor would have to take into account the multiplicity equal to 106, i.e. 1 million. Even Google could not come to such an indicator.
Therefore, I think that at least some of the super-angels are looking for companies to buy. This is the only rational explanation of why they focus on the correct cost estimates, and not on the right firms. And if this is so, then it is necessary to conduct business with them not so much as with venture capitalists. Their valuation requirements will be tougher, but more compliant if you want to sell a project early.
So who will win: super-angels or venture capitalists? I think that the answer to this will be some representatives from those and others. They both will become more similar to each other. Super-angels will start investing larger amounts, and venture capitalists will gradually develop ways to more quickly invest more investments into smaller amounts. After 10 years, these market players will already be difficult to distinguish, and most likely there will be survivors from each group.
What does this mean for founders? Firstly, the high cost estimates that startups are currently receiving will not be so forever. To the extent that such assessments are managed by price-insensitive venture capitalists, and they will fall again if venture capitalists become more like super-angels and start to take less initiative in relation to these estimates. Fortunately, if this happens, then this process will take years.
The forecast for the short-term period is as follows: competition among investors will only increase, which is good news for you. Super angels will try to destabilize venture capitalists through faster actions, and venture capitalists will try to unbalance super angels by regulating cost estimates. That for the founders will result in the perfect combination: fast-ending rounds of funding with high cost estimates.
But remember that in order to get such a combination, your startup will have to attract both super-angels and venture capitalists. If you do not think that you have the potential to move into the category of open organizations, then you will not be able to use venture investors to increase the value of the angel round of financing.
There is a danger that venture capitalists will appear in the angelic round of financing: the so-called signaling risk. If venture investors do this only in the hope that they will invest more in the future, then what happens if this turns out to be wrong? This is a signal to all that they consider your project unsuccessful.
Is it worth worrying about this? Significance of signaling risk depends on the state of your project. If by the time you need the money, you’ll have charts on your hands that reflect increased revenue or improved trading monthly, you don’t need to worry about any signals sent by your current investors. Your results will speak for themselves. [7]
Although, if the next time you need money, you will not have accurate results yet, you may need to think more about the message that your investors can send if they don’t plan to invest more. I'm still not sure how much you will have to worry, because This whole situation with venture capitalists operating within the framework of angelic investments, has just emerged. But instincts tell me that you don't have to worry much. Signal risk is seen as something about which the founders are experiencing, and in fact is not a serious problem. As a rule, the only thing that can kill a good startup is the startup itself. Startups hurt themselves much more often than, for example, their rivals. I suspect that the signaling risk is also from this category.
The only thing that YC-funded startups are doing to mitigate the risk of using money from venture capitalists in the angel rounds is not to take too much from any of them. This will probably help if you can afford the luxury of rejecting a money offer.
Fortunately, more and more startups will have this opportunity. After decades of rivalry, which can best be described as internal, in the business of financing start-ups, real competition will finally start. This should be happening for at least a few years, and possibly much longer. If there is no major market crash, then the next couple of years will be a great time to look for funds for startups. And this situation is quite exciting, because This means that even more startups will appear.
[1] I also heard that they are called “mini-investors” and “micro-investors”. I do not know which of the names will be fixed.
There were several predecessors. Ron Conway has run the Angelic Foundation since the 1990s, and, in a sense, its First Round Capital is closer to super-angels than to a venture capital fund.
[2] This would not reduce their total revenue by a factor of ten, because investing in the future is likely to (a) lead them to lower losses from unsuccessful investments, and (b) will not allow them to have such a large percentage of ownership of a startup now. Therefore, it is difficult to accurately predict what will happen to their revenues.
[3] The reputation of the investor (his brand) comes mainly from the success of the companies he supports. Thus, successful venture capitalists have the advantage of a large brand. And it would go on forever if they used it to attract all the best new startups to their side. But I do not think that they will succeed. To get all the best startups, you have to do much more than just make them want you. You will also have to want them; you will have to recognize them when you see them, and this is much more difficult. Super-angels will remove the very cream that venture capitalists lose sight of. And this will entail a gradual leveling of the gap in the perception of top venture capitalists and super-angels.
[4] Although venture capitalists place two of their partners on the board of directors of your firm during a typical series A series, there are signs that venture capitalists may begin to retain their quota for leadership positions, switching to what was previously implied under the leadership of the angel rounds, consisting of two founders and one investor. What is also on the hands of the founders if this means that they still manage the company.
[5] In the round of financing of Series A, you usually have to give up most of the actual share of the stake that venture capitalists are buying, because they insist that you lower the value of these stocks (by increasing their number), not to mention the “stock of options”. I suppose that, nevertheless, this practice will gradually disappear.
[6] The best for founders, if they manage to get it, is a convertible loan without any upper limit assessment at all. In this case, the money invested in the angel round is simply converted into a stock at the time of the evaluation of the next round, no matter how large. Business angels and super-angels dislike unlimited loans. They have no idea how much of the company they buy. If the company is doing well and the rating of the next round is high, they will end up with only one small share of the company. Therefore, by agreeing to unlimited loans, venture investors who don't give a damn about the cost estimates in the angel rounds can put forward offers that super-angels simply cannot stand.
[7] It is clear that signaling risk will not be a problem either, if you never need more money. But startups are often mistaken about this.
Thanks to Sam Altman, John Bautista, Patrick Collison, James Lindenbaum, Reid Hoffman, Jessica Livingston, and Harjouhardu Jahrman Jimmerton, who are Jon-Jonesman. reading the draft version of this article.
After barely noticeable changes over the past ten years, the startup financing business is now in such a state that, at least in comparison, could be called a mess. We saw significant changes in the startup finance environment at Y Combinator (YC). Fortunately, one of them can be called a much higher valuation cost.
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The trends we saw may not be specific to YC specifically. It is a pity that I can’t say this in the past tense, but the main reason, most likely, is that we first see the trends, partly because the startups we sponsor are very much woven into the structure of Silicon Valley and quickly take advantage of different innovations, as well as partly because we invest so much that we have enough data to clearly see the whole scheme.
What we are seeing now is likely to be seen by everyone in the next two years. Therefore, I will explain what we see and what it will mean for you if you try to get a subsidy.
Super angels
Let me start by describing what the world of start-up financing was like. There were two sharply different types of investors: business angels and venture capitalists. Business angels are individual rich people who invest small amounts of their own money, while venture capitalists are employees of funds who invest huge amounts of money belonging to other people.
For ten years there were only these two types of investors, but now a third intermediate type has emerged: the so-called super-angels. [1] Their appearance provoked venture capitalists to implement a large number of investments like business angels. Therefore, the previously clear distinction between business angels and venture capital investors has become hopelessly blurred.
Previously, there was a neutral zone between business angels and venture capitalists. Business angels invest from 20 to 50 thousand dollars at a time, and venture capitalists usually from a million or more. Thus, the business angel financing round meant the accumulation of angel investments totaling maybe $ 200 thousand, while the venture capitalist financing round was a series A round in which one venture fund (or occasionally two) invests 1-5 million dollars.
The neutral zone between business angels and venture capitalists was a rather inconvenient circumstance for startups, since it coincided with the amount of money that many wanted to get. Most of the startups presented at Demo Day (a private event where a group of companies funded by YC represent themselves to a specially invited group of people), wanted to raise a sum of about 400 thousand dollars. But it was extremely difficult to reconcile this requirement, since the amount was too large for angel investments, and most venture capitalists were not interested in making such small investments. Here is the main reason for the emergence of super-angels. They respond to market needs.
The emergence of a new type of investors has become important news for startups, because there were only two types, and they rarely could compete with each other. Super-angels compete with both. This will soon change the rules for seeking investment. I still do not know what these rules will be, but it seems that most of these changes will only benefit.
A super angel possesses some qualities of a business angel, and some qualities of a venture capitalist. Usually this is a separate person, as is the case with business angels. In fact, many of the current super-angels were originally business angels of the classical type. But, like venture capitalists, they invest funds owned by other people. This allows them to invest larger amounts than business angels: the typical investment of a super angel at the moment is about 100 thousand dollars. They make investment decisions quickly, like business angels. And they conclude much more investment transactions per partner, unlike venture capitalists, up to 10 times more.
The fact that super-angels invest other people's money makes them doubly dangerous for venture capitalists. They do not just compete for startups, they also compete for investors. What super-angels really are is a new form of a dynamic, light-hearted venture fund. And some of us from the world of technology know what usually happens when something that can be described from this point of view appears. This is usually called replacement.
And will she? At the moment, some of the startups taking money from super-angels, exclude the possibility of taking money from a venture capitalist. They simply delay this event, which is still a problem for venture capital investors. Some startups who postpone the use of such funds can do so well with the money of business angels that it would never enter their heads to ask. And those who have used the funding of a venture capitalist will be able to get higher value estimates when they need the money again. If the best start-up gets a score at a cost 10 times higher when they use money from rounds of A-series financing, it would cut venture capitalists' revenues from winners at least 10 times. [2]
Thus, I believe that venture capital funds should seriously worry about super-angels. But there is one thing that can save them to some extent. This is an unequal distribution of the final results: in fact, all revenues are concentrated in several startups with great success. The mathematical expectation of a startup is the percent probability that this startup is Google. Therefore, if we take the victory as a question of a full refund, then super-angels could win almost all the battles for private startups and still lose the war if they simply could not get those few big winners. And there is a possibility that this could happen because top venture funds have a better reputation, and they can also do more for their supported companies. [3]
Since super-angels invest more investments per partner, they have less of these partners for each investment. They cannot give you as much attention as a venture capitalist could have on the board of directors of your project. How much does this extra attention cost? It will vary greatly from one partner to another. In the general case, an agreement has not yet been reached on this issue. Therefore, at the current stage, each startup solves this individually.
Until now, venture capitalists ’complaints about the cost they added were similar to government. They may have made you feel better, but in this case you would have no choice if you needed the amount that only venture capital investors could provide. Now that there are competitors for venture capitalists, this will entail setting the market price for the assistance they offer. But what is interesting, no one yet knows what this price will be.
Do startups who really want to pererosis in large projects need some kind of advice and connections that only top venture capitalists can provide? Or will the super-angel money just fit in? Venture capitalists will say that you need them, and super-angels will say no. But the truth is that no one yet knows, not even the venture capitalists and super-angels themselves. All that is known to super-angels is that their new model seems quite promising, and it is worth trying, and all that venture capitalists know is that it seems promising enough to worry about it.
Financing rounds
Whatever the outcome, the conflict between venture capitalists and super-angels is good news for founders. And not just for the obvious reason that a higher competition for deals marks the way to better conditions. The structure of these transactions is changing.
One of the significant differences between business angels and venture capital investors is the size of the share of your company that they want. Venture capitalists want a very large share. In rounds of financing series A, they will want a third of your company if they can get it. They don’t really care how much they pay for it, but they want a larger share because the number of A-series investments they can make is quite small. In traditional A series investments, at least one partner from a venture fund takes a place in the leadership of your company. [4] Since it is possible to be in a leadership position only for about five years, and each partner cannot occupy more than ten at a time, this means that a venture capital fund can only complete about two series A deals with one partner per year. This means that they need to get the largest possible share of the company, which is possible, in each of these rounds of financing. You really have to be a very promising start-up, so that a venture capitalist would spend one of his ten opportunities to be among project managers just for a small percentage of your firm’s share.
Since business angels usually do not occupy places in the project management, there is no such deterrent for them. They will be happy to acquire even a small percentage of your company's share. And although super-angels are in many ways mini-venture capital funds, they retain this critical property of business angels. They do not occupy leadership positions, so they do not need a large percentage of your company.
While this means that you will receive less attention from them, this is otherwise good news. The founders never really liked to give up such a large share of the capital that venture capitalists are requesting. It was too much of a firm to part with at one moment. Most of the founders, concluding Series A deals, would prefer to take half of this amount for half of the block of shares, and then see what grade they could get for the second half of the block of shares after using the first part of the funds to increase its value. But venture capitalists have never offered such an opportunity.
Now startups have another alternative. Now it's easy to enter the angel rounds in half the amount of rounds in Series A. Many of the startups that we finance go this way, and I believe this will be true for startups in general.
A typical large round of angel financing could be as much as $ 600,000 based on convertible loans with an estimated upper limit of $ 4 million before paying the investment. Assuming that when a bond is converted into a block of shares (in the later rounds, or upon acquisition), investors will receive 0.6 / 4.6, or 13% of the company's share, in this round. That is much less than 30-40% of the share of the company, which you usually give in rounds of series A, if you start this procedure earlier. [five]
But the advantage of these rounds to the sum of the average size is not only that it usually contributes to less dilution of capital. You also have more control. Almost always, after the angelic round, the founders can still influence the affairs of the company, while after the round of Serie A, they usually cannot boast with this. The typical structure of the board of directors after a round of Series A consists of two founders, two venture capitalists and a (supposedly) impartial fifth person. In addition, the conditions of series A usually give investors the right to ban various kinds of important decisions, including the sale of a company. The founders usually have de facto ample opportunities to control the situation after the round of series A, as long as everything goes well. But this is not the same thing as simply being able to do what you want, as before.
The third and rather significant advantage of the angelic rounds is that the deals on them are made with less hassle. It took weeks, if not months, to complete a trade on a regular round of Serie A. When a venture company can only conclude two transactions with one partner per year, it becomes more cautious in its actions. To get a regular round of series A, you have to go through a series of meetings, which can end with a full-fledged partner meeting, where the company as a whole will answer yes or no. This is a really scary part for the founders: not only because the rounds of Serie A take so much time, but also because at the end of this lengthy process, venture capitalists can still refuse. The chance to be rejected after such a meeting averages about 25%. In some firms, this figure is above 50%.
Fortunately for the founders, venture capitalists have become much more agile. Now, Silicon Valley investors are likely to need two weeks rather than two months. But they are still not as fast as business angels and super-angels, the most decisive of whom are sometimes determined to make a choice in a few hours.
Making an angel round is not only faster, but you will also receive feedback during the process. The Angelic Round does not belong to the “all or nothing” area, as in Series A rounds. It consists of many investors with varying degrees of seriousness, from honest ones who clearly put their resources into action, to scum who give you phrases like “come back” me to complete the round. " You usually start to collect money from the most obligatory investors, and diligently avoid questionable ones whose interest rises as the round ends.
But at every point of this process, you know how things are going. If investors cool down to your project, then maybe you will collect less money, but when investors lose interest while in the angel round of financing, the process at least politely disappears and does not collapse before your eyes, leaving with nothing, as it happens when a venture capital fund rejects you after a full-fledged partner meeting. Although, if it seems that investors have lit up with your idea, then you cannot take it like that and quickly finish the round of financing. But now convertible loans are becoming the norm, and in fact they raise the price to reflect demand.
Cost estimate
However, venture capitalists have weapons that they can use against super-angels, and they have already begun to do so. Venture capitalists also began to make investments commensurate with business angels. The concept of “angel financing round” does not mean that all investors that are part of it are business angels; it simply describes the structure of the round. More and more often, participants include venture capital investors who invest in a hundred thousand or two. And when venture capitalists invest in angel rounds of financing, they can do what super-angels don't like so much. Venture investors are fairly independent of the evaluation procedures in the angel rounds - partly because they are in general, and partly because they do not really care about the revenue from the angel rounds, which they still mostly consider as a way of recruiting startups for rounds A further. Therefore, venture capitalists investing in angel rounds can increase the cost estimate for business angels and super angels who also invest in these rounds. [6]
It seems that some super-angels are concerned with the processes of valuation. Some of them refused startups sponsored by YC, after Demo Day, because their cost estimates were too high. This was not a start-up problem; By definition, a high valuation means a sufficient number of investors willing to accept it. But it was a mystery to me why super-angels bicker over these ratings. Didn’t they realize that a lot of revenue comes from just a few projects that have great success, and therefore it means much more what startups you have chosen, and not how much you paid for them?
After thinking about it for some time and drawing attention to other true signs, I had a theory explaining why super-angels can be smarter than they seem. For super-angels, it would make sense to want low ratings if they hope to invest in startups that they buy earlier. If you are hoping to stir up another Google, you should not worry if the estimate will cost 20 million. But if you are looking for firms that will be bought for 30 million, you will care. If you invest 20, and the company buys for 30, then your revenue will be only 1.5 times higher.It is possible to buy Apple.
Thus, if some of the super-angels would be looking for firms that could be quickly acquired, this would explain why they would be worried about cost estimates. But why should they look for such? Then, depending on the meaning of “fast,” this could actually be very beneficial. The company, which is acquired for 30 million, is considered a failure for a venture capitalist, but for a business angel this would result in a 10-fold revenue, and even more so, a quick 10-fold revenue. Profitability is what is important in investing, and not the multiplicity of revenue received, but the multiplicity of revenue for the year. If the super angel receives a 10-fold increase in income for 1 year, then such profitability is higher than that which the venture capitalist hoped to get from the company, which would take 6 years to go open.To obtain similar indicators, a venture investor would have to take into account the multiplicity equal to 106, i.e. 1 million. Even Google could not come to such an indicator.
Therefore, I think that at least some of the super-angels are looking for companies to buy. This is the only rational explanation of why they focus on the correct cost estimates, and not on the right firms. And if this is so, then it is necessary to conduct business with them not so much as with venture capitalists. Their valuation requirements will be tougher, but more compliant if you want to sell a project early.
Forecast
So who will win: super-angels or venture capitalists? I think that the answer to this will be some representatives from those and others. They both will become more similar to each other. Super-angels will start investing larger amounts, and venture capitalists will gradually develop ways to more quickly invest more investments into smaller amounts. After 10 years, these market players will already be difficult to distinguish, and most likely there will be survivors from each group.
What does this mean for founders? Firstly, the high cost estimates that startups are currently receiving will not be so forever. To the extent that such assessments are managed by price-insensitive venture capitalists, and they will fall again if venture capitalists become more like super-angels and start to take less initiative in relation to these estimates. Fortunately, if this happens, then this process will take years.
The forecast for the short-term period is as follows: competition among investors will only increase, which is good news for you. Super angels will try to destabilize venture capitalists through faster actions, and venture capitalists will try to unbalance super angels by regulating cost estimates. That for the founders will result in the perfect combination: fast-ending rounds of funding with high cost estimates.
But remember that in order to get such a combination, your startup will have to attract both super-angels and venture capitalists. If you do not think that you have the potential to move into the category of open organizations, then you will not be able to use venture investors to increase the value of the angel round of financing.
There is a danger that venture capitalists will appear in the angelic round of financing: the so-called signaling risk. If venture investors do this only in the hope that they will invest more in the future, then what happens if this turns out to be wrong? This is a signal to all that they consider your project unsuccessful.
Is it worth worrying about this? Significance of signaling risk depends on the state of your project. If by the time you need the money, you’ll have charts on your hands that reflect increased revenue or improved trading monthly, you don’t need to worry about any signals sent by your current investors. Your results will speak for themselves. [7]
Although, if the next time you need money, you will not have accurate results yet, you may need to think more about the message that your investors can send if they don’t plan to invest more. I'm still not sure how much you will have to worry, because This whole situation with venture capitalists operating within the framework of angelic investments, has just emerged. But instincts tell me that you don't have to worry much. Signal risk is seen as something about which the founders are experiencing, and in fact is not a serious problem. As a rule, the only thing that can kill a good startup is the startup itself. Startups hurt themselves much more often than, for example, their rivals. I suspect that the signaling risk is also from this category.
The only thing that YC-funded startups are doing to mitigate the risk of using money from venture capitalists in the angel rounds is not to take too much from any of them. This will probably help if you can afford the luxury of rejecting a money offer.
Fortunately, more and more startups will have this opportunity. After decades of rivalry, which can best be described as internal, in the business of financing start-ups, real competition will finally start. This should be happening for at least a few years, and possibly much longer. If there is no major market crash, then the next couple of years will be a great time to look for funds for startups. And this situation is quite exciting, because This means that even more startups will appear.
Notes
[1] I also heard that they are called “mini-investors” and “micro-investors”. I do not know which of the names will be fixed.
There were several predecessors. Ron Conway has run the Angelic Foundation since the 1990s, and, in a sense, its First Round Capital is closer to super-angels than to a venture capital fund.
[2] This would not reduce their total revenue by a factor of ten, because investing in the future is likely to (a) lead them to lower losses from unsuccessful investments, and (b) will not allow them to have such a large percentage of ownership of a startup now. Therefore, it is difficult to accurately predict what will happen to their revenues.
[3] The reputation of the investor (his brand) comes mainly from the success of the companies he supports. Thus, successful venture capitalists have the advantage of a large brand. And it would go on forever if they used it to attract all the best new startups to their side. But I do not think that they will succeed. To get all the best startups, you have to do much more than just make them want you. You will also have to want them; you will have to recognize them when you see them, and this is much more difficult. Super-angels will remove the very cream that venture capitalists lose sight of. And this will entail a gradual leveling of the gap in the perception of top venture capitalists and super-angels.
[4] Although venture capitalists place two of their partners on the board of directors of your firm during a typical series A series, there are signs that venture capitalists may begin to retain their quota for leadership positions, switching to what was previously implied under the leadership of the angel rounds, consisting of two founders and one investor. What is also on the hands of the founders if this means that they still manage the company.
[5] In the round of financing of Series A, you usually have to give up most of the actual share of the stake that venture capitalists are buying, because they insist that you lower the value of these stocks (by increasing their number), not to mention the “stock of options”. I suppose that, nevertheless, this practice will gradually disappear.
[6] The best for founders, if they manage to get it, is a convertible loan without any upper limit assessment at all. In this case, the money invested in the angel round is simply converted into a stock at the time of the evaluation of the next round, no matter how large. Business angels and super-angels dislike unlimited loans. They have no idea how much of the company they buy. If the company is doing well and the rating of the next round is high, they will end up with only one small share of the company. Therefore, by agreeing to unlimited loans, venture investors who don't give a damn about the cost estimates in the angel rounds can put forward offers that super-angels simply cannot stand.
[7] It is clear that signaling risk will not be a problem either, if you never need more money. But startups are often mistaken about this.
Thanks to Sam Altman, John Bautista, Patrick Collison, James Lindenbaum, Reid Hoffman, Jessica Livingston, and Harjouhardu Jahrman Jimmerton, who are Jon-Jonesman. reading the draft version of this article.
Source: https://habr.com/ru/post/342362/
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