Venture capitalists may invest in innovation. But within the venture-capital industry itself, innovation is rare.
There are signs, however, that the old boys network is changing. AngelList, a social network that connects startups with investors, is attempting to lead the way.
The site helps solve a problem that Naval Ravikant, AngelList's co-founder, saw emerging two years ago. The cost of starting a new Web company had plummeted, and for early funds, scores of young Internet startups were flocking to so-called "angels" -- people who invest relatively small amounts of their own money in newborn businesses. But finding an angel was no easy task. At the time, few promoted themselves online and, until recently, there was no one go-to directory of angels.
Since launching in 2010, AngelList has become that directory for many, with 2,500 investors and 13,000 startups using the service. Now an Atlanta-based startup that sells medical iPad apps can sign up on AngelList to connect with an investor interested in bankrolling a healthcare startup in the South.
It's simple:
- Startups create a profile and pick which investors can see them.
- As soon as they share themselves, investors see the startup in their feed.
- Investors see 10 to 20 new startups in their feeds each day, in addition to the startups AngelList admins send to investors based on the interests they've indicated.
So far, Ravikant says AngelList connections have lead to at least 750 individual investments in an estimated 400 companies. (Those numbers are probably low, he notes, since not all deals are ultimately reported to AngelList.)
Deals born on AngelList typically range from $50,000 to $1 million a pop, and go to young startups. The industry calls this type of financing "seed-funding," and its soaring popularity since the beginning of 2010 has been a boon to AngelList, which primarily serves the seed market.
Data from CB Insights, a market research firm, shows that seed investments -- mostly in Internet startups -- jumped from a mere one percent of all deals during the third quarter of 2009 to a whopping 11 percent of all venture investment deals in the third quarter of 2010. Since then, seed investments have hovered at around 10 percent of all venture deals, CB Insights said.
And while Silicon Valley once left sub-$1 million investments in less-proven startups to angels, now big-name venture firms, investor groups and even Google are starting to think small.
Joe Kraus of Google Ventures, the venture fund of Google, which announced at last week's TechCrunch Disrupt conference plans to do 80-100 seed investments this year said.
“You’re seeing the broad institutionalization of seed investments.”
Accordingly, AngelList is seeing a large number of institutional investors use the service to find young startups. Thirty percent of the investors on AngelList are venture-capital firms. And while VC firms account for just 10 percent of investments reported to AngelList, it's likely they make up a much larger share of the total dollars invested, as VCs tend to make larger bets. But Ravikant doesn't track exact amounts in each investment, so it's hard to say, he says.
So why did Ravikant and his partner Babak Nivi name the service AngelList when nearly a third of its users aren't even angels? He says.
"It has to do with the evolution of the seed market. Most of the money used to come from angels and super angels and now most of the money probably comes from VCs."
Although it's riding the seed-funding wave washing through both realms, AngelList is yet to make any money. Part of the reason is that the site is just a social network, not an online exchange. Deals born on AngelList are executed offline. After an entrepreneur and investor connect on the network, the two hash out a deal on their own.
Unlike SecondMarket and Sharespost, two online exchanges that have been cashing in on the business of connecting startups with investors by taking a small cut of the transactions they arrange, AngelList is only in the business of making connections.
Ravikant, 37, says he has no immediate plans to change that. The company supports itself with a grant from the Kauffman Foundation, an entrepreneurship-focused advocacy group, and Ravikant found early success as a serial entrepreneur: He co-founded epinions, a product review site and vast.com, a classifieds site. He was also an early investor in Twitter and Foursquare.
As you might expect, being in the business of connecting startups with investors provides Ravikant with a front-row seat to the latest trends in Silicon Valley and beyond, including who gets money these days -- and why. Investment seekers, listen up.
How did AngelList come about?
I was operating a blog with my partner Nivi called Venture Hacks, which became one of the go-to guides on raising venture capital. But we started getting a common request from readers. They would say,
"Don't tell me how to negotiate a term sheet, tell me how to get a term sheet."
So we built this product to connect entrepreneurs with investors. [AngelList] began as a mailing list in 2010, which we ran for six months, and then toward the middle of last year, we started coding furiously on it.
What percentage of the startups that have received funding through AngelList are based in Silicon Valley?
The data is a bit fuzzy, since we don't track the actual investments but rely on self-reporting. The stats are: Silicon Valley, 53 percent; New York, 18 percent; Los Angeles, 6 percent; Europe, 4 percent; Boston, 4 percent; Austin, 5 percent; Seattle, 3 percent; and the rest, 7 percent.
How have things changed from your time as an entrepreneur in the late 1990s?
Back when I was an entrepreneur, the environment was a lot more friendly toward investors. These days, because it takes a lot less money to start a company and you can raise money from many more sources, and because the information is now out there on various blogs like Brad Feld's site,Yokum's site and Series Seed documents, it's gotten a lot simpler. So I think the opportunity for investors to take advantage of entrepreneurs is diminished.
Has the average age of successful entrepreneurs dropped since then?
Yes, I'm 37 and I almost feel too old to be doing this relative to all the 20-somethings running around. Berkeley is now running Founder School and Stanford is running StartX Labs, which are these on-campus incubators. And students are going into these incubators before they've even graduated. Traditionally, nobody thought young people had the resources. But now code is a resource. These days, code is power. And the capital required is so low that an investor can bet on 19-year-olds who have never done anything before just because they seem really smart and have managed to build something on their computer by themselves or with their buddy before they even raised any money.
So can being relatively older hinder an entrepreneur's ability to attract investors?
It can, and here's why: If you're a little older, you probably have a family and a lifestyle that requires a higher burn rate. You have these young kids going into Techstars, and for $20,000, they can live for a summer or six months and build a prototype. Whereas if you have an older team that has more personal financial obligations, you say, well, we need to raise half a million to fund our team to build a prototype. And so if one team needs $20,000 and the other needs half a million, it's just a different risk to reward ratio.
So what's an older entrepreneur to do?
What you often find them doing is they either have the capital to play and they seed-fund themselves or they don't compete against the college students in the early-stage market. That is, they might go into disciplines where the initial prototype costs are high anyway. For example, if you're building a semiconductor or a pharmaceutical, that's going to require a few million, so at that point, there's less that a young team with $20,000 can do to displace you.
Have you seen the average age of startup investors also drop?
Yes, but not as much. You definitely have a lot more rich people who sold their company to Google or were early employees at Facebook. Maybe they joined Facebook when they were 20, and now they're 24 and wealthy. You see a bit of that -- but not a lot. The angels and investors still tend to be an older bunch than the entrepreneurs. That's because the bulk of the capital, even in the seed market, comes from VCs who run seed funds. And a limited partner is not going to fork over $100 million to an investor who shows up fresh out of school. So there's sort of a minimum age threshold when it comes to VCs.
Did AngelList play a role in fueling the latest tech bubble?
There's definitely been a rise in valuations in seed-stage companies, and we try to discourage companies from posting high valuations. We do expose startups to many more investors, which brings their price up, but we also expose the investors to many more startups, which brings their price down. So it sort of cancels out.
We also try to be a neutral marketplace and not take a point of view on this. But here's an analogy: When the NASDAQ goes up and then it crashes, is it the fault of the people who run the NASDAQ? If the seed-funding market collapses or retreats, is that going to be our fault? I don't think so. We're just trying to operate a platform that makes it more efficient. But efficiency can work both ways. In a very efficient market, you actually get faster volatility and faster adjustments. That's because as soon as news comes in, it flows through all the participants instantly. You can see that happening on AngelList. Pre-AngelList, when the seed market was going to slow down or shut down, it would take a long time for that information to ripple across the market. Whereas in the age of online markets, that information travels a lot faster. So you can see, for example, a hundred companies reduce their fundraising prices the same day.
So is AngelList a stock market for startups in a sense, similar to, say, a SecondMarket?
SecondMarket is a place where you trade secondary shares. We operate when the company itself is raising $300,000 or $1 million, as opposed to SecondMarket, where there's a company that's worth $50 billion, and one of their shareholders is selling $500,000 of stock to a third party. We're different, first, because we deal in primary capital -- the company itself is raising money -- and second, we're much, much, much earlier stage. And the way the market behaves at the very early stages is there are no financials, there are no customers, there are no revenues. At this point, it's about trust, and people and vision and credentials and who is associated with your company, and what school you went to and where is your prototype and how do you think it will beat YouTube. SecondMarket's model works for companies that are further along. But for a raw startup, like a Mark Zuckerberg in his dorm room, it won't work for that.
Do you have any plans to monetize AngelList in the near future and, if so, how?
We don't have any immediate plans to make money. But there's a huge amount of active investing happening on AngelList. I was an investor myself, and I may be an investor again. We can, for example, raise a fund and invest it in some of the companies ourselves, and we would have the advantage of a great brand, good data, and we would be helping the startups in a very scalable way.
Entrepreneur Spotlight
- Name: Naval Ravikant
- Company: AngelList
- Age: 37
- Location: San Francisco
- Founded: 2010
- Employees: 9
- Revenues: 0
- Website: www.angel.co
COMMENTARY: The key to raising seed stage capital is to keep the amount below $50,000. That's the sweet spot. Anything more than this, and this scares away angel investors. My advice never give away more than 40% interest in your startup, unless you are really stupid and desperate. Unfortunately, I have encountered both types. Don't set a very high valuation. That scares them away too. Don't compare your startup valuation with other startups like yours. The two are not mutually exclusive. You should meet what I call the Big Five investment criteria:
- Filling a real need or solving a real problem in the marketplace.
- Management team (preferably in the chosen industry).
- Large market potential (think billions).
- Proven business model (you have customers and/or revenues)
- Compelling value proposition (valuable IP, trade secrets, no competition, two year head start on everybody else, high barriers to entry, way ahead of the learning curve.
Don't expect investors to invest so you can build your website. Build it yourself, alpha and beta test it. Don't ask for an NDA, that only places a barrier.
Have a investor deck, summary and/or business plan and financial projections ready to go. Don't forget to refind your investor pitch.
Courtesy of an article dated September 20, 2011 appearing in The Huffington Post's The Entrepreneur Spotlight
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