If the company doesn't get off the ground (vast majority of investments) you lose all your money.
If the company does get off the ground, you are the lowest on the pref stack, and you have no ability to follow on to protect your position. You're not a contributing employee or meaningful future source of capital so your piece of the pie is just dead weight on the cap table. This means every single subsequent investor (and the founders, if they care more about money than their relationship with you) has an incentive to cram you down.
So net net the chances of success from passive angel investing are only slightly better than playing the lottery.
Best approach would be to make very few investments, where you're able to build a special relationship with the founder, and ideally get a board seat to defend your stake.
===
Edit - to be clear, I don't think startups should be giving board seats to angel investors. It does happen in exceptional cases where the angel is uniquely valuable to the company, and those are the cases where the angel can defend themselves. But they are rare, which is why it's mainly a bad game to play.
Top VCs—who see the best deals and run deep diligence—still only have a 1–5% hit rate. As an angel, you don’t have that level of access or time. Even if you get strong referrals, you’d need to be 10–15x better than elite VCs to pick winners in a small portfolio. Unless you’re investing in at least 10 companies, it’s statistically a losing game.
My experience: I invested in ~200 companies early stage (with some winners like HuggingFace, Checkr & more).
I've not seen that much but what I've seen is "Let's ask a few buddies and google a bit".
The takeaway that I agree with is the parent's and OP's point that you will need to invest in a lot of companies, perhaps 30-50, and you will nee to be in for the long term.
> with some winners like HuggingFace
By the standards of people who invest in 100 start-ups at once, that's success.
You see this with celebrities investing, and with the intro "I was an early investor in ____" brag.
When you're multiples are 10,000x revenue, a lot of people will shell out $10k to get you onto a few startup services...
That's the investment itself. Not getting paid back.
But I agree making money should not be the focus. I like to think of it as a "giving back to society" hobby. I enjoy supporting entrepreneurs, society needs more of them. I enjoy talking with the other investors, most of them other entrepreneurs like me. By contrast, other people my age buy a boat or a Porsche, angel investing makes me feel more useful.
For reference: I've only made 6 investments as an angel over the last decade, mostly SaaS, one exited at 12x, one died, four are still going at various levels of success but all healthy. So making money is possible, even if it's not the goal.
Nothing illegal about it when the company needs the money, just one investor can write the terms they want, and the founders are on board with the plan.
A company should not work to enrich some shareholders at the expense of others
The bigger fear is a non-exit scenario, where the company becomes profitable, possibly pays out large investors to maintain the relationship, and founders just take massive salaries. So no liquidation event that benefits angel investors.
Instead of being shoved down the cap table by a giant tranche of series A preferred stock, might it not be appropriate to give the angel a payday instead?
I guess some angels want to keep their fingers in the pie? And, more likely, it’s just not a reasonable expectation to see an exit like that way before anyone else does?
You end up taking profit at a 1.1 return and in 10 years it ends up being uber.
Positive skew strategies (lose a little on a lot of bets and win big on a few) are impossible to use take profits on because you need those big winners.
Here’s an example of a portfolio company that not only converted angel investor ownership to common stock, but also drastically decreased the number of shares.
I started asking for pro-rata side letters in 2017. But I recently found out (the hard way) that it’s common for follow-on investors to completely disregard any pro-rata rights of angel investors.
Perhaps also relevant:
Founders, like entry-level workers, are closer to an option than a stock. There's a good chance that the payoff will be negative (in the sense that sometimes a company going to zero is a significant time-consuming process to investors). Someone who continuously buys out-of-the-money options will bleed money over time,
At the A you usually expand to 5, adding the lead of the A round and an independent board member. Beyond that, it’s common for the earlier investors to get replaced on the board in future rounds and maintain observer rights.
A pro rata opportunity? Maybe but why wrangle 50 angels when you can have 2 firms cover it?
Is this right? An organization running a lottery—their whole job is to run a lottery, they’ve staked their reputation on the fact that they pay out to winners. The one with a reputation to defend is the one paying out.
The company angel investor is dealing with a company that, ultimately, wants to either get into position to sell some service, or wants to get bought. Their raison d'etre isn’t being a reliable payer-out of winners. I’d expect the lottery to be much more honest.
OP made an unbacked assertion and that can be ignored as such.
Source? Footnotes?
Getting away from the original posts, but: The reflex to ask for sources probably comes from a good place. But, it has become too immediate nowadays online, to the point where (in my opinion) it gets in the way of discussion.
The request for a source should generally include a note on how the fact being questioned will impact the overall argument. Friendly conversations shouldn’t become asymmetrical homework generating exercises.
Take a couple years to learn how the industry works, make connections, maybe even get lucky with some bets. Then use all that to either start your own fund or get a job at a big Silicon Valley VC firm.
The best use of angel investing if anything is building a track record, for VC.
I think its the recapitalizations that make the investments unfair. To buy a stake in a company then have it diluted by the bigger fish once a lot of the risk has been mitigated is BS if you ask me.
I understand that early investors are taking the most risk, and clearly there's a lot of downside. But what prevents them from being able to realize or capture the upside?
I've heard a theory, a few different times now, that bigger, later investors effectively collude (descriptive term, not value judgment) with founders to squeeze out early founders and employees (common shareholders) via unfair terms, such as excessive dilution (accepting too low a valuation for larger investment), excessive liquidation preferences (2x or more), etc., and then topping the founders up via side deals. I've heard that, by virtue of squeezing out passive participants, they're able to offer more to the founders, and that incentivizes the founders to take their deal over other alternatives. Does anyone know more specifics about how this happens? In particular, how is this not a breach of fiduciary duty to passive participants?
It's definitely possible to write anti-dilution clauses, etc. But, I've heard that more or less no one writes them, and more importantly no one accepts them. If this is a pretty well-known game, why haven't countermeasures become popular?
For my personal anecdote, I was once an early engineer - the first hire after their Series A - at a small startup that never found product-market fit. The economy was bad, and they were running out of money, and they took - as I understood it - a dubious Series B led by a dubious investor. The founders were very vague about the terms of the round. In particular, the founders revealed that the investors took liquidation preference, that it was greater than 1x, but absolutely refused to say how much. That always left a bad taste in my mouth. When I left, I didn't exercise my options. In the end, the company floundered, and is a zombie to this day. In that regard, I suppose that the particulars of that round don't really matter - none of us were seeing anything regardless.
I'd really appreciate if anyone closer to the money part of this industry could weigh in.
> a small startup that never found product-market fit. The economy was bad, and they were running out of money, and they took - as I understood it - a dubious Series B led by a dubious investor
The unfortunate reality is that if a startup cannot survive for long on its own, the economy is bad, and investment interest is low - then past invested effort from founders and employees and money from early investors is a sunk cost. They have together created something with almost no independent economic value.
The later investors can buy the assets created so far at near zero cost (the alternative is a bankruptcy auction). They can reasonably argue that the future value of the business is all from their investment, together with a deal to hire the founders and current employees to invest future effort into it.
But consider this. If that were truly the case, why would the later investors work so hard to maneuver their way into this allegedly worthless startup? Why not hire an entirely separate team to build an entirely separate app, and they can own the whole thing with no fuss? If they value the founding team, why not tempt them away to a new venture, and shed all the baggage? Economics has an idea called "revealed preferences" - that words can be deceiving, but costly behaviors are honest - and this does look to be the revealed preferences of the investors.
In other words, just because the later investors can use the threat of insolvency to get their way doesn't mean what's already there doesn't have value.
In extremely competitive pursuits with insanely good outcomes, you are going to find an enormous number of people trying to make it and fail.
Some things are rigged - most competitive "winner takes all" or close to it are just insanely difficult. Startup investing is probably the least rigged thing in the world, it's just crazy difficult.
>Think about all that's happened since 2009 when I started: multiple presidential administrations, a global pandemic, zero interest rates, and now high inflation and higher interest rates. My investments have had to withstand all of these shifts, and many didn't make it through.
Really interesting stuff (for me, as an outsider).
Can anyone comment if VCs are looking for shorter fund cycles or are the macro economic shifts what's capping it at 10 years?
I once read one reason why startups take so long to IPO is so private investments can benefit longer from the growth
As an LP, I would be excited for liquidity in 10 years at this point.
It seems like even for successful companies, there isn't a clear path to an exit for many of them. Add to that the increase in late-stage investors, and there isn't much of an incentive to exit.
Thankfully, I can be patient, but I wonder sometimes if some of these companies will ever exit.
Waiting for a few as well, good luck!
I would imagine that building these smaller companies looking for smaller exists would be easier and more predictable.
Economics must have made a term for this part of the venture ecosystem. “Seed capital” misses the significant social and class aspects of the behavior.
Call it charity or call it buying gal-pals with hubby’s money but primarily investing based on identity seems like a bad idea
If
> Tecco is married to Jeff Hammerbacher, cofounder of Cloudera
But no terms are going to save you from the reality that a failing startup that needs to raise more money will have to accept dilutive terms. You might be able to restrict it, but the alternative is that they can’t raise at all and shut down.
TFA identified a few exits that should have returned some money that did not. ensuring protection of minority shareholder rights so that this doesn't happen is an important "plug leaks in your game" hygiene
Most exits in that range are where the exit is less than the capital raised, or a little more but where the last round raised was questionable and was done on terms that the minority shareholders may complain about but where they didn't have any other option - they were hosed no matter what.
I've seen hundreds of them. And it has little to do with size of position, it's where you sit in the preference stack. Anyone who thinks that early round investors should get a pay out on an exit no matter what just doesn't understand pretty basic finance.
"exit" != success, for anyone involved, usually.
"Next week, I'll follow up with the cold,
hard data on my portfolio performance"
1. Investors choosing poorly
2. Investors not managing relationships well after they invest.
Maybe we can open up the discussion to involve the other design decisions that go into how funders structure deals and involvement.
- Other investment assets have seen higher inflation rates in the US in the last decade
- Buffet et al are holding cash, ostensibly for lack of qualified opportunities
But it would be interesting to compare with China, Europe, LatAm...
Between this and giant PE coming downmarket, we should all just bootstrap and say “f off” to outside capital. With AI coding models, you don’t need that money to build anyway.
no, they don't. what is mega-rich keeps price inflating, but who is mega-rich are always new names.
if you are young, afauk Brin and Page have always been mega-rich, but just a little older and you remember when nobody knew who they were, nor had anybody heard of Zuck, or Musk, etc. and Jobs was a washed up has-been
Nobody's forcing you to respond, you know?
Another is to think about people poorer and less fortunate than yourself who might look at you dimly for what you take for granted.
I’m not saying that morality is relative, but points of view sure are.
Post ZIRP is arguable the more normal situation, in which case one really has to ask...was it ever real
There is lots of homelessness because housing is expensive. https://www.noahpinion.blog/p/everything-you-think-you-know-...
Angle investors are vital to the startup community as they take a lot of risk and are able to fund ideas that sound too crazy to get regular funding. In this case though given a hit rate of let's say 1% for argument's sake, 54 investments in 15 years is too low. You need hundred of investments to make the math work. Also doing it for fun and to learn is laudable but in the end hitting an Uber or an Airbnb is all that matters. It sounds like the job became full time consulting which is great if you're wealthy and want to give back to the community but can become unsustainable otherwise.
tl;dr: returned $0.31 on every dollar invested, albeit with a bunch of ongoing investments that may still pay off (but are unlikely to get her even on the investments let alone a profit)
its called QSBS
But not really. I wish I could be that evil. I’d be a lot richer if I were willing to play that kind of game.
I raised my eyebrow at "everyone takes" standard deduction. How is that possible with home prices and interest rates? Even a modest 300-400k house at 5-6% interest, property taxes, local sales tax deductions and minimum charity would exceed the standard deduction. Where I live good luck finding anything more than a condo for less than a million.
Turns out 90% take standard deduction. This is another way to track the extreme "wealth" gap emerging. Only the wealthy itemize.
We're ~92nd percentile for household income.
I’ve never gotten close since it was raised.
Maybe this one was just unlucky, lost money on the way and moved on.
We can call YC the "turning point," nominally. Now we have an extremely mature web of financing channels. People with degrees specializing in the sector. Formal pipelines. Scale.
The key point is that these were investments "no one else is willing to make." Hence "angel." Mike Markkula wasn't competing for his deal with Apple. That changes everything.
Most startup investments made today would have happened whether or not any specific investor decides to do it. The market has liquidity.
An Investment Banker
I don't get how this kind of stuff happens.
If you don't mind a follow up: how is it legal that some corporate restructuring applies differently do different investors, e.g. founders Vs angel? Like if I own 90% and you own 10% can I just go "I've decided that you own 0% now"?
> One company that raised over $100M, with my shares at one point valued at over $1M on paper, acquired in a fire sale that returned zero to early investors
> Two others that were also “acquired” with some fanfare in the media, but returned nothing to early investors
> Four companies shut down after being unable to get to profitability or fundraise
> Four others that raised money but with painful recapitalizations that effectively wiped out early shareholders
TL;DR - Angel investing became too much like being an early employee at a startup always was, except it was actual money being lost instead of sweat equity.
Now it’s often 40% or lower of a tech salary and some gambling options
Furthermore, investors tend to demand extra terms on top. The big one here is called liquidation preference, which is a clause that says, approximately, if/when this company is sold, this investor gets the first X amount of it, usually corresponding to some multiplier of their investment amount. Later rounds will ask to win out in preference, effectively creating a stack of liquidation preferences. In practice, liquidation preferences can often add up to so much that a moderately-successful sale goes entirely to preferred shareholders, and common shareholders see nothing. Perhaps the dealmakers put in a bit of a sweetener for the founders and/or current executives to grease the deal. Your average employee and angel or seed investors certainly see nothing in this deal.
The stake should remain the same, but double in value. That's the risk of early investment being paid out.
I'm really surprised it doesn't work that way.
The other thing to keep in mind is that institutional investors will generally insist that founders earn out their stake via vesting over, say, 4 years. Then, the founders' stake, despite being earmarked for them, aren't officially theirs yet.
For example, lets say a company is valued at 100mil with 50mil in preferred stock and 50mil in common stock where the preferred stock is owned by institutional investors and everyone else (including founders and angel investors) has common stock. Lets say there are two founders that own 10% each, an angel which owns 10%, and an employee options pool with the remaining 20%.
Now lets say there are two scenarios:
1. The company is sold for 90mil, 50m goes to preferred stock, and the remaining 40m goes to the common pool — 8m to each founder and angel and 16m to the options pool.
2. The company is sold for 50m, but the founders each get a salary of 5m for 3 years. The preferred stock gets the entire 50m. The angel and employee pools get 0, and the founders get 15m each.
In scenario 2 the preferred stock gets their share, the founders come out ahead by 7m each, AND the buyer has to pay 10m less than option 1. But the angel and employees get shafted.
This has happened plenty of times where a startup in a dire situation had to sell itself or raise a down round with poor terms to survive and the earlier investors got wiped out.
Do angels not get terms to "cash out" in secondaries/later rounds?
I was under the impression that some angels effectively acted as bridge financing to get to later rounds (in this case A/B/C) and to then exit if they wanted to?
Always consider signaling risk.
This can be avoided by always cashing out, I guess. But it's bad for angels to always cash out, as letting it ride on the unicorns is the only way to make meaningful returns, if any.
Always consider power law.
This is the investor's perspective, but note all of these things consume a HUGE amount of time & energy from the founder(s) as well, and do nothing towards advancing your product or company. Good reminder how distracting outside funding can be - and this is AFTER you've gotten at least an angel round!
> Over the years, I’ve purchased stock in about a dozen companies on the Robinhood app. Some have tanked ... but unlike startups, none have gone to zero.
Close to 500 US listed public companies filed for bankruptcy during this period.
what? how does this happen exactly? i'm not aware of the normal mechanisms. are there not minority shareholder protections?
Talk to the few people who angel invested in google and facebook. They'll tell a different story. From their private jet.
Finding and investing in brand new businesses trying to quickly grow to hundreds of millions in revenue on reasonable terms in a highly competitive world is insanely difficult...Why would it not be? It cannot be any other way.
I honestly don't understand how private equity makes money at all. The playbook is:
1. Borrow a ton of money and buy a company on an LBO
2. Load up the company with debt, often complicated, exploding debt, to repay the original loan. Possibly sell off assets like real estate to pay off the original loan; and
3. Here's the kicker: sell off the company for a profit.
But we've seen time and time again that PE is a death sentence. Toys R Us, Red Lobster, numerous others. The company seemingly always explodes under the debt after the original snake oil salesman have cashed out. But my point is: who keeps falling for this and buying a PE hollowed out husk?
The other thing is that like VC, PE has become saturated, so the good opportunities just aren't there anymore.
But there are lots of well publicized lbo success stories as well. Hilton, Safeway, Dell, Nabisco. The list goes on.
For what it's worth, KKR's takeover of RJR Nabisco was actually a flop. KKR bought the company in 1988, and then spent 15+ years trying painfully to exit the position.
It is widely believed that it was the major reason why their 1987 vintage turned out to be disappointing.
Does someone have a recommendation on reading that goes deeper on this point? What enables later investors to do this? What can early investors do to protect their investment?
https://www.halletecco.com/blog/angel-investing-part-iii#:~:...
Google: As I recall, two guys in a garage, literally, until they had a good start on a good business, offered to sell out for $1 million.
Amazon: Bezos and a few programmers.
FedEx: I was there early on and saw a lot of stuff about the BOD (board of directors), Founder-CEO, executives, General Dynamics, visitors from big NYC banks, funding of the airplanes, deals with Memphis to get space on/near the airport, the worker bees, etc. Was close to the action, office next to the Founder--CEO F. Smith, reported to a Senior VP with office across the hall but really reported just to Smith, was close to the BOD ("you just keep doing what you are doing until someone tells you to stop"), twice in work for the BOD enabled crucial investment and literally saved the company, etc.
Plenty of Fish: One guy, three old Dell servers, Microsoft's .NET with ASP.NET and ADO.NET, on-line romantic introduction site, sold out for $575 million.
Compared with Plenty of Fish, how Google started, and the arithmetic in the post, a summary: For the invested money: (a) Too many big, powerful chiefs, and not enough working indians. (b) Big hats, too few cattle. Too much overhead for the work done, e.g., per line of code written and running.
So, one approach: Start cheap, dirt cheap. Sole, solo founder. Only an LLC and with lawyers and accountants like, say, a grass mowing business -- LITERALLY. Founder lives cheap, say, in an area with low cost of living, in a used manufactured house, that is also the office, old used car. Take advantage of the still exploding Internet and cheap, powerful tower case computers (assembled from parts) for development and servers, $60/month 1 Gbps Internet connection, etc. Find a market need can meet with this dirt cheap approach and can get to profitibility with rapidly growing revenue.
So, leave out the time, cost, botheration of: Investors, lawyers, accountants, rented high quality offices, investor meetings, Board meetings, a management tree, manager meetings, reports to investors and the BOD, 10+ employees with all the expenses, legalities, lots of plane travel, employee stock plans, vesting, etc.
For a while, tried to raise funding; time wasted. Lesson: In simple terms, most VCs won't look at a business idea or technology before there is rapidly growing revenue. Then nearly all the VC money is used for the lawyers, other overhead, etc.
Comparison: (A) Dirt cheap: Invest $50-K a year. (B) Angel, VC, private equity approach: $10+ million a year. Big difference.
Problem: Investors need the lawyers, accountants, and other overhead so go for approach (B) where %10- of the money goes for the real work of getting the business going.
Back to work!
i.e. people can only lie, cheat, and steal from people for a finite amount of time. It ultimately leads to competitive disadvantage, and repercussions.
In general many VC/Angle "investors" were just predatory loan scams, that could ultimately destroy the founders firm. Warning signs often include proposals to table personal assets, share dilution scams, equity siphon holes, and stock market IPO legal cons.
Using debt to grow is generally a bad long-term strategy, and positive cash flow is always king at any scale. If the firm can't make sales, than growth is just a fools errand.
In my opinion, the Zuckerberg story ruined a generation of business people. =3
That’s why you use you initial limited window to establish conditions where you don't need to compete, remembering competitive disadvantage a non-concern.
I have seen it happen, but usually irrational "winners" also evidentially become losers in a year or two. I think it is related to folks that compulsively gamble on other peoples ignorance, and eventually end up losing in court.
It is theoretically not impossible to "win" as a bandit, but the collateral financial damage to the people around you would be significant. Thus, the mean time before collapse would be proportional to the specified credit.
Best of luck =3
"The Rules for Rulers"
It’s really a trade-off. If you raise too much money, you have to at least on paper show growth. All the levers then are tuned for growth.
On the other hand, you risk loosing out in the market if you raise just enough to build a viable product and get initial customers with the goal of growing organically.
Market rewards the winners. Look at Wiz, they captured the cloud security market by raising huge capital and moving fast.
Open source route is probably the way to go if you want to build a product based on your foundational ideas. Helps drive adoption organically and hopefully discover a monetisation opportunity.