Editor’s note: “The Angel Connection” is a regular feature in WRAL Local Tech Wire. LTW asked consultant Bill Warner to share advice for entrepreneurs seeking investment. He is chairman of the Triangle Accredited Capital Forum, an angel investor network with over 100 members throughout the Southeast. The Angel Connection is published weekly.
RESEARCH TRIANGLE PARK – The largest study on the financial returns of angel investors in the U.S., released in a new report by the Ewing Marion Kauffman Foundation and the Angel Capital Education Foundation, shows that angel investors participating in organized angel groups achieved an average 27 percent internal rate of return (IRR) on their investments.
Overall, this set of angel investors experienced exits that generated 2.6 times their invested capital in 3.5 years from investment to exit. This return compares favorably to that of other private equity investments, including those of early-stage venture capital. 7% of exits generated returns above 10 times their initial investment, representing 75% of all the returns. On the flip side, 52% of all exits returned less than the amount invested. The investments were in start-up companies, 45% of which had no revenue at the time of investment.
The study analyzed results from 86 organized angel investor groups throughout the US, involving 539 individual investors who have experienced more than 1,130 exits in which companies that had received the investments were acquired, went public, or were closed. It comprises the largest data set of angel investor exits ever collected.
This success was not blind luck. It all comes down to picking a broad selection of companies and nurturing them to maturity. It takes a lot of dedication and expertise to make this happen. The critical factors for success are:
- Invest as part of an angel organization – It pays to run in packs. Being part of an angel investor organization increases your chances for success through the support you get from the organization and the association with other angel investors to consider investment opportunities, share opinions and expertise, pool capital, and negotiate investments.
- Effective due diligence – Spending time on due diligence produces better outcomes. Investors who spent over 40 hours of due diligence and investors who spent less than 20 hours shows an overall multiple difference of 5.9X and 1.1X respectively.
- Experience – An angel investor’s expertise in the industry of the venture in which they invest also produces greater returns. Investment multiples were twice as high for investments in ventures connected to investors’ industry expertise.
- Participation – Angel investors that interacted with their portfolio companies at least a couple of times per month by mentoring, coaching, providing leads, and/or monitoring performance experienced greater returns.
- Diversify – You cannot be successful by investing in just a few companies. If only 7% are going to be home runs, you need to invest in 15 good companies to hit that one home run, while half of those investments are going to be a loss. That one home run will make up for all the losses and other more modest returns. This is a familiar pattern in angel investing and says again that this form of investing is not for the faint of heart.
- Focus on the exit – This report helps to substantiate that angel investment, even with the tremendous risk, can produce a very attractive return. One of the extraordinary results of the report is the high IRR for an exit in 3.5 years. Most angels expect to wait 5 to 7 years for a reasonable return. This says a lot for investors paying attention to the company’s exit strategy and guiding the company to reach that exit in a shorter amount of time.
This is all good news for angel investors throughout the US. If you follow some basic tenants, execute your investment decisions wisely and manage your investment portfolio diligently, you can produce splendid returns in angel investing. But, if you are not patient and take short cuts, you could lose it all.
Bill Warner is the Managing Partner of Paladin and Associates, a business consulting firm in the Research Triangle Park area of central North Carolina, and is the Chairman of the Triangle Accredited Capital Forum , an angel investor network with over one hundred members throughout the southeast.