We are all looking for help funding our business. A popular trend of the 1990’s was to find an “angel” to help you get your business “off the ground”. At the time, it was a lot easier to find angels than customers. The word “angel” conjures up all sorts of images of a good force saving and lifting your business toward success. It turns out to be a lot less romantic than this.

I sold my third business in 1999 during the Internet bubble. I was burned out from having succeeded and failed at three businesses over the previous 10 years. As an entrepreneur-holic, I knew that I would probably want to start another business right away, even though I also knew that I needed to take a break from this cycle. In order to scratch my entrepreneurial itch without having the pressure or risk of starting another business, I became interested in angel investing.

“Angel Investors” are not a 1990’s phenomenon. There have been angels for as long as there have been start up businesses. In years past, we called them benefactors. These were wealthy people that loaned or invested money to get a “crazy” business venture started. A few famous “angels” are like J.P. Morgan and Spencer Trask that backed Thomas Edison in 1878 at the Paris Exhibition. At the time, not many people were interested in the future of electric light since. Light from gas was “working fine”.

More recently, Ian McGlinn backed Ann Roddickh in 1976 for The Body Shop. Twelve 12 angels helped get Jeff Bezos’ unknown company, Amazon.com off the ground in 1994. The Internet bubble brought a lot more amateur investors into making angel investments. These individuals investments were no longer private, and as angels became more visible in an attempt to try to attract the high-quality, fast-moving deals.

Who are business angels in 2003? Broadly speaking by lawSEC regulation, they must be wealthy individuals that earn over $200,000 or have a net worth of $1 Million. Our government reasons that if someone is rich then they are smart (or at least they can afford to lose the money they have invested). This protects people that are unable to take a the risk and lose their money from investing your venture. This is good protection for the investor and the company. Generally, these angels are people like myself that have been entrepreneurs before and want to stay involved with start up businesses. They want to give back as a mentor and simultaneously, make a return on their investment! Angels invest close to home. Many act as either passive investors or an active advisor.

As we all know, the market in the “roaring 90’s” is a lot different then it is in the “snoring 2000’s”. Few deals are getting done at lower dollar amounts and valuations. Companies need to depend on traditional sources of capital like friends, and family and early customers. Start ups are expected to get a lot farther on less capital. Cash is king!

According to Jeffrey Sohl, of a 2002 study by The Center for Venture Research at the University of New Hampshire, there are 350,000 angels in the US that invest approximately $30 billion a year in over 40,000 ventures. His 2002 study stated that says that about 7% of deals presented to angel groups get funded. This has dropped from an all time high in 2000 of 23%. Most angels invest between $50,000 and $150,000 per deal of their own money. In early rounds, angels typically received 30% equity in the company. It takes about four months from introduction to funding.

Angel groups have actually increased in popularity since the Internet Crashbubble burst. This chain of events produced the perfect setting for the formation of a formal angel group; people now wanted to pool their money together and share risk. Since it was an investor’s market, they were no longer competing with each other for the best deals. Most investors also wanted to tap into group industry expertise to make better investments; with more people looking at the deal, there would be safety in numbers. A person could invest less per deal but in more deals to manage risk. According to the Center for Venture Research, angel groups have grown from 50 in 1997 to over 170 formal and informal groups in the US and Canada.

What do angel groups seek in making investments? Mark Achler, principal at Kettle Partners in Chicago always says that “In real estate, the three most important criterion thing is “location, location, location”.” In making an investment, the key criteria is “management, management, management”. Most investors would rather invest in a “B” idea with an “A” leader than an “A” idea and a “B” player. People executing well, not the idea, is the difference for a successful investment.

Other important considerations are:

• How deep is the pain your solution solves? People buy painkillers these days not vitamins.
• Do you have a proven revenue model that is scalable? You may build a nice business, but it needs to scale grow to $50M for it to a good investment for an angel.
• Do you have strategic alliances with the “big gorillas” in your space? If you are in the insurance market, what does State Farm think?
• Do you have a sustainable competitive advantage? Or If you are successful, competition does not have to buy you. Thwill they can just crush you like a bug if you are successful?.
• Do you understand your cash flow needs? What is your exit strategy?Cash is not only king, it?s every other face card in the deck. Run out of cash and your business is dead.
• What are your sales and marketing strategies? Guess what?You are not selling your product in “A Field of Dreams”, If you build it, it does not mean they will come!.

Where can you find angels? As with most things in business building, referrals are the key. Start with the service professionals that you work with like your attorney and accountant. Ask them to introduce you to three people. Then, get referrals from those people. Attend seminars and events. Submit your plan to competitions. Don’t forget to look for “customer capital” by selling things! Keep your network up to date on your progress.

Finally, if you are an experienced entrepreneur, there is almost always an angel for every deal. Just keep networking until you find one that is interested in you and your venture.

Sidebar on Prairie Angels

Prairie Angels is a group of qualified accredited investors who either have cashed out of a business they started or who are second generation of a family that sold its business. Most members have a technical or computer software background. Members are 35-60 years old and are committed to making one $25,000 investment per year. Generally, members are in transition to their next opportunity and are trying to figure out what to do. As a result, most Prairie Angels will stay active in the group for two years.

Prairie Angels’ members have many strengths. Our members are smart entrepreneurs who have been through it all. People sincerely want to help the entrepreneurs, and they want to invest their money and their time to aid new business owners. Bob Okabe, one of the group’s founders says that “members ask the tough questions and are sometimes merciless in pursuing the answer that we think the entrepreneur needs to know to be successful.”

The group is member-managed by volunteers, and no professionals get paid to work in the organization.. Meetings begin with an hour of networking time and end with 30 minutes of networking. During these times, a lot of business besides angel investment conversations occurs. Some members who met at Prairie Angels have even gone into business together.

Many successful entrepreneurs that come to our group as a presenter or with some other connection to a company do end up joining our group. One example of this is Rick Mazursky, who was the CEO of VTech toys. He days that “Last year, he presented a toy company. Although Prairie Angels did not fund his company, he liked the group so much he ended up joining our angel organization.” With his industry knowledge, he now has been instrumental in leading retail or consumer based deals for our group.

Processes

From the beginning, our group was flooded with business plans. We They receive about 500 inquiries a year and approximately 150 companies complete an application to be reviewed by the organization. A company pays $125 for our members to review its plan and gets feedback even if it is not chosen to present to the bi-monthly meeting.

After the required information is received online, a voluntary screening panel reviews the plan. This screening committee consists of some of our members and MBA students from either Northwestern University or the University of Chicago. For about a week, the committee reviews the plan according to specified guidelines. Committee members talk or meet with the company to get any additional information needed to make the analysis. A report is then posted to the web site for all screening committee members to review.

At the bi-monthly screening meeting, all plans are reviewed over a two or three hour period. Three companies are typically chosen by the angel panel to present at the general meeting. The companies are then given exact instructions on what to include in their presentation and handouts for the meeting. They rehearse multiple times with a screening committee angel assigned to them.

The night of the event, companies present for ten minutes and then take questions for ten minutes. They then leave the room and the assigned angel from the screening committee leads a discussion of the company’s merits for ten minutes. After the meeting, all angels fill out an interest form on each company that presented. If five angels express interest in the company, Prairie Angels Capital Fund takes the reigns.

One of the major strengths of our group has been the formation of the Prairie Angels Capital Fund. It is a subset of members that have committed a certain amount of capital to lead deals that come through the network. This fund has been an important development for early stage investments since, during difficult times, no one wants to lead an investment. In fact, the first investment made in 2003 occurred at the beginning of the war in Iraq.

Prairie Angels Capital Fund completes all the due diligence for the investment presented to the network. It then votes on whether to fund the company. If a majority agrees, then the investment is made. The fund then presents their due diligence to interested members of the Prairie Angels network to round out the offering to the company. A new investing corporation or voting trust is formed from the angels who contributed the capital for the sole purpose of investing in the targeted company. One angel member usually sits on the company’s board of directors and updates the other investors. Sponsors also volunteer their time on the legal and accounting side to get investments made.

Aside from aiding entrepreneurs and making money, Prairie Angels has other goals. Using money generated by charging a sponsorship fee, they funded prizes at a Chicago Software Association business plan competition. They also donated money to a non-profit organization in town that trains inner-city youth to become familiar with websites and expand their technical expertise. Prairie Angels is committed to giving back to the community.

Other groups have developed in the Chicago area, inspired in part by the success of Prairie Angels. One organization formed in 2002 has members pay a high annual membership fee ($5,000) so they can support a full-time president to lead the angel group. The professionals in these groups do all of the screening and deal structuring. In 2003, other angel groups have been formed. One focuses on biotechnology (BioAngels), another on real estate (DirtAngels), and other still another network is run by women, which targets women owened businesses (Ceres Group). When it comes to angel investing, one size does not fit all. Different people will be attracted to varying models and people. This is positive since more early stage investments will get done, and the groups can co-invest with each other to build a bigger round of financing.

In an attempt to foster more an entrepreneurial culture in Chicago, local angels started a new association called the Midwest Angel Network Association, MANA. This association encourages other angel networks around the Midwest to start up and aids them with the legal accounting documents they need. Another goal is to educate the public on angel investing with the hope that more people will become involved in the angel community.

Sources of Research

• Jeffrey Sohl, Center for Venture Research at the University of New Hampshire. (www.unh.edu/cvr)
• Kauffman Foundation (www.emkf.org)
• EntreWorld (www.entreworld.org)
• Angel Organization Summit Papers (www.angelsummit.org)
• National Angel Organization (www.angelinvestor.ca)
• MANA (www.midwestangelnetworks.org)