The Risks of Angel Investing

Angel investing isn’t for the faint of heart, especially when valuations are at nosebleed levels. Before you delve into any specific opportunity, you may wish to take the pulse of the market into account. You may also want to consider issues such as:

• What is different about Generation Z angel investors?
• What is the impact on angel investors of venture capitalists becoming increasingly involved in seed round investing?
• How can early-stage companies take defensive postures by being receptive to extension rounds, venture debt and warrants?
• What are the risks associated with Simple Agreements for Future Equity (SAFEs)?
• Why should investors be concerned about possible cramdowns and carve-outs?
• What can early-stage companies offer angel investors/groups to accelerate their decision making?
• What is the likelihood of Americans being allowed to fund their angel investments from their retirement accounts?

Ronald Weissman, Vice-Chairman, Angel Capital Association

With more than seventeen years in global venture capital and sixteen years in angel investing. He has recently advised investors, governments, corporate VCs and startups in locations as diverse as Armenia, Germany, Israel, the Republic of Georgia, Italy, Chile, Australia, New Zealand and across the US.

He lectures on venture capital at major universities including Stanford, Santa Clara University, the American University of Armenia and the Deggendorf Institute of Technology, where he is an Adjunct Professor.

 

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Angel Capital Association

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SHOW NOTES:

00:00:59 – In the US, we’re also under pressure from the Securities and Exchange Commission and Congress

Vc’s have rediscovered seed stage. They have largely abandoned early stage, investing in the in 20 and 21 but they have roared back late 2020 late 2021 With many of the leading VC’s now have, you know, three hundred four hundred five hundred million dollar seed funds targeting exactly the same space that angels are in, but with much bigger Staffs, but with a, shall we say, a less dedicated focus and a less continuous track record in seed stage.

But some of those who have done this, Greylock, Andreessen Horowitz and so forth, they’ve also added.

The VC accelerators to the offerings they provide. In the US, we’re also under pressure from the Securities and Exchange Commission and Congress that proposed changes to many of the fundamental things that allow angels to be angels.

One of which is, for example, we can invest out of our retirement funds and their proposals now that to eliminate that. So far they haven’t happened, but that would have a very real material effect on US Angel activity. Another is raising the wealth threshold.

For Angel investors, it was last set in the nineteen eighties, and the Congress and or the SEC are thinking of raising that. And in any case, lots going on Capitol Hill. Very little of it helpful to angels. So my group, the Angel Capital Association, is busy trying to educate Congress on the fact that many of these things would reduce the flow of capital to the most important people in our ecosystem, which are entrepreneurs.

00:28:23 – Facts have become a kind of nonissue M&A has been repriced or canceled

Well, this has led to a significant downturns in almost every index in the public markets you can you can imagine what is the S and P five hundred nasdaq biotech, index the nasdaq index the index of IPO ‘s when stock prices fall market caps fall everything gets repriced revenue multiples fall that’s important to us angels because we use revenue multiples as one of the ways of establishing a valuation that we invest against IPO ‘s have been repriced delayed or cancelled

i just read this morning that the primary promoter of spax has pulled two spacks because they could not find companies to buy most of the spacks issued in the past couple of years today or trade are trending well underwater below their IPO price

so it’s facts have become a kind of nonissue M and A has been repriced or canceled unprofitable unicorns are you know waiting waiting for an IPO to for the next round of funding have been delayed or cancelled and those are in crisis growth stage

00:34:47 – Nothing has changed except the valuation of various asset classes.

Amongst the unicorn classes and the mezzanine firms ready to IPO we’ve got what’s called the denominator effect and the denominator effect it works something like this when the value of your public holdings goes down and you look at the percentage invested in each asset class it looks like venture capital is a is suddenly gone from eight to twelve percent of your portfolio to a much higher number,

Nothing has changed except the valuation of various asset classes but you now appear to be over invested in high risk asset classes the illiquid classes and this causes fund managers and fund of funds to reallocate away from venture capital so we see startups reducing the size of the risk we see white combinator the world’s most hyped incubator accelerator shrink its fall twenty two batch of startups by forty percent because quote market conditions do not permit us to invest as we had in the past the top investors

00:40:16 – Investors believe software valuations will increase fifty percent.

Seed stage dollars though are doing pretty well again the people like angels valuations are trending a little bit up deal terms are getting a lot better for investors more investor protections firmer liquidation preferences it’s the market is shifting the balance of power from hot entrepreneurs to shall we say sober investors series A B and C are well down according to historic norms

They’re up against two thousand twenty but there the overall trend is going down early stage fifty percent down year over year late stage sixty percent down and remember we haven’t seen the worst yet because public markets still lack of a private markets lack by one to two quarters a recent study was done by the sulphur equity group who have lots of free publications on the state of software and software evaluations

I would encourage you all to check out their website the study of investor sentiment what’s the second half of the year look like five percent of investors believe software valuations will increase fifty percent believe they will decrease further we have not yet released this study but we just completed a study of from the angel capitalist associations membership and a significant percentage of majority of angel investors believe that angel valuations will decline in the second half of this year

00:48:46 – Blackstone alone is committing two billion dollars to a venture debt fund companies…

So how do we protect ourselves well first of all before we go to these cities for capital let’s syndicate amongst angel groups one of the most important things that my group the angel capital association does is promote syndication don’t ask for this the larger ask you may have asked for last year think about smaller asks that are easier to digest venture debt is becoming very popular

Blackstone alone is committing two billion dollars to a venture debt fund companies are offering extension rounds for whatever happened in the past couple of years not changing the terms not asking for increases in valuation but extension rounds sometimes sweetening the deal with warrants

Many companies are tapping VC reserves as i mentioned there’s a lot of VC reserves but most of those reserves of you know are pre allocated for certain portfolio companies so be aware that VC ‘s are already asking themselves which of our portfolio will we support and which won’t

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