Beginner's Guide to Building an Angel Investment Portfolio - Part Two

This is a 3 part guide to starting your own angel portfolio. The second part will focus on in depth tips regarding actual diligence. The first part can be found here.

If you're looking to do some angel investing for the first time, I hope you would've read up on lots of best practices, vernaculars, tips, terms and etc etc by now. One thing that a lot of people ask me after reading through guides and tips was "All the tips are so vague, and the advice differ by person too! How do you actually do due diligence? " The answer?

By doing it.

Well, it's exactly that. I had already talked about in Part 1 that team is the most important aspect of early stage investing. The market size, deal terms and other analysis can be done through careful research into industry trends, competitors and etc. But team due diligence is not that simple. I can give you pointers on how to do due dilligence on people , but it's not a DCF, or a P/E analysis that mathematically tells me this will be a good management team. It's more like piecing together a jigsaw puzzle.

Puzzle part 1- Angel Mindset
The first part of diligence is understanding what your goals are with the investment. Angels do not have the fiduciary duty, or economics considerations of VCs. Most angels aren't investing for the 12 year, 1000x mega IPO in their portfolios. Ya that'd be great, but most angel expectations is set for a realizable return in the nearer future. Brian Cohen of N.Y Angels once told me that he wants to hear what the exit opportunity is when listening to the pitch. A quick exit in 3 years for 5-10x the money invested sounds like a pretty attractive angel investment to me. It's more realistic and economical to invest with this perspective in mind. You are looking for solid businesses with solid management that can exit. (There is an if. What happen if you feel you want to diversify your portfolio to have both quick exit opportunities and potential huge opportunities? How do you weigh your different investments? What if you feel like just being a angel with VC mindset?(Not a fan personallyt) )

Puzzle Part 2 - Team
If you asked me how i can tell CEO A will be a good leader and work like a hustler, I can point you in a few directions. I can point to certain character traits of his - Good communicator, good with follow-up, resourceful. Or I can point to his past achievements. Maybe he/she was the head of biz dev at Startup X, successfully secured partnership with P&G, J&J, Costco. Maybe he/she conducted $800,000 worth of sales as the head of a student agency at his/her university. Maybe he/she received glowing references from people within YOUR network. All these together tries to give me a big picture of who the entrepreneurs are, what they stand for, their capabilities and more.

(Key point here, of course the references they give will speak good things about them. Try to triangulate people in your network that can speak truthfully about the person.)

As Paul Graham said, is it the right team executing the right idea, at the right time. If it's a tech heavy startup, the founding team better not have 3 biz dev guys and 1 developer. The team has to have the right composition, the right background, experience to pull it off. Why is this team the one to do it, and not a different group of 3-4 people. (Again, there is an if. What if the market is so attractive that you HAVE to jump in now? The team might be a B/B+, but the market and timing are both A. What happen if it's a B team with A+ market and timing? )

Puzzle Part 3 - Market
This one just takes a lot of research, careful reasoning and thinking, and being resourceful. Ask lots of questions. Look at size of the addressable market, both top down and bottom up. See who else is in the same and how are they doing. Is the solution the startup proposing really unique / differentiable? If they are doing something new, what markets are they overlapping with? Tackle the problem of "How big is the opportunity vs risk and will people actually use this?" from as many different angles as you can.

You can't be too late to the game, or too early. Too early in, no one will use it. Too late in the game, you're in a bad market position. P.S I personally believe the "First mover advantage" is the most overrated bullshit. I'm not saying it's not a real thing, but 90% of the time I've heard first mover advantage, it ended up meaning no real advantage. First mover advantage other solid advantages becomes very attractive. First mover advantage by itself means nothing. (Again there is an if. What if the market is kind of attractive, under 1B but A management team with product that might be able to capture tremendous market share?)

Puzzle Part 4 - Competitors and Comparables
Competitor analysis is easy to understand. Look at who else is in the space, and why is, or if, this startup you're looking at is more disruptive, and has more potential. Is someone in the same space also fundraising. Talk with both startups and compare side by side.

Comparables is probably one of the best ways to understand a new opportunity. A new business doesn't mean it's a new idea. It could be the same idea applied to a different industry. For example, indeed aggregates job offers while kayak aggregates travel opportunities. If you were looking at a company that is aggregating something else, maybe it would be a good idea to talk to someone relevant working at Kayak or indeed to see what were some obstacles they faced? How did they solve it? Obviously you have to choose someone that might have been an early employee, or a relevant employee that can address a certain obstacle you have already identified.

I would recomend Brian Cohen's book to anyone who want to learn more about angel investing.

I just returned from my trip to China, which was amazing, and going to catch some sleep. Extremely jet-lagged and probably going to sleep 30 hours straight. Like always, feel free to PM me any questions and I will be happy to respond. Cheers.


Comments (9)

Dec 2, 2013 - 8:08am

Thanks! I think there are lots of good qualities to a good angel investor and it differs by person. Just listing some, good angel investors bring their own previous business experience to the investment. They do lots of due diligence before investing. They bring a wide network of resources and connections for the investment. They don't invest just because others are investing and make their own judgements. The best edge good angels have is sourcing edge. They get to look at the best deals others don't. The best entrepreneurs go find them.

Dec 2, 2013 - 11:24am

Interesting points on being an angel with a VC mindset. Do you think the same holds true for the reverse, being a VC with an angel's mindset? Is the only differentiation between VC and angel's the time frame they are looking at?

The error of confirmation: we confirm our knowledge and scorn our ignorance.
Dec 2, 2013 - 1:02pm

Time frame is one of them, another is exit expectations, i.e investing with IPO goal vs big acquisitions vs small acquisitions and others. In the current market, the distinctions have started to break down. There's such things as Micro-VC funds, Super-Angels, VC 2.0s a bunch of terms people came up with that are like angel-VC hybrids. VC with angel mindset - hmm interesting but i don't think that will work in the long run. Some VC funds might start with an initial angel mindset, up to maybe 15-20% of their fund and reserve 80% for the successful follow-ons. Or, start with a small fund, and raise another for successful follow on. ff venture fund 1 or Felicis ventures fund 1 might be something to check out if interested.

Dec 2, 2013 - 1:11pm

Thanks for the great information, much appreciated. I will be checking the funds you mentioned out of interest.

The error of confirmation: we confirm our knowledge and scorn our ignorance.
Dec 5, 2013 - 11:48am

Between a strong entrepreneur with a average business plan and an average entrepreneur with a very strong business plan/oppurtunity which one will you invest....Of the people I have talked to and seen, Angel investors generally like energetic entrepreneurs over thier B-Plan as deals are closed very quickly and someone with good personality, strong communication skills and confidence wins that how you go about it...Would love to hear your thoughts on this

"A man travels the world over in search of what he needs and returns home to find it." ~George Moore
Dec 5, 2013 - 10:59pm

I wouldn't really say I care that much about the business plan per say. If it's a bad market, then I probably wouldn't invest even if it's a great entrepreneur. I would spend time with him/her to build a relationship for other companies he/she eventually might spin out.

If its a great entrepreneur with a good market with a bad plan, I'll invest if he seems coachable. Angel investors definitely like energetic entrepreneurs period. Communication, infectious passion, good execution ability > details. It's not business plan vs team. It's market vs team. I've seen both team investors and market investors. Again, give and take. Check out Rob Go's seed investment decision tree for a great analysis of this.

Dec 7, 2013 - 2:07pm
"A man travels the world over in search of what he needs and returns home to find it." ~George Moore
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