Category Archives: Early stage venture funding 2011: the kaleidoscope in 5 parts

Early stage venture funding 2011: the Kaleidoscope, part 5: Summary of the current investment scene

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Summarizing the current state of early stage venture and angel investing, the picture in Q4/2011 looks like this:

The U.S. and world economy does make investors nervous.  That said, they must deploy their Funds to create a return on investment.  So they are investing, but they are cautious about the criteria of the start up and the terms of the deal.

  • The ability for entrepreneurs to build a Minimum Viable Product (MVP) from their own seed or sweat equity has created lots of new ventures and increased the competition for investment from angels and venture capitalists.
  • Valuations are down (except for games, which are exempt from these considerations and work under a different business model).
  • Despite the hype, venture capitalists are making fewer early stage investments (the angels are driving that momentum now).
  • VCs are spreading the risk through syndication with other venture investors, and moving early for seats on (and if necessary, control of) the Board of Directors.
  • There are more smart Angel investors than ever before, investing in the earliest stages of startups.  They sometimes want 10-20% of your company for up to $250K in seed capital. Many new Angel investors are over-investing and not supporting their portfolio companies (so the new ventures suffer, and the Angel pulls back from investing, particularly in the next round).  Entrepreneurs should screen their investors.
  • There is a gap between each round of funding, beginning at seed capital, and no investor (angel or VC) will commit to the next round in advance.  This demands careful capital strategy from entrepreneurs.
  • Hot investment sectors include: online media, games, social media, and any new idea that can monetize quickly and then scale.

Key advice to entrepreneurs:

  • Take capital as late as possible to drive the highest valuation and to retain control of your company.  Find strategic revenue or capital rather than equity capital, if possible.
  • Your management team needs a history of prior start up success (find a partner who has this).
  • Ask for enough capital to get safely to the next level of funding.
  • Have some kind of defensibility for your idea in the marketplace.  Don’t prove the market only to let the Big Dogs take it away from you.

These are exciting times, and risky times.  Good luck!

 

 

 

Early stage venture funding 2011: the kaleidoscope, part 4: Start something before you raise money by Megan Lisa Jones

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kenny 300x199 Early stage venture funding 2011: the kaleidoscope, part 4: Start something before you raise money by Megan Lisa Jones

Yesterday I sat down with an ambitious young entrepreneur who was having a hard time raising $10 million dollars. I seem to be having a lot of this same conversation recently.

In today’s world I can promise you that raising $10 million dollars for a concept is next to impossible. I feel like saying that unfortunately it still does happen (but there is something else at play…a serial entrepreneur with a long term track record, an expert with a revolutionary and proprietary technology, a wealthy investor with an idea meets the right team to execute, etc). Still those “starts’ give everyone else a false hope. At other times, doing so has been much more likely (before the financial crisis, or the late 1990s, for example).

My advice was to start something, no matter how small, first. A going concern can gain traction, “pivot” (and then gain traction) or show proof of concept. I’m consistently hearing the same thing from both angel and VC investors…money is tight, liquidity has been difficult over the past few years, returns are skewed (to a minority of VC funds) and a lot of great already operating companies need growth capital. Complain all you like about how investors are doing more late stage than seed capital investments but it won’t change the reality.

Neither Facebook nor Google raised venture funds until they had a working product (not that they didn’t iterate, scale and change later).

One example I used was my eight year old’s favorite “Epic Rap Battles of History” videos on YouTube. Not the highest production quality but very cleverly done, my son eagerly awaits the next video (according to him there is a new one every month…but I didn’t verify his assertion…he certainly checks daily to see if he’s wrong). My son sings along to these things; he quotes them and has started reading one of Stephen Hawking’s kid books (check YouTube for why). They get five plus million views or more in the week after they go up (again….my fact checker on this is eight). I’m personally willing to fund the creator (but understand I was beat to the pitch). I just got my son a Flip for his birthday.

Do something. The costs are minimal. If it fails, at least you find out and probably quickly. Then try something different. Test your ideas in the marketplace (of truth not dreams). Raise $50,000 from people you know and scale it after it’s up and working. Money is never a panacea for a bad business plan; it just makes for a higher profile bust.

My close colleague Megan Lisa Jones is an investment banker who works primarily with companies in the digital media, technology, gaming and other emerging industries (formerly with Lazard Freres, Needham & Company and Merrill Lynch). Her investment banking blog is at www.ibla.us and check out her first novel, Captive, at www.meganlisajones.com.

Early stage venture funding 2011: the kaleidoscope, part 3: Angel funding for women entrepreneurs rises

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There is good news for women entrepreneurs:  angel funding for their new ventures is on the rise.

“In Q1,2 2011 women angels represented 12% of the angel market. Women-owned ventures accounted for 12% of the entrepreneurs that are seeking angel capital and 26% of these women entrepreneurs received angel investment in Q1,2 2011. Thus, while the number of women seeking angel capital is low, the percentage that received angel investments is above the overall market yield rate.”

wsbe.unh.edu/sites/default/files/q1q2_2011_analysis_report.pdf    Jeffrey Sohl, “The Angel Investor Market in Q1Q2 2011: A Return to the Seed Stage”, Center for Venture Research, October 11, 2011.

Joining my panel at Digital Hollywood in October (2011) was Monica Dodi, a partner at Women’s Venture Capital Fund.  She was a fine addition to the the venture panel, and she shared this report with me.

Her website (www.womensvcfund.com) states:

“Women are now the biggest emerging market: they control spending, bank accounts and personal wealth in the United States. Yet few women believe existing products and services meet their needs and those of their families. High potential women and their gender-diverse teams are starting scalable businesses in record numbers, and yet a mere 7% of venture capital is invested in management teams that include women.”

The site posts valuable resources in its News & Research section, including links to the 2010 McKinsey  “Women Matter Reports,” women’s business and entrepreneurial organization, a TED presentation, and articles and research.

http://www.womensvcfund.com/news-research/

 

 

Early stage venture funding 2011: the kaleidoscope, part 2: Center for Venture Research report on angel investing 2011

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“The Center for Venture Research (CVR) has been conducting research on the angel market since 1980 [and] … is dedicated to providing reliable and timely information on the angel market to entrepreneurs, private investors and public policymakers.”

This report on angel investing covers Q1 and Q2 of 2011.  I have excerpted the findings and attached the link to the full reports and statistics, below.

“THE ANGEL INVESTOR MARKET IN Q1Q2 2011:  A RETURN TO THE SEED STAGE”

Director, Jeffrey Sohl

“The angel investor market in Q1,2 2011 showed signs of stabilization since the 30% market correction in the second half of 2008 and the first half of 2009.”

“The angel market appears to have reached its nadir in 2009 and has since demonstrated a slow recovery.”

“Angels have significantly increased their penchant for seed and start-up stage investing.”

“Angel investments continue to be a significant contributor to job growth with the creation of … new jobs in the United States in 2011….”

“Healthcare Services/Medical Devices and Equipment accounted for the largest share of
investments … followed by Industrial/Energy …  Biotech … Software … Media … and Retail ….”

“[The] yield rate indicates a cautious approach to investing, reduces the concern of an unsustainable investment rate, but also reflects the difficulty for entrepreneurs to secure angel funding.”

“…While the number of women seeking angel capital is low, the percentage that received angel investments is above the overall market yield rate.”

“The yield rate for … minority-owned firms … for the fourth straight year is in line with, or higher than, market yield rates. However, the small percentage of minority-owned firms seeking angel capital is of concern.”

wsbe.unh.edu/sites/default/files/q1q2_2011_analysis_report.pdf

Jeffrey Sohl, “The Angel Investor Market in Q1Q2 2011:
A Return to the Seed Stage”, Center for Venture Research, October 11, 2011.

Early stage venture funding 2011: the kaleidoscope, part 1

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The markets for investments into early stage technology and digital media companies are kaleidoscopic.   With this in mind, last week I chaired two panels on venture capital investment at Digital Hollywood http://bit.ly/mZ7K5Y  & http://bit.ly/o9dJqx .  This is the first of several blogs on my findings there.

Here are the contrasting colors of the kaleidoscope:

Aggressive investment in early stage companies

We have seen so much investment activity for the past year or so from private sources (angels, super angels, boutique venture funds dipping into seed and early A rounds) that is it now being called a “bubble” and predicted to burst soon.  (see more on this at end of this blog).

This prediction is based on the exuberance of so many newly minted angel investors with relatively small Funds investing in too many start-ups.  This condition creates these troubles:

  • the Funds do not have enough capital to invest in a second round in more than a few of their portfolio companies.
  • Some of the many companies in the portfolio begin to fail, causing a pullback from the investors into new ventures or their existing portfolio ventures (the angels move from exuberance to caution).
  • And, investing in too many ventures prevents the angels from committing the necessary support that is needed for each venture to grow.

All this said, I also heard several comments that early stage investing has been slowing down since mid-year.

 

Cautious investment and stringent deal terms

That said, investors at every level are more cautious, and the deal terms more stringent, than we have seen in earlier periods.   This is because the U.S. and world economy is down, and the exit markets (IPOs and M&A ) are unpredictable.

One panelist remarked that there are more smart angel investors now:  many are entrepreneurs who have created wealth from their own successful exits.  But they can also ask for 10%-20% of your company for a seed round of $250K.

 

No commitment to next stage funding

No matter what kind of investor steps up to your current round (seed, A, etc.), you will not get a forward-looking commitment to a future round.  Even if your earlier funding has allowed your company to gain traction and early revenue, but you have not proven you can maintain “sustainable revenues” that can scale, you may never see your Series B funded.

I have seen this “gap” before during similar cycles, and you as the entrepreneur need to create your capital strategies to plan out how much funding you request and how far you expect it to take your venture to reach its next fundable stage.

I even asked a specific question about the future rounds being “benchmarked” (a commitment for future funding if the agreed-upon milestones are met) and three of my panelists snorted!

 

What’s an entrepreneur to do?

So, the kaleidoscope passes to you, the entrepreneur.  One investor suggested that entrepreneurs move quickly to get their capital closed while the investment market was hot.  Another recommended that entrepreneurs take their first capital as late as possible in their venture’s life cycle.  All of them noted that you should look to what you need for the follow-on round and not fall into the “gap.”

There is not much we can do about the world economy and its impact on investors’ behaviors.  But we can be wise about the movements in the capital markets.  And we can plan carefully to build a venture with a huge (or tightly focused and vertical) addressable market, to carefully focus its first target markets and revenues, and to choose the best capital strategy for launch, growth and exit.

 

On the Angel Bubble, see Jason Calacanis’ recent Launch blog, http://www.launch.is/blog/stepping-back-from-the-angel-bubble.html   and

Fred Wilson’s (Union Square Ventures in New York) response to the Wall Street Journal’s “Web Start Ups Hit Cash Crunch” here:   http://www.avc.com/a_vc/2011/10/what-we-are-seeing.html .