The Startup Funding Gap – from Angel to VC
Re-Post from Startup CFO Mark MacLeod (link)
This week, I was on a call with an active US Angel who said his group is looking for deals where the company can get to break even on $750K of total investment! Now, in the grand scheme of things, $ 750K is not a lot of capital. And there is a big gap between this and the traditional sweet spot of the bigger VC funds that are looking to place $2M – $5M in at the beginning with up to $10M over the life of the investment.
If you’re pitching angels and they are looking for such capital efficient deals, then you need to know where their ceiling is. What is the max you can raise in general before you get into VC territory? And of course when it comes to VC the big question is: does your company have the team, traction, metrics, growth and exit potential that they are looking for? You need clear answers to these questions in order to lay out a credible strategy for raising money.
To help guide you and the startups I work with, I turned to two experts in angel financing: Bryan Watson, President of the National Angel Organization and Basil Peters, an experienced Angel, former VC, author of the excellent Angel blog and book on Early Exits. Here’s what they had to say:
Bryan:
“A lot of Angels, it seems, are moving to this sort of deal because it has the promise (if not the reality, sometimes) of capital efficiency. Good for Web-tech companies. Not good for biotech companies.
The problem: The capital risk Angels face (i.e. where is the next round coming from??) has shot through the roof over the last 6 months. Many Angels no longer believe they can rely on the capital ecosystem to provide subsequent rounds of financing.
Realistically, most angels know their investee companies may need additional funding to get to break-even (enter co-investment). Looking for investments that “only need $750k” helps to screen for capital efficient businesses.
Basil:
“Generally, angels today want to invest in companies where they can get their money back in 3 to 5 years. That precludes traditional Venture Capital funds. Angels prefer companies they can finance themselves all the way to exit. A couple of years ago, I would have said that angel funding topped out around $1 or 2 million per company. In the last couple of years I’ve seen quite a few companies that have raised over $5 million from angels.
In summary, I think angels prefer to find companies that will require a million or two to fund to exit, but now with syndication between angel groups, the upper end of the range is now $5 to 10 million. The most important thing is alignment on a realistic exit strategy before you approach the angels”.
So, what I take from this is if you want to raise from angels first, you need to start with a story and plan that is truly angel friendly. You need to show you can get to cashflow break-even with $1M or less of financing. That means early commercialization and very tight expense management. You may choose to raise more capital and go for a bigger opportunity, but if your business plan depends on raising more capital, then – in the current environment at least – your plan may not get funded.
