ENT 640: Winning Angels: The 7 Fundamentals of Early-Stage Investing

ENT 640: Week 3 Evaluating

Week 3: Evaluating

In the book Winning Angels: the 7 Fundamentals of Early Stage Investing, the authors suggests that there are four elements to consider when evaluating investment opportunities. These four elements determine if the opportunity will lead to failure if one is missing or if it is a bad combination of the four elements. These elements include:

  1. People – This would include the entrepreneur, team members, investors, advisors, and stakeholders. Often times investors want to invest in the entrepreneur if they find someone they trust and who will be able to keep communication lines open with, they are usually investing in the entrepreneur more than anything else.
  2. Business opportunity – The business plan including the size, model, customers, timing, and the potential return for the investor. The potential return is of course the most important part to the investor.
  3. Context – Industry factors including the economy, trends, competition, regulations, technology, supply and demand, etc.
  4. Deal – How the deal is structure with the terms and pricing.

Investors look for these four elements to be aligned and those are the companies that win. “Invest in companies that have outstanding elements or at least good combinations and you will hit some winners.” (p. 78)

Evaluating the four elements:

  1. People – Goals, knowledge and capabilities
    1. Goals – What are underlying and indirect goals and will they contribute to the success of the company?
    2. Knowledge – Is there a knowledge base of the industry and business and are they known with the field?
    3. Capabilities – Are they capable and are others capable to take over?

Angel investors always end up going with their gut feelings in the end. Usually they go with an entrepreneur that they know either from working with before or through someone they know. Another questions investors ask is does this opportunity have scale? What would be needed to increase sales 1,000 times?

In early stage deals it is important to take out as much risk as possible to increase the chances of getting a return back on the investment. Here are the risks to consider:

  1. Technological risk
  2. Product/service risk
  3. Market risk
  4. Sales risk
  5. Competitive risk
  6. Financing risk
  7. Operating risk
  8. People risk

It is possible to reduce risk after making an investment, such as:

  1. Choose appropriate investors such as industry pros
  2. Modify the business plan
  3. Complete value elements such as product development
  4. Advise on business issues

The more time spend considering all these things the more risk that is eliminated. Because it is so time consuming it is easiest for angel investors to work in groups and spread out the evaluation process to each angel using their own area of expertise to evaluate. To accomplish this strategy, winning angels:

  1. Stick with people they know
  2. Join a formal angel group
  3. Form their own group of two or four angels to look at deals together
  4. Use a matching service
  5. Hire a young MBA type to do the initial screening

References:

Amis, David, and Howard H. Stevenson. “Evaluating.” Winning Angels: The Seven Fundamentals of Early-stage Investing. London: Financial Times Prentice Hall, 2001. N. pag. Print.

 

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