In Part 1 we looked at the UK Angel investor community and where such investors might be located. In Part 2 we focus on how to gain their interest, the tricky aspect of:
“No one does anything from a single motive”. Samuel Taylor Coleridge
Regrettably the sentiment expressed in the 1966 pop classic, “Reach out and I’ll be there”, does not apply to the entrepreneur and the business angel community unless a number of conditions are fulfilled. The risk of failure for start-ups is high and so it is in the interest of the start-up team to reduce as many of these risks at fund-raising stage as possible.
Angels assess investment propositions across a number of dimensions. Hygiene factors will relate to things like location, industry sector, the amount being raised, stage of development, and timing. However, the real motivating factors will include:
a. An inspiring team
Views differ on what constitutes the optimum team and useful insight may be provided in online discussions on the subject. Investors value sector or domain experience, technology skills and execution capability. In the absence of any prior success, interest is also increased if the entrepreneur comes with a recommendation or referral from known investors. It’s called “social proof” and should work both ways in the start-up/investor relationship.
b. A problem solved, or a new product/market created
Given that truly new product/market innovations are thin on the ground, the venture must solve a real problem. This can be achieved by being “disruptive”, bringing a new approach to an existing business model, or being considerably cheaper/more efficient/better quality at delivering an existing product or service.
Propositions such as bottled water for pets (thirstycat), online currency alternative to cash and credit cards (flooz) and the infamous attempt by the world’s largest beverage company to introduce “New Coke” in 1985 are examples of products looking for a problem.
“When the solution is simple, God is answering” Albert Einstein
c. An awesome solution
The problem may be clearly articulated but the solution has to be realistic, affordable, and capable of generating enough revenue and profit, and deliverable within a timescale acceptable to investors.
Proposing yet another online hotel reservation business may not capture investor imagination, but suppose you could create a business that connects people who have space to spare with those who are looking for a place to stay? That’s the proposition of airbnb, started in 2007, in response to the problem of a lack of hotel space, now offering private accommodation in 186 countries, and valued at $1.2bn.
d. Some form of competitive advantage.
Occasionally referred to as a “moat”, to reflect the difficulty for a competitor to gain entry to the market. This may be evidenced to investors through the company’s intellectual property (IP) which may be in the form of patents applied for or granted or other forms of technical advantage.
“There is only one boss. The customer. And he can fire everybody in the company from the chairman on down, simply by spending his money somewhere else.” Sam Walton
A great team presenting a wonderful solution to a clear problem will look even more attractive to investors if customers are already on board or have made commitments to use/buy the product or service. It’s called traction and investors love it because it is the best demonstrator of the inherent potential value of the business.
f. The size of the prize
The target market needs to be capable of delivering a customer base of sufficient size to enable enough value creation to reward investors for the risk taken. At one extreme is the world’s most successful start-up, Facebook, incorporated in 2004, which has 800+m active users and a current valuation of $41bn. Your start-up is unlikely to be a global play, but if you can steer clear of “very small market niche” that will work in your favour.
The best advice that can be offered to the entrepreneur on the thorny issue of valuation is: “be realistic”. If you are bringing all the above criteria to the table, are revenue generating, have patents granted in all key markets, are likely to be profitable in year 1 and have a large target market, then the argument for a higher valuation is more easily justified.
Valuation rules of thumb are many and varied and are typically lower in UK & Europe than North America. Generally, the angel investor community operates in the £100k to £1m pre-money valuation range and wishes to secure a meaningful equity stake, which means between 25%-35% of the business.
In the concluding third blog we will unpick the critical success factors required to secure Angel investors and successfully complete the funding round.