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The 3×3 Framework for Predictable Startup Investing

The 3×3 Framework for Predictable Startup Investing

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Fundraising, Investing

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    The Structure of Angel Groups

    February 27, 2022

    2 min read Angel investor groups require diligent administrative attention. There is a lot of required structure and organization. If you are managing or considering starting an angel investor group, it is important to keep the following structural considerations in mind. Investment Structure In setting up an angel network, you need to choose an investment structure. Here are some structures to consider:  Individual investments: The members can each decide if they want to invest and how much to invest in each deal. This allows for maximum flexibility for the members to invest in the deals they want. The drawback is the administration is high, as you must work with each investor in determining their amount of investment and signing of the documents. Group investments: The members invest as a group. In this structure, the investors can create a pledge fund to allow the group to decide which deals to pursue. Members have some decision-making control over the investment decisions. This reduces the administrative overhead. The group can choose to create a fund in which a screening committee or manager determines which investments are made. This requires the least amount of administration as the manager or committee makes the decisions on their own. Lastly, the group can choose to create a sidecar fund that invests from a fund into deals the members have funded individually. The sidecar fund provides members diversification on top of their individual investments. This is also a low-cost administrative structure as the sidecar investment is typically a calculation based on the members’ investment and does not require a manager to run it. Legal Structure There are several legal structures to use when setting up your angel network. Most angel networks form a Limited Liability Company (LLC). This gives the angel network a legal entity with which it can conduct business. The members often pay an annual fee to fund the operational activities of the company. Angel networks form in association with a university. Since the university is a non-profit organization, the angel group can work inside the university for its mentoring, networking, and other non-financial activities. For running a fund or making investments, the angel network inside the university must set up an entity outside the university, since non-profit organizations cannot engage in investment activities. Some angel networks form a not-for-profit LLC and then apply for non-profit status 501(c)3 with the IRS. Again, mentoring, education and other non-financial aspects can be done within the organization, but the financial aspects such as investing must be done outside. Finally, there are angel networks that form a not-for-profit LLC and then apply for trade organization status or 501(c)6. This structure allows the organization to engage in political activities. Those angel networks choosing a non-profit or trade organization structure must set up a separate legal entity for any funds they want to raise and deploy. Organization Structure There are two ways to organize your angel network: member-led or manager-led. Member-led groups let the member’s source deals, lead the investments, and recruit the members. They hire staff members to handle the administrative tasks. Alternatively, manager-led groups hire experienced professionals to perform key functions such as determining which startups to fund.   Managers work on screening the deals so only the fundable ones go through to the members. They prepare the founders to ensure that their documents and presentations are ready. They maintain communication with the startup throughout the process. They lead the diligence process and produce the diligence report.  Some angel groups partner with incubators, accelerators, universities, and other groups. The partner provides meeting space and shares the operational cost of the group. Some partners provide administrative support. The choice of member-led versus manager-led often comes down to the availability of someone to take the role of the manager.  Meeting Structure In setting up your angel network you’ll need to set up the meetings. Here are some key points to consider: How many deal flow cycles are you planning? Are you online, in person, or conducting both at the same time? How will you set up the screening meeting, the presentation meeting, and the diligence follow-up? Will there be time between the meetings? Do you include a meal, appetizers, or drinks? Where will you meet? How much time will the meeting take? What is the number of companies that will be pitching? How much time is set aside for networking? What are the duties to be done before, during, and after the meetings? How often will the board meet and when? Where do sponsors fit into the meeting agenda? Will there be education sessions? What are the needs of the members and how best to facilitate the education? Who is the best to provide the training? Consider these points in setting up the meetings as it’s a key decision set for the group. Read more on the TEN Capital eGuide: Leading an Angel Group Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    Educate the Investor About Your Deal

    February 23, 2022

    2 min read They say it takes seven touches to close a sale – so it takes seven touches to close an investor. Some startups pitch to a group of investors and if they don’t see checkbooks coming out at the end, then in their mind it’s a failed meeting. I tell the startup, the investor doesn’t yet know if they are interested or not – they’re still trying to figure out what the deal is about. It takes four updates before the investor gets a sense of the deal and can start to form a decision. In the end, the investor makes a decision based on team and traction. The Introduction In the introduction, you can talk about the market size, growth rates of the industry, and the promise of a great outcome.  After that first mailer, the investor doesn’t care to hear any more about the market or growth rates. They only care about one thing – what are you doing to achieve the promise? Revenue Numbers I’m amazed at how many startups don’t know their revenue numbers. Come prepared to share those details with the investors in mailers and follow-up conference calls. One tactic I’ve seen used to good effect is to go to your investor prospects six months before launching the campaign. Tell them you will start your raise in six months and then ask if you can keep them informed of your progress. This gives you six months to educate the investor about your deal and demonstrate progress so when you are ready to launch your fundraise; you have a group of educated investors prepared to go. Read more in the TEN Capital eGuide: http://staging.startupfundingespresso.com/how-to-raise-funding-eguide/ Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    The New Normal for Fundraising (It’s All Online)

    February 23, 2022

    2 min read Fundraising like everything else has moved online, almost all of it. Traditionally, those who wanted to raise funding would meet everyone in their local area. You would pitch to the local angel network or investment group, meet with the local venture capitalist, and of course canvas all your family and friends. It was something the CEO had to do because investors wanted to meet with the CEO of the company. It was time-consuming. You had to get introductions to investors you didn’t know and you had to keep the investors up to date with your progress. It was not uncommon to hear about 50+ pitch sessions before receiving the first investment. The investor side was equally difficult. I ran an angel network in the 2000s, and I had many startups pitch to my investors in a dinner club setting. Ninety percent of the startups would go away, and we would never hear from them again. We had no idea what happened to them. Only about ten percent would come back and give us updates, reminders, and show some semblance of progress. Those are the startups we funded. Those CEOs built a relationship with the investor and provided enough information to the investor that one could see momentum and traction in play. The Present Today, there is a better way. You can use online tools to help raise funding for your business. The key to fundraising is to build an investor prospect list and update them on your progress.  It takes seven touches to close a sale – so it takes seven touches to close an investor. Tools to Raise Funding To raise funding, you need to: Access a large number of investors. You need to think worldwide-not just citywide. Use analytics to find the right investor. Understand the different investor types – angels, VCs, family offices, etc. Engage and maintain contact with investors.  You have to demonstrate progress not just state forecasts and make promises. Prepare investor documents— you need to come prepared with your pitch deck, due diligence box, and other key documents for investors. Prepare the campaign– know what are you are going to tell the investor about your deal. The rule of pitching is: if you don’t articulate it – it doesn’t exist.  If you have revenue but don’t mention it, you get no credit for it with the investors.   Read more on the TEN Capital Network education: http://staging.startupfundingespresso.com/education/ Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    Angel Investing: The Deal Process

    February 20, 2022

    2 min read The aim of every angel investor is to profit, and this is done by closing successful deals. In this article, we take a closer look at the deal process discussing topics such as stages of the deal, performing due diligence, and how to effectively lead the deal as an angel investor. Stages of the Deal Process A startup investment goes through a series of stages. It starts with the pitch presentation in which the startup introduces the deal to the investors. Then there’s the first follow-up meeting in which the investors dig into the deal to learn the details. Investors want to think about it and also want to see the startup continue to make progress. Then comes the Due Diligence phase in which the investors perform a more rigid review of the startup’s documents, team, and market. If the terms sheet has been established by other investors, then the investors review those documents. If not, the investor must negotiate the terms including valuation. Investors then check with their network to see who else may want to invest or put it out to other investors for syndication. Finally, there’s the closing of the round with the signing of documents. Not every startup makes it all the way through the process. Here are some key challenges: When the investors come together to dig into the deal, it must have enough traction and value propositions to maintain the investors’ interest before the investors commit significant time to it.  Deals may stall because the diligence process didn’t continue because the investors were distracted. Some deals stall because the startup and the investors cannot agree on valuation. Deals can stall out or come up with a lower investment amount because investors fell out at the closing stage.  It’s important to keep the momentum going throughout the process both on the investor side and the startup side. Deal Diligence Below are some tips on how an investor group can make the diligence process manageable: standardize the diligence process break it down into subtasks and define the process for each task assign the tasks to team members set target dates for completion and have periodic check-ins with each team member  focus on the key risks and not every aspect of the deal make clear to the startup how the diligence process works keep the startup apprised of the progress and status of their deal In most cases, the startup will find the process manageable if they understand how it works and if they see consistent progress to the goal. A good diligence process often provides new information and insight to the startup. Reducing time, making it efficient, and helping the startup, are the signs of a good diligence process. Leading the Deal In early-stage investing, someone needs to take the lead and screen the deals, diligence selected ones, and negotiate the valuation with the chosen ones. In most cases, the lead investor doesn’t want to be the only one in the deal and promotes other investors to join. This promotion process is called syndication. Most investors are looking for someone else to take the lead and actively follow the deal as it progresses. As a deal lead, make sure you do the following: Setup a strong process for diligence and bring legal, accounting, and other resources that can help in the process. Know the deal economics such as valuation, investor rights, control terms, and the path to an exit.  Keep other investors informed to attract them to the deal. Invest enough of your own funds to show commitment to the startup. Coach the startup on fundraising, especially for first-time founders. Move the funding process forward consistently without stalling out. Set aside time to join the board of directors. Add value to the startup where you can. Move to Close After the diligence is complete and the open questions answered, the team must decide whether or not to invest. It’s important to identify the risks and write them out in the report. The team should articulate an investment thesis that includes the opportunity in the deal such as how big it could become. The team should include the potential exit value and how long it will take to reach it. The team should also clarify their assumptions around the deal and write it out as well. To decide to go forward, take the temperature of the team. It’s either heating up or cooling off. Monitor the company’s progress to see if it continues to demonstrate a growth story. If enough investors want to move forward, then the investors should pursue it. If not enough investors want to move forward, then it’s a pass. It’s important to make a timely decision as the entrepreneur needs to know the group’s position.   Read more on the TEN Capital eGuide: Leading an Angel Group Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    Understanding How Much Funding to Pursue

    February 17, 2022

    2 min read  When I ask entrepreneurs how much they are raising the automatic answer is $1M. It just seems like the thing to do. Moreover, when I ask what they are going to do with it, many seem unsure. Alternatively, they provide generalizations like:  “We need it for marketing, or hiring key personnel, or developing products.” The response from investors (myself included) is usually along the lines of, “No S!#t?” How Much Do You Need? Before pursuing investment, one needs to consider how much to raise and how it’s going to be used.  When you go to pitch to investors make sure you are prepared. It should be clear as to exactly how you’ve come up with these funding requirements. Be comfortable explaining these funding requirements and exactly how you plan to put that money to work. Of course, it’s still an educated guess. However, having these items researched and detailed in your business plan (and pitch presentation) will build a lot more credibility with the potential investor. Figuring out how much you need to raise starts with: How much do you need for equipment, inventory, contract services (such as legal costs, marketing, sales, and more.)? This financial model is a MUST before setting the fundraising amount. Start Small I often recommend raising as little money as possible before you have customer sales because the valuation (how much the investor considers your company worth) is going to be quite low. Any money you raise in the beginning will cost a more significant portion of the equity in your company than follow-on investments down the road. In other words, the higher the risk, the greater the equity the investor is going to require.  It’s also better to raise a lower amount (say $250K) to get the product up and running and sold to a few customers. You always raise a larger round of funding later, but at that point, it should be a much better valuation for the entrepreneur–with the product and customer risks mitigated you don’t have to give away as much equity. Also, for every $1M you are trying to raise you’ll spend one year raising it and NOT doing much of anything else on your business. Raising only $250K will reduce the amount of time spent fundraising allowing you to work on your product, marketing, sales, and team building. Read more on the TEN Capital Network education: Click Here Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    Best Practices for Entrepreneurs Seeking Funding

    February 17, 2022

    Next2 min read Have ready the executive summary, slide deck, and business plan with financials.  It helps to have the core three documents – executive summary (one-page only), slide deck, and business plan already developed and ready to go. As the entrepreneur meets prospective investors, he can use the relevant docs for each meeting.  Publish a periodical email newsletter for interested investors  In the fundraising process, I see some entrepreneurs sending out email updates to highlight the progress of the company. Some come as often as weekly to show growth in sales, product plans, and other milestones. This shows the company’s ability to execute.  Finding a Lead Angel Find a lead angel to develop a terms sheet and start the funding round By finding a lead angel and creating a terms sheet, the entrepreneur removes the most significant barrier to fundraising – the negotiation process. Numerous angel investors find the initial negotiation and due diligence process too time-consuming. By eliminating this hurdle, the entrepreneur opens up the deal to a more significant number of investors.  “Investor-friendly “ Make the deal terms “investor-friendly.” First, every deal must be negotiated. The harder the terms for the investor to accept the longer the time it will take to negotiate. By making the terms “investor-friendly” through reasonable pre-money valuations, preferences, and other terms, the faster the process goes.  Due Diligence Next, push all due diligence docs to password-protected therefore, interested angels can perform due diligence more easily. The due diligence phase can be sped up by having all the essential docs already available. I’ve seen some entrepreneurs put everything on a protected website and then give out the password to interested investors. This knocks down the hurdle of trying to send 600 MB worth of documents through the email system.  Continue the quarterly email newsletter after funding, so investors stay with you. It’s important to keep investors up to date even after the funds are raised since investors can help in other ways. Some investors bring a Rolodex of contacts while others bring experience and coaching. By keeping them informed of your progress and challenges, they may be able to help. This practice is also useful for when it comes time for follow-on fundraising.   Read more on the TEN Capital Network education: Click Here Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    Joining an Angel Group

    February 14, 2022

    2 min read You may find yourself contemplating joining an angel investment group. As with all investment decisions, there are both benefits and drawbacks to joining an investment group. Familiarize yourself with both before making the final decision. Benefits The angel network can build resources to share with the angel such as due diligence. This is time-intensive work, so it helps to share the load. Angel networks provide more and better deal flow than individual investors can find. The bigger the angel network, the more likely there will be investors that are knowledgeable about the market segments and startup business models. This lets the angel investor pursue deals outside their core expertise. Angel groups can write bigger checks than individual angels and thus command better terms with the startup. Experienced angel investors can share their knowledge with new angels. This is particularly helpful in setting valuations, defining term sheets, and supporting the company. Angel investors can find diversification through the angel network and its deal flow. An angel network will have more influence over its startup scene than an individual investor.  Challenges Here are some challenges related to angel investment groups to consider: Angel investing requires hands-on work with the startups, not only in funding but also in supporting them after the investment. They are often left filling in the gaps left by the local incubators and accelerator programs in coaching them into a place where they can raise funding. First-time angels can find it time-consuming and expensive to learn the process. Newmarket segments require the angel investor to continually learn new industries and business models.  There’s no collateral for the investment and it can all go to zero as it’s a risky investment class. One out of ten investments will be a home run. Two or three will provide a small return on investment. And the rest will fail.  Angel investing can be a rewarding endeavor but it’s not without its challenges. Read more on the TEN Capital eGuide: Leading an Angel Group Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    How to Use Mailers to Assess Engagement

    February 10, 2022

    2 min read You have a good list. Next, you need to introduce your deal to the investors and demonstrate why it’s a good deal. The operative word here is “DEMONSTRATE.”  Most startups tell the investor why it’s going to be a good deal – great product, great team, great market, great future, etc. The key is you have to SHOW them it’s a great deal by highlighting the traction with customers, the experience and ongoing work of the team, and the improvements on the product. Investors see dozens of deals every day.  You can stand out by remembering one thing: Everyone promises – only a few deliver. What is an Investor? Every startup has a great future. Every startup promises the moon.  So what does the investor do? The investor looks for evidence of meeting milestones, a sense of momentum behind the deal. Your outreach to the investor is a campaign – not a one-time contact. You must demonstrate that you have traction. The team must be doing great things. The product must be progressing. If you can’t do anything unless you have a $500K, then this is going to get tough. You have to show you can do things with little or no funding. Your campaign mailers need to tell your story. Over the next four mailers, you need to showcase your story and how it works. Investors are busy, and they don’t have time to read 5000-word emails. They’ll read a half-page, maybe a little more and that is it. It would be best if you told your story over a series of emails as we work our way into the busy lives of the investor. Break the story down into smaller pieces and schedule them out so the investor can see progress being made weekly.   Read more on the TEN Capital Network education: Click Here Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

    Need-To-Know Metrics for Investors

    January 31, 2022

    2 min read As an investor, there are several metrics to keep in mind while evaluating and managing your startup investments. Today, we are going to talk about four key metrics: redemption facilitation, 3X in 3 terms, IRR, and ROI. Continue reading to learn what these metrics are used for and how to put them into action for your investment portfolio. Redemption Facilitation: In an early-exit term sheet, it’s important to have a redemption facilitation process. This includes the steps for setting up the bank accounts, capturing the investor’s interest, providing payouts, and investor updates. The process also tracks escrow of repayment funds and later revenue share payments to complete the redemption process. For the redemption exercise, here is the timeline and steps: 180 days from Note maturity: Capture the current version of the cap table and financials, including the current income statement and balance sheet. Send a notice to the investors to consider their decision to redeem. 90 days from Note maturity: Confirm the investors’ decision to redeem. Prepare payment options for the company to consider.  60 days from Note maturity date: Send notice to the investors of impending maturity and confirm their decision on redemption. 30 days from Note maturity date: Update investors with status on a regular basis. Send notice of redemption to the company and ask for payment due in one week. 23 days from Note maturity date: If payment is not received, then a payment plan will be due in one week by the company. 16 days from Note maturity date if no payment plan is provided: Set up a follow-up meeting with the company to discuss options. Upon maturity of the Note or in the event of a Corporate Transaction payment: Create a promissory note of the debt due. Elect a board of directors with investors having majority control. 3X in 3 Terms I analyzed the results of several angel networks and found that 65% of the investments after three years were still in business but were no longer on the venture track. In most cases, they were growing businesses but we’re not going to be bought out for a significant return to the investor as the market conditions had changed, the competition had taken over, or the founder was no longer interested in keeping pace to achieve a venture exit. The best-case scenario was the entrepreneur would sell the business for 2-3X after 10 years, in which case the investor would get a minimal return on investment. In my investing experience, three years into the investment, it becomes clear if the company will continue on the venture path or not.  I often saw the entrepreneur signal their departure from the venture path by taking above-market rate salaries.  I called this taking the ‘payroll exit’, in which case they no longer needed an ‘equity exit’.   This left the investor stranded on the equity plan with no way out. I set up a deal structure that would allow the investor to go on the payroll exit in the event the startup chose that path. In this structure, the investor receives three times their investment three years from the date of investment. Therefore, $100K in yields $300K out. If the company continues on the equity exit, then the investor may choose to stay in the investment.  ROI ROI is the return on investment without respect to time. If I invest $100K and 5 years later I receive a return of $300,000 then my ROI is 3X as I’ve tripled my initial investment. Since ROI doesn’t reflect time passed, if I receive my return 10 years later my ROI is still 3X. As you’ll see in the next section, this is where ROI and IRR differ from one another.  IRR IRR is the internal rate of return which is the return on investment with respect to time. It’s easiest to calculate IRR using an excel spreadsheet. Follow the steps below: Open up a column Set each row as one year Put the amount invested in year 1 (use a minus sign for this input) The amount returned in the appropriate year (use a positive sign for this input) Put a zero in each unfilled row Apply the IRR formula from Excel to make the calculation To understand your investment results better, you’ll find IRR is often a better metric than ROI as it considers the time factor. Read more TEN Capital eduction:  http://staging.startupfundingespresso.com/education/ Hall T. Martin is the founder and CEO of the TEN Capital Network. TEN Capital has been connecting startups with investors for over ten years. You can connect with Hall about fundraising, business growth, and emerging technologies via LinkedIn or email: hallmartin@tencapital.group

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