The Way I See It… by Michael C. Volker
Early stage angel investing is a numbers game
My passion is startups. The thrill and challenge of creating a new technology venture is a most gratifying experience. Successful entrepreneurs – those that have built and sold their companies – will once again be lured to new startups: once an entrepreneur, always an entrepreneur.
While some prefer being serial entrepreneurs, others prefer the mentorship and angel approach. The former implies taking control while the latter implies a betting-on-others approach. For more than twenty years, I’ve taken the angel path, opting for variety by encouraging and supporting other entrepreneurs in the pursuit of their dreams. This invariably involves the raising of startup funding.
One of the recurring themes in my columns has been the early stage funding gap that exists. Commercializing the research conducted in taxpayers’ institutions, e.g. our universities, requires risk-taking. This is what angel investing is all about and it is an essential ingredient in the development of an advanced technology industry.
The growth of the technology sector in B.C. was largely aided by the provincial government’s funding of various organizations such as the Innovation and Science Council of B.C. and the B.C. Advanced Systems Institute. They supplied relatively small, yet critically needed, capital in the form of commercialization grants to the likes of well-known companies such as Sierra Wireless, Ballard Power, PMC Sierra, QLT Inc., Angiotech, Macdonald Dettwiler, Creo Inc., and Westport Innovations to name just a few. Of course, they also supported many that failed.
Instead of leaving government to the task of trying to pick the winners, the trend as demonstrated by the B.C. government, is now towards letting the private sector do this job. The recently revamped B.C. Venture Capital Act provides investors with a refundable tax credit of 30% against investments made in eligible small businesses. When combined with investments through RRSPs and a target company’s use of the Scientific Research and Experimental (SRED) tax credits, a few hundred thousand invested by angels can go a long way.
Private, individual investors differ from institutional investors in one very important aspect. Angels think of the reasons why they should invest in a deal unlike traditional venture capitalists whose job it is to come up with reasons why not to invest. It is these angels that help in grooming companies to the point where they are less risky and ready for serious venture capital investors.
While this sounds good in theory, it doesn’t always work that well in practice. In reality most technology communities do not have a large number of well-heeled angels that can make dozens of investments. Typically, a few angels will cough up one or two hundred thousand dollars when double or triple that amount is required.
Anyone who has played the angel investor role knows that the odds of picking a winner are slim. We’ve all heard that only one in ten investments will produce a greater than ten-fold return. Using this logic, ten investments should produce a positive return. However, I’ve heard that to get one out of ten you have to be in at least sixteen deals! If that’s true, it’s going to be very difficult to find enough individuals willing to cast their nets this wide.
That’s why “angel funds” such as the Western Universities Technology Innovation Fund in B.C. will – and must - grow in popularity. These are pooled funds that are managed by angels that co-invest with hands-on angels. These funds can provide funding top-up and at the same time reduce individual angels’ exposure. By investing in dozens of deals, the likelihood of overall returns is improved.
Assisted by the afore-mentioned tax credits, angels and other investors ought to be attracted to such funds. The way I see it, for this to really work will take some visionary angels who understand that, aside from great technology and exemplary entrepreneurs, successful investing in the tech sector is nothing more than a numbers game.
Michael Volker is a high technology entrepreneur and