What Business Are Angel Investors In?
This is the question that I sometimes ask startup founders.
Usually I get blank stares or quizzical looks. Some founders attempt to sputter something about recognizing value or getting returns on my investment. Not quite.
It’s not a theoretical question. What is the business of angel investors? It’s a simple question, right? But most entrepreneurs struggle to answer.
Angel investors are in the exit business.
Angel investors, at least the smart ones, acknowledge with laser clarity that they are really exit investors and are actually in the business of manufacturing exits. It’s only through an exit event—an acquisition or, very rarely, an IPO—that angel investors make money.
The sooner founders realize that angel investors are in the exit business, the more seed money they will raise and the more successful they will be.
Start with the Exit
Every startup should start with an exit strategy. Entrepreneurs do well to remember that the two sweetest words to an angel investor’s ears are “liquidity event.” They’re not bad for entrepreneurs, either.
A startup’s exit strategy should be signed off by the founders before seeking dollar one of external financing. A well-crafted exit strategy, aligned to the characteristics of the startup and market conditions, will improve the probabilities of success, shorten the time to exit, and often increase the ultimate valuation at exit.
Early exits are attractive for both angels and entrepreneurs. An exit event is the only way angels get paid. For entrepreneurs, early exits translate into new opportunities. For angels, early exits mean more money plowed back into the startup ecosystem.
The Exit as Business Process
The exit is really just another business process—along with product development and marketing—that the startup team must master. The exit process generates more money for stakeholders than any other process during the company’s lifetime. Planning and executing the exit well easily increases the value of the business by orders of magnitude.
If founders understand that, they will understand the fixation all smart angels have with exits and align their pitch and processes to an inevitable and early exit.
“Exit strategy?” they say, “We haven’t even started the company yet and you’re asking about our exit strategy?”
And my answer is, yes, absolutely, and an angel investor shouldn’t have to ask. I want to know from Day One how you architect the exit. Show me you not only see the writing on the wall but welcome it.
The Right Focus
I understand that many startups are not focusing on the exits because they are focused on building the company, growing market share, and getting profitable. Those are excellent goals, but not if you want funding from angel investors. Why? Because the evidence is clear: the bigger a company gets, the chances for a successful exit actually decrease.
That’s why angels want to understand the exit before they invest. When a startup with a half decent idea can show that the exit is clear and well-positioned, angels quickly pull out their checkbooks. Here’s an example of what I mean.
That’s why angels want to understand the exit before they invest. When a startup with a half decent idea can show that the exit is clear and well-positioned, angels quickly pull out their checkbooks.
An effective exit strategy doesn’t have to be complicated. For example, I recently heard from a startup that articulated its exit strategy in one sentence:
At our third strategic planning retreat, the entire team agreed that our central strategic goal was to sell the company in about four years for more than $15 million.
Perfect. A target date and a target price is all I really need. I accept that it’s unlikely for either objective to be realized. But it’s reassuring for me to know that the team has considered the matter of the exit and is aligned around a set of targets. I was also impressed that the team had at least three strategic retreats.
It’s always best to sell a company on the promise, not the reality. Stuff happens, and in my experience, that stuff is never good. There’s a lot of stuff that can go wrong, so get out early.
I’ve seen too many entrepreneurs leave money on the table because they waited too long to exit. When that happens it’s usually because the company is doing well, market share and revenues are increasing, the press is great and everyone is excited. It’s great to see the run-up. But the reality is that the best time to sell is often when business metrics are all on the upward trend. What usually happens is the founders wait until the company is at its peak and by the time the sale is ready, the company is no longer at its peak in value.
