This article was first published on e27.
Having just joined the angel investment scene about a month ago, I am amazed at the number of things investors have to understand and be aware of before they can begin.
For example, angels need to have a good grasp of evaluating the strength of the proposed solution, potential market opportunity, business model, founding team, etc. They also need to know how to ask the right questions, be aware of how to behave after the investment, understand the different legal terms, know where to find quality startups to invest in, portfolio management, etc.
Needless to say, it is very easy to be overwhelmed by the number of things you will need to handle before you write your first cheque as an angel.
Thus, when I came across the one hack for angels to get started and shortcut their learning process. I was extremely intrigued.
What is an Angel Syndicate?
Simply put, a syndicated investment happens when a group of investors pool their funds together into one single fund, often through a Special Purpose Vehicle (SPV), to invest in a unit. There can be syndicates for different types of investments, not just for angel investing.
The most famous angel syndicate platform is AngelList, and some other prominent ones include SeedInvest and Syndicate Room.
The 2 key terms to know about an angel syndicate
1. Lead Investor
Typically, an angel syndicate will consist of one lead investor. The lead investor will typically be someone that has had prior experience in the space, and according to the co-founder of AngelList and one of the most famous tech investors of all time, Naval Ravikant, should have the following characteristics: 1) Access to capital, 2) Proprietary deal flow, and 3) Good judgment.
While not necessary, the lead investor would also typically be the one that puts in the most amount of money to the syndicate.
In any syndicate deal, there are usually only 2 types of fees the investor has to be aware of: the administrative (or management) fee, and the carry. For the former, it is the costs relating to handling the administrative and operational aspects of the investment (e.g. legal, due diligence, etc.), and can usually range anywhere from 0.5%-3% of the total amount invested. Note that this fee could be a fixed sum as well.
The second type of fee is the carry, which is short for “carried interest”, is the share of profits that will be paid to those managing the investment (including the lead investor). The fees typically range from anywhere between 6%-25%, depending on the platform used.
Why join a syndicate?
There are many reasons why I consider it a “hack” for an angel to join a syndicate. Here are some of them:
Smaller bite sizes
A common thing I learnt early on from experienced angels were that they would mentally treat their investment as “gone” after writing the cheque. While angels have to be accredited and therefore have a certain level of income and assets before they invest, “throwing away” $25,000 – typically the average size of an angel investment if he/she were to do it alone, might be a little too much for some to bear – especially for those just starting out! By investing in a syndicate, you can invest as little as $1,000 for some deals!
Rather than having ten different investors separately discuss terms with the founder, conduct due diligence, handle paperwork etc, a syndicate will help investors save precious time and effort to undergo the tedious process of managing an angel investment. This is especially important for those that have just started out and might not have experience in structuring such deals before.
Banded together for strength vis a vis other investors
Imagine you are the sole angel looking to invest in a startup. While you have the cash, you do not have the track record, expertise or experience to negotiate better terms to protect yourself. Basically, you have a lack of bargaining power and (well, even if you do, you might not know what to do with it anyway!). In a syndicate, a collective entity made up of many investors will have a much stronger bargaining power than the average angel to better ensure their rights are sufficiently protected.
By investing with the lead investor, you will be on the same boat as someone who is likely to have had years of prior experience and (hopefully!) success. It would be much easier to learn and seek advice from these experienced angels – knowledge that is great to have when considering future deals. Also, by investing in multiple syndicates as compared to just one investment, you would be able to gain a lot more exposure to the ups and downs of the journeys of multiple startups. Essentially, joining multiple syndicates will provide you with a shortcut to your learning as an angel investor.
A key issue with angel investing is the lack of liquidity in the market. Typically, angels, who provide the cheque at the beginning of a startup’s journey, will have to wait years before their returns can ever be realized. However, it is easy for secondary transfers to take place in a syndicate. This means that if an investor wishes to withdraw his/her funds before the startup exits, it would be a lot cheaper and easier to do so.
Other reasons can include, access to better dealflow, taking on less risk as the investment has already been “vetted” by the lead investor, branding purposes (imagine sharing that you invested in 10 different startups with just $50,000 – compared to just one!), etc. Startups tend to prefer syndicated deals too, as it will mean they will not have to manage with multiple angels at once, access to a greater pool of potential business partners and mentors, a less complicated cap table, etc.
How does an angel syndication process work?
We can distinguish the entire journey into 5 phases:
Identification and Selection: A lead investor finds a startup he/she considers a great investment opportunity. He decides to open this up to other investors, and will first discuss with the startup important information such as the proposed valuation, minimum sum invested, amount of funds to be raised, etc.
Gathering of interest: The lead, whether via his/her own personal contacts or an online platform, will open up the opportunity with the relevant information. There are usually face to face meetings, numerous discussions, sharing sessions, etc. during this period. If an investor is interested, he/she will indicate the amount of investment that he/she is prepared to invest, and documents such as the investment agreement, etc. If the minimum investment size has been reached by the lead and other investors, the next phase happens.
Creation: The SPV would be created to act as the entity which will make the investment to the startup. Key decisions will be made by the lead investor, alongside the entity or individual managing the SPV’s operations (e.g. conducting due diligence, legal procedure, etc.). Investors will wire the money to the SPV which would subsequently transfer the money to the startup. During this stage, the relevant expenses will be incurred by the SPV as well.
Monitoring: After the investment has been made, the lead investor will be in charge of communication between the startup and investors in the SPV. His/her tasks will include meeting with the founders, providing information on the performance of the startup, attending and voting at board meetings if necessary, etc.
Exit: In the case of a startup exit and the SPV is entitled a return, they will be shared among the investors accordingly, minus the carry fee which has to be paid to all that is entitled to it.
Starting out as an angel investor can be scary and frightening. You are likely to fail initially; picking the wrong companies, being given poor deal terms without knowing it, etc. It is not your fault! The chances of a startup failing are exceedingly high, and the number of permutations and combinations of a simple term sheet can be a nightmare even for the most experienced angel or VC out there.
However, you now know a way where instead of having to pick the companies yourself, you can invest alongside other angels. You will also be able to invest in smaller sums, incur less costs, and shortcut your learning. What great times we live in! If you wish to find out more about how to participate in AngelCentral’s upcoming syndicate opportunities, join our community through our website to do so.