My first 'angel', a stretch of the word in every sense, startup investment was unaccountably, to the many who questioned it, more dilettante than diligent. But then contrary to the core, I knew a good thing. After all, having attempted to found a company in 2001 along the same lines, I must be an expert. And their product was far better than I had ever imagined ours to be. Plus they were working agile, when hardly anyone else was. So I met with the founder for a coffee and a chat. And invested. And doubled down. Twice. Due dilettanteness at its finest.
As I know now, I was lucky. Dilettante lucky. Lucky that first investment turned out to be one for the books. Lucky because many angel startup investments are impervious to a Midas touch. For example one British study has shown that in 47% of investments, business angels have a partial or total loss, while on just 23% of investments, they earn an internal rate of return (IRR) of 50% or better. (2) While in another, this time US based, study of angel investors, it was found that two thirds of investments by business angels fail and an IRR of more than 100% was earned on just 20% of investments. (3)
The good news for us dilettantes wading through the wowsers of the academic literature, however is that a number of other studies have determined business angels are a highly influential, perhaps even critical factor, additional to the finance they bring, in the success of startups they invest in (2;3;4;5;6). Smart money in deed, where angels, as Wiltbank and Boeker found in their widely cited 2007 research paper, positively influence startup investment returns by:
While some angels don't dig due diligence and occasionally put less experienced dilettantes, like me, to shame by having successful exits anyway, research by the British Business Angels Association concludes those angel investments where the angel undertook at least 20 hours of due diligence result in significantly fewer failed investments than those with little or none. (7)
Ok so it seems the odd, but definitely not strange, person thinks a bit of due diligence is not such a bad idea. But what is this due diligence thing exactly? Let's start by making clear what due diligence is not. It is not listening to the inner FOMO (fear of missing out) and piling into a hot deal solely because others are, no matter how renown they might be:
Take the 2013 raise for Clinkle, a payments startup as detailed on TechCrunch. This deal was promoted at the time as being the largest seed round ever in Silicon Valley with a number of big name investors and venture capitalists, including Intel, Intuit, Andreessen Horowitz, Accel Partners, Marc Benioff and Peter Thiel. Two years later, however, the company had collapsed, the USD 25 million seed now rooted. (9)
Nor is due diligence a sales process. It doesn't occur with the purpose of producing a 'sales document' to convince others to invest, as I heard one overly enthusiastic lead investor state. Finally due diligence is not about paralysis by analysis. Endlessly examining every minute part of a startup over and over until all risks of a possible investment have been eliminated and the perfect company unearthed. If that was the aim, no due diligence could ever recommend an investment. All startups have flaws. If they didn't, they wouldn't be startups.
Due diligence, at least as this long time dilettante sees it, has two objectives. The first is to identify any show stoppers. The critical flaws that either can't be fixed or will take so long to do so, the startup will never deliver a reasonable return on money invested. Coming a close second is determining which non-critical flaws can be improved and how. The typical Flying Kiwi Angels (FKA) due diligence team focuses on these objectives while diving deep into:
At the risk of sounding like a devoted diligent, I'm now on my fifth due diligence team this year and having great fun. Yes that's right, as geeky as it sounds, fun. Oh of course it can be hard work with lots of late nights and early mornings, especially when the startups are in New Zealand and I live 18,000 km away in Munich. Despite that I get to (e)meet some really clever, interesting people from both sides of the fence, learn a lot and sometimes I even get to give something back. Dilettantes be damned.