These days, angel investors are looking for companies that know how to stretch a dollar.
Early stage funding, which all but dried up during the downturn, is making a slow comeback for startups.
But this time around, spendthrifts need not apply.
“In particular, we are looking for deals that aren’t going to need a lot of funding at the back end,” said Stu Roberts, Orange County president of the Tech Coast Angels, a loose coalition of investors in Southern California. “We are able to maintain our share better with a company that can reach profitability with a lower number of dollars.”
The big buzzword is “milestones.”
Companies, even the greenest startups, have to hit them in order to put their palms out to investors. They include sales and customer goals, patent wins or other markers of success.
“Entrepreneurs are also getting smarter about identifying meaningful, short-term milestones so they can use them to fundraise for a future round,” said Erik Ekstrom, partner at the technology, media and telecommunications practice of Deloitte & Touche LLP in Costa Mesa. “They are doing that instead of getting (funding) all at once.”
Investors not only are liking this system, they are demanding it.
“The smarter companies are doing more with less,” Roberts said. “They are taking as little capital as they can get along with so they can hit certain milestones and raise their valuations. Only then are they coming back for money.”
Months into the economic recovery, funding is still tough to come by, Deloitte’s Ekstrom said.
“Startup funding in general is still very difficult to secure,” he said.
That’s partly because investors want a company that’s fully baked.
“The expectations of the entrepreneurs are very high,” Ekstrom said. “They are expected to have bootstrapped, have the team and the developed technology in place, and have customers and clients.”
Early stage investors like frugal companies because they allow them to hold on to more significant stakes in the startups.
“The companies that need to add another $40 million to $50 million from venture capital firms aren’t necessarily a win,” Roberts said. “It puts the onus on the company to deliver that much more in returns. You need to see a valuation in the billions of dollars to justify that investment. What that means for our members is less money in an exit.”
Types of Deals
The Tech Coast Angels offer two types of deals.
One type is the so-called “seed track,” in which investors put in a small amount of money but play a big mentorship role in helping the company get to the next stage of its development.
“At the seed stage level, maybe they have an idea and some early results, but for the most part they don’t have the business acumen—the attorneys, contracts—and they need help setting up the operational and financial components,” Roberts said.
Other Tech Coast Angels deals are a bit more hands-off.
“We are just writing a check, and in some cases, taking a board seat,” Roberts said.
The Tech Coast Angels funded seven deals last year, totaling about $5 million. The figure doesn’t include follow-on deals to previous investments.
The average deal size ranges from about $500,000 to $1 million, according to Roberts.
The bulk of the deals were for companies in Internet content or services and software makers.
Startups with offerings that help digitize medical records or medical data are biggies, according to Raymond Chan, who sits on the board of the Tech Coast Angels.
“Healthcare intellectual property is still very popular,” he said. “Companies that are doing data mining—taking reams of data and making sense of it for people—are too.”
Groups like the Tech Coast Angels and others go a ways toward connecting investors with promising startups.
For others, it’s still about who you know, according to Louis Vasquez, vice president of entrepreneurship at Octane, an Aliso Viejo-based booster group for the tech and biotech industries.
“Most of the companies we have worked with that have gotten money have relied on relationships they already have,” he said. “They are increasingly looking to people in their industries and extended networks. We are seeing more of that this year than companies going out and soliciting from angels.”
Octane is hosting its yearly “VC in the OC” event this week in which a selected group of startups present to potential investors.
Some 14 companies were picked from a group of 80 applicants, a pool that was “much higher than last year,” Octane’s Vasquez said.
“It surprised me that demand was extremely high,” he said. “These entrepreneurs have spent the last year hunkered down, working on their product development and are now eager to get out there.”
