Crazy Risk Taking Business Angels?

Business Angels come in different shapes and sizes. But are they really like? Crazy? Successful? Generous or in it for the money?

That is a question that not only entrepreneurs ask themselves, but also the Business Angels too.

Why?

Most investments that gain Angel investment will have not one single investors but a small team or committee or even a board. And one Business Angel is going to want to know who they are investing alongside. If the Business Angels don’t have mutual respect among them, then the investment is at risk.

This is why Angel investors will often form a small team and, collectively, invest in a number of projects. 

Sometimes the investor team will include a Venture Capitalist and a passionate / dedicated individual in the role of the Business Angel / board or non-exec director. Sometimes the investors might be a group of Business Angels who may have different expectations

However, the image of Business Angels as someone who gives not just his (or her) money (with conditions) and his time, network and experience (more or less for free)… is often not correct.

There are a number of different types of Business Angel – and I propose these these profiles as personal observation – so do feel free to contribute your own.

Quiet Angels – these Business Angels have never invested before – possibly they were an FD in a highly successful company and saw a big payout on sale – and so tend to be looking for that next entrepreneur that will re-create riches like last time. These are perhaps the most nervous of investors as they are not entrepreneurs themselves and are not used to being on the front line.

Sold Up Entrepreneurs- many entrepreneurs who have sold a business just love being around new ideas and are naturally restless. These are probably your ideal investor but they may get bored quickly and want a quick return. Richard Branson might be an example? Hugely charismatic but a bit of a problem if he decides he doesn’t like the direction of the business. May be looking to sell their stake before the founders would wish.

Professional Directors - some investors are professional non-exec directors and have seen a number of business sales plus been on the purchasing side too. These guys have probably seen a few founders ousted by the board. Their knowledge is invaluable and probably they would bring a calming influence. They probably have the greatest ability to play the long game – think Warren Buffett.

Trader Angels - some entrepreneurs made their money less by building a business than by buying low and selling high. They may add great energy to your sales team and have the best networks in your area but they wouldn’t hesitate to sell and do so on their terms.

Institutional Investors - these guys hail from the VC industry and will expect things to be played by the book. Probably they have the least to offer in terms of business expertise and many smart VCs have learned to team up with expertise in the form of Business Angels as this increases their success rate. You might call them the professional money men.

Some investors will, of course, be a mix of all these profiles or even, make take on different roles at different times. Feel free to contribute your profiles of Business Angels – click Comments at the top of this post.

Pounds and Pence

In the first recession investors wanted business plans that offered new simplified services or goods that make things work better (ie. increase efficiency – such as self-service on the web for better prices) or that reduce costs (such as better conferencing or collaboration on the web allowing businesses to cut corporate travel).

However, as opinions strengthen that stocks have rebounded too fast and property assets have not fallen far enough, entrepreneurs and investors need to start thinking about how to handle the second recession.

Now, this is not to say that a second recession is guaranteed, simply to say that the risk of a second recession is sufficient for it to be a part of your plan.

And this is where it gets difficult…

Not only are we unsure if there will actually be a recession or whether we’ll simply suffer a long U shaped recovery where we bounce along at zero growth for years…. but we have very little idea of what this period of secondary recession will be like.

We do know that sooner or later the Governmental stimulus for car purchases (scappage bonuses), property prices (artificially low interest rates) and consumer spending (stimulus and reduced vat) are all going to be withdrawn and accompanied by severe public spending cuts (more unemployment) and higher taxes (lower disposable income for consumer spending for those with a job).

Nor are banks lending on speculative ventures, so don’t expect a pick up in business investment and the VC industry is sharply reduced in scope.

So, against this misery, it is worth reminding ourselves that great companies – Oracle and Microsoft for example – emerged during past recessions and no doubt, it will happen again.

However, the scary part of the recession for entrepreneurs and investors is just before you enter – because the only thing you know for sure is that your business landscape and market place will change radically in ways you can not predict.

So, what do you do? Stop?

Stopping is rarely an option for a commitment already made, but there might be an option to delay or mothball. This may be the smart move for investors and entrepreneurs.

Alternatively, if the only option is to continue, then preparing the business before the storm is the critical act.

Imagine a sail ship at sea which knows a gale is on the horizon – what does it do? Batten down the hatches, prepare for the worse and reduce sail.

A sail boat heals (or tilts sideways) less when it has less sail area exposed to the wind. This increases its chances of withstanding the storm.

So, in the case of business what would be the equivalent of reducing sail? Converting fixed costs into variable costs.

A business needs to convert fixed costs into variable costs as this allows the business cost base to be reduced to whatever your future revenues turn out to be without additional restructuring costs which you may not be able to afford in the future or morale problems.

The classic fixed cost of most start up businesses and all service led businesses is a staff employees on normal employment contracts – which increases your liabilities for redundancy on an annual basis and for which your employees will be incentivised to protect their jobs (ie keep to the letter of their contract) rather than take risks searching for new sources of revenue or business. The impact of this structure of employment law is highest in continental Europe, still high in the UK but lower in the US.

A variable cost is a contract or freelance employee – which can be shrunk to 3 day a week working or 2 days a month or asked to take a 3 month holiday. More importantly, this change can be implemented among freelance staff without loss of goodwill in a way that simply can not be achieved with standard employees.

Therefore, a business that wishes greater certainty that it is going to survive and hence, later thrive, is a business that has moved all or nearly all costs onto the variable part of the equation and away from the fixed cost side of the business.

In this environment, the business that will succeed is the one which has the better implementation – NOT the one with the best idea. This is a novel idea for angel investors who are used to looking for the killer idea – and not necessarily killer implementation.

It is easy – when looking at a new business or start up – to be seduced by the quality of the idea. It happens to both entreprenuers and also investors.

So, in a second recession – if that comes to pass – the survivers will not be the ones with the best idea, but with the best implementation. And that means preparing your business or venture for the worse case scenario. And that means shifting your costs from fixed to variable.

Now, if the second recession does not appear – will you be worse off by making this change? Probably not, as the costs of the redundancy paid now will pay back by a reduced national insurance cost and also a greater ability to adapt your workforce to the demands of your business which in turn is responding to the nervousness of your customers.

In previous boom times, when we enjoyed the famous ‘war for talent’, such an approach might have curtailed your ability to grow your business. In a recession with growing unemployment it is likely to have an opposite effect. Not only will it give your business added flexibility but it also gives your staff more flexibility too – and this, in my experience, increases their satisfaction rather than diminishes it.

However, most importantly, staff on a contract or freelance basis have a much more flexible attitude and are willing to go for the new source of revenue or untapped market and are unlikely to fall back on the old tried and tested ideas that no longer work.

So, with an entirely freelance team, some working from home – some based in your office, you’ll have the flexibility to adapt to all storms that hit your business and at the same time, your crew will be happier. And, if you get your contracts right, there is no reason why those freelancers can not act and behave as an integral part of your business. In fact, it is in their interests to get to the heart of your business and make themselves indispensable.

This is the type of business that will succeed, not necessarily the one with the best idea. After all, who said that Microsoft made the best software in the world? No one. They were just better at marketing.

In this second recession – the differentiator between success and failure will come down to implementation rather than ideas.

This means that businesses seeking new capital that are unable to raise bank finance (and who is able at present?) will need to increasingly turn to Business Angels.

In the view of Anne Glover, this represents a huge opportunity for Business Angels as the Venture Capital businesses will not be able to take all the best deals and leave the angel investors with the left-overs.

In fact, a theme that developed during the recent BBAA event was that Venture Capital firms want to work with Business Angels.

A number of VC firms, such as Catapult, look to invest alongside Business Angels.  Rob Carroll, managing director of Catapult said “investing alongside experienced entrepreneurs and angel investors increases our chance of success.”

However, when VC firms invest alongside angel investors two key issues arise. Firstly, VC firms want to purchase preferential shares, whereas angel investors look to take ordinary equity as this is often suitable for the tax reducing EIS (enterpise investment scheme).

The other issue that arises is that an experienced angel investor will often invest his time and expertise into the start up or growth business whereas the VC will not.

However, Catapult solve this issue by ensuring that the angel investor buys his shares at a lower price than the VC, in return for agreeing to act as a non-executive (and unpaid) director.

The pay off for the angel investor is that he gets to influence his investment and increase the likelihood of success. The benefit of this structure for the VC firm is that experience is brought to bear on the fledgling firm AND that neither is the cost base increased by the non-executive director nor does the non-exec receive a salary.

Instead, the non-exec will see a return on his time and money investment when the business succeeds.

This structure ensures that the interests of the VC firm and the angel investor are aligned and that the risk of the non-exec drawing a cosy salary for NOT challenging the management team is significantly reduced.

As an investment strategy, this structure can ensure a much higher chance of success as well as encouraging both parties to work together with the management team.