Key Sins That May Land You Straight into Angel Investor Hell
By Ninie Verma, Content Associate, 1stCheque by Favcy
Hell may be soular powered but your investments need soul too!
When one is new to a domain, one ends up making mistakes because we're still learning the lay of the land.
We want you to have an investment journey that is as stress-free as can be. So here are the most common angel investing mistakes you can avoid to stay out of trouble.
It’s like how they show it in the movies. Imagine Wolf of Wall Street. Or imagine it’s an episode of Silicon Valley. You're sitting across from the cool CEO in an MIT sweater in a glass-paned meeting room. The pens are all imprinted with the firm emblem, and mock-ups of the new home page stand out in burnt orange and cornflower blue. Even the coffee is provided by an intern who has most likely worked at six other businesses before they got to this startup’s office. The place shouts "breakthrough," "innovation," and "give me all of your money." And you think you hit a home run on your first try at batting.
Everywhere you look there’s a flashy new startup that is sure to yield maximum returns. And in a world where every advancement is potentially game-changing, it’s easy to succumb to temptation and pull the trigger too fast and make some angel investing mistakes. Without temptation, there wouldn’t be sin.
But there are things you have to watch out for before you get your feet wet. Things like: What are the terms of this deal? and What is the timeline to exit? A lot can go wrong if you’re not careful about where you make your angel investments. Making these mistakes is certainly going to force you to learn real-world economics the hard way, but if you’re not too friendly when met with big risks and losses, it becomes necessary to avoid making these mistakes in the first place.
So think of these precautions as advance penance, you’re safeguarding yourself against sins beforehand.
Here are investing sins to avoid if you want to stay on the better side of Earth’s crust and not experience hell.
Sin#1 - Not Being Curious Enough!
Curiosity might have killed the cat but it is only going to benefit you. It’s one of the most common angel investment blunders. So your coworker in the cubicle across from you insists that this new technology will alter the way people think about hairstyle, and you say to yourself, "I can roll with this. My colleague was not going to let me down. You meet with the management team, and everyone is kind and energetic. The pitch deck was eye-catching and seamlessly transitioned from one slide to the next. What else could you possibly need to know? Plenty
At the end of the day, angel investing is a risky business. And not the Tom Cruise sliding down a hallway in socks and an oversized button-down kind of risky. Risky-risky. Like “I am placing my money in the hands of an as-of-yet unproven business venture” risky.
We get it. You love your friends, and you trust them. And you should if you’re asking for advice about whether or not you should respond to the text your ex sent you about meeting up for coffee. But when it comes to angel investing, a friend’s assurances do not make a successful deal.
The Fix: Do Your Own Due Diligence
Asking questions is the first step in getting a thorough evaluation of the company. And it’s important to get feedback from as many sources as possible. Even an internal evaluation done by the startup may not reveal everything there is to know. In any formalized due diligence process, outside experts will weigh in and vet the technology being developed. And any reputable startup should welcome the chance to have their company analyzed through a critical lens.
Some questions to start off with include:
- How pressing is your need for this solution? What are your other alternatives? Why is this alternative better?
- What are the alternatives that currently exist to solve the problem? What are their shortcomings? Which companies offer these alternatives?
- What protections does the company have for its technology (patents, trade secrets, brand, existing relationships etc.)?
- How far along is the technology development: Is there a lab prototype? Customer-ready prototype? Manufacturing-ready model?
- What is the expected exit value? How is this exit value determined?
Luckily here at Favcy you get access to pre-vetted, risk mitigated deals but these are things you should keep in mind regardless, or when investing elsewhere. If you’re ready to do your own due diligence, read this - Key Risks in Early Stage Due Diligence.
Sin#2: Putting All Your Eggs in One Basket
Do you have 5-6 lakhs hot, burning a hole in your pocket? If not, we sympathize. If you do, you’re probably ready to spend some of it. But beware of investing too much in any one deal. Beginning angels are often tempted to write a huge check for their first investment. However, the most important thing you can do as a fledgling angel is to build a diversified portfolio.
The Fix: Seek Variety–It’s the Spice of Life
The key to building a diversified investment portfolio is starting small. As we’ve said before, investors should set aside a certain sum of money and invest across 10-12 different startups right off the bat. Unless you have the opportunity to spread your investment over several startups, don’t start investing. Lack of diversification is the surest way to lose money. Still confused? Here’s everything you need to know to know about diversification, read - Many Eggs, Many Baskets - Importance of Portfolio Diversification
Sin#3: Not Understanding the Terms of the Deal
We’ll state the obvious here: every deal is going to have certain investor terms, and it’s your job to figure out what they mean. Not having a full understanding of what the deal terms are is the biggest angel investing mistakes and is like showing up to class without having done the required reading. You might be able to muddle your way through based on what other people tell you, but you’re probably not going to get the grade you want. The fact is, if you don’t understand what the deal terms mean, you’re going to be disappointed. Here in Angel Bytes, we’ve mostly covered all the basics and you can use us as a resource. Check out this helpful list of startup metrics definitions- Startup Metrics Every Investor Needs To Know
The Fix: Do Your Homework
Immerse yourself in deal terms 101. It’s helpful to brush up on your deal terms vocabulary. Make sure you understand terms like pay-to-play, PMF and more. In the end, no matter the terms, it is always good to do your own research before investing so that you know what you’re getting into before you sign on the dotted line.
Sin#4: Not Identifying Personal and Business Goals
So you’ve found a startup with fascinating, breakthrough technology. You’re sure this is going to change the industry and impact millions of lives. But what is the benefit for you? What do you hope to gain by investing in this company? Oftentimes, beginning angels get caught up in the initial draw of a company without making sure that it aligns with their ultimate goals.
The Fix: Set a Goal and Stick to It
You can do all the research in the world on due diligence and deal terms, but the only person who can decide your ultimate investing goal is you. You need to ask yourself: what do I want to get out of this investment? Are you investing for personal reasons like building a better future by mitigating climate change? Or for economic reasons like getting a 30% IRR? Determine what you want to gain from your investments, and align those ideals with the companies you invest in. At the end of the day, angel investing should be a rewarding pursuit, and chasing your goals will help get you there.
You’re likely to fall prey to a few mistakes in the beginning. However, with the time, tips discussed above, and plenty of experience, silly slips like these are less likely to happen and lead the way to much more profitable investments and an investment journey that is stress-free and exhilarating. And you always have us to avoid all these 'sins' in the first place!
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