Where on Earth Do You Find Angel Investors?

Advice on locating and wooing private equity to help your firm grow

If you want to get a rise out of an entrepreneur, just say the words "angel investor." And no wonder, angel capital is the primary source of capital for early stage deals, accounting for more than double the size of the venture capital market.

Recently, The KIP Business Report caught up with Sandles to discuss the current private investor climate and strategies for finding angel investors.

KBR: What are some common misconceptions that entrepreneurs have about angel investors?

Sandles: They seem to think that because it is an angel investor the questions asked aren’t going to be as tough and the due diligence won’t be as hard and the whole deal will get done a lot faster.

I have some [investors] in my group who are very sophisticated and who are very successful businessmen, and successful business people aren’t successful by accident. It is not because they blatantly go throwing their money around. So, I think one of the misperception we’ve seen is that people think angel investors, "Well, how smart are they? They won’t be that difficult. We’ll just do a little presentation, they’ll ask us a few question and they’ll give us the money." They don’t really realize that you have to prepare yourself for an angel investment in the same exact way you’d prepare yourself to be in front of a professional venture investor. You might be sitting in front of an angel who used to be a professional venture investor.

KBR: What motivates investors, say in your network, to do a deal?

Sandles: A combination of factors. It is not purely financial. If somebody had a wonderful deal, but it was all the way out in Illinois and we’re here in New York, that would not interest them, because it would be purely a financial deal and they would not be able to add any value to the company. So, part of what interests them is their ability to add value and use their particular expertise and skill sets in helping another company.

Do they like the entrepreneur? Do they like the business? Do they relate to the business? Is it something they think can really grow to large heights? That’s part of the motivation. They have to get excited about it. They have to fell that they like the people. They have to feel that they can add value. And after all that, they also want to make money.

KBR: Is that to suggest that angel investors are less rational than venture capitalists?

Sandles: I would not say they’re less rational. I would say that their motivation tends to be different; they want to add value to a company. A venture capitalist may never have had that industry experience, but he has enough money in his fund, so he’ll maybe bring in high-level consultants or he’ll hire a management team that has the industry experience, and he’ll sit on the board. The venture capitalist has more of an outlook of I need to make a return so that I make money for the investors who invested in my fund, and then I can go out and raise my next fund. It’s looked at like a job. While the angel will have more of an emotional connection, possibly based upon their own industry experience or based upon liking that particular entrepreneur and that entrepreneur being geographically convenient to where they live.

KBR: And the advantage to the entrepreneur is?

Sandles: Angels tend to be much more willing to roll up their sleeves, pitch in, and help out. So you not only get money but you also get assistance. That’s not to say that venture capitalists don’t help out. It’s just that their perception of how they help out is different. They would rather sit on the board and make sure everything’s running okay. They really want the management team to run everything. So they have much more stringent requirements about who they’ll invest in as far as a management team goes, while angels will tend to see weaknesses in the management team and they figure, "Well, we’ll fill out the team and compensate for their weaknesses."

KBR: VC’s typically look for returns of 25% and up. Does that differ from angel investors?

Sandles: It is pretty much the same. It is all risk capital, so there has to be a return that compensates for the risk.

KBR: What should entrepreneurs consider before accepting money from an angel investor?

Sandles: They should first want to know what value the angel is bringing to the deal outside of his money. If you just get money, and you don’t get anything else, you’re probably not going to have a successful business. So, you’ll want to understand the skill sets and the background of the angel and see where he or she can add value.

The second thing is while going through the due diligence and negotiation process you need to get a feel for what the person is like to work with. Are they reasonable? Are they fair? I’ve always said that angel investments are like getting married. It needs to come under the same kind of scrutiny. Is this someone you want to be married to?

KBR: For angel investors, are there any hot industries?

Sandles: Angels don’t tend to be herd-like. VC’s are herd-like. So, with VC’s first it was the Internet. Then it was the B-to-B [business-to-business]. Then it was the B-to-C [business-to-consumer]. Then it was the portals. Now, they’re on to bio-tech. Angels do not tend to be herd-like. They’re very independent. They don’t follow things because they’re hot industries. They follow things that they understand and relate to.

KBR: What should entrepreneurs be careful about that are likely to come up during the due diligence phase?

Sandles: What the investor is really doing during due diligence is that he is just confirming what the entrepreneur has told him and has written in his business plan is in fact the case—the market analysis, their personal background. If they said they put money into the company, the investor is going to want to verify that. There’s probably going to be a background check. There’s going to be a competitive analysis. This is very often where things break down because the entrepreneurs are not prepared for that level of intense scrutiny, and some people don’t like it. We’ve had cases where we’ve wanted to invest in a couple companies, but the entrepreneurs didn’t like the scrutiny, got angry and walked away.

KBR: I thought valuation was the tricky part.

Sandles: Not in our case. Our investors are pretty fair. We’re not looking to take somebody’s company away from them. The problem we experience is people wanting the money but not wanting to go through this painful process called due diligence to get to the money. We’ve had that happen a couple times. We are now implementing a process whereby before our investors start doing that level of work, we make sure the entrepreneur is committed to the process. We don’t want to start dating someone, if they’re not serious about getting married.

KBR: So entrepreneurs must expect that everything they tell potential investors will be viewed as suspect.

Sandles: Perfect example: Someone will say, "I have the best widgets. Nobody has anything like this. I am the only one with it." Then we go out and we do due diligence. Well, what do you know? Here’s somebody who’s doing the exact same thing and who’s been in the market five years ahead of you. Or we have people tell us, "I have a very proprietary, unique process, that can’t be copied." Then we find out that one of our own member [investors] can figure our how it was done.

KBR: A major challenge for Black and Hispanic entrepreneurs is bad credit. What impact does that have with angel investors?

Sandles: What we see very often are entrepreneurs that get themselves in credit trouble trying to start the business. Since we’re primarily equity investors, we’re not giving a loan that we expect someone to pay back. We don’t disqualify people because of their credit. That being said, if we see someone has a lifelong history, where they never paid their bills and they’re irresponsible, that would be a reflection on their character.

KBR: Is now a good time to be hunting for capital?

Sandles: This is actually a good time, during down economic times, to start a business. You can get employees more easily, less expensively. You might be able to negotiate better terms with a landlord. There’s a saying in our business that during a recession is a better time to start a business. If you’re already an existing business, and you are desperate for money, you’re not in a good place because you have no leverage in today’s market, if you’re desperate. If you are an existing business and you’d like money, but you’re not desperate for it, it certainly doesn’t hurt to look at this time, because investors are looking for good opportunities. But you’re not going to find people throwing money at you at ridiculous valuations like they were three years ago.

Illustration: Jerry Craft

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