ISlide founder Justin Kittredge wasn't really planning to start investing in other startups. But when another footwear company approached him about an acquisition last year, he began to think about how he could spend his money on fellow entrepreneurs.
"Very quickly, I could see a few things to turn that business around," says Kittredge, whose company makes custom slide sandals for pro sports teams and leagues. ISlide didn't end up buying its suitor, but the talks got Kittredge ready to become an angel investor. Now, he's looking to personally invest in three businesses in the next 12 to 18 months. "It's a domino effect, something I want to do more and more," he says.
That may sound familiar, especially if your company is stable and profitable. "Making the shift from founder to investor is a natural part of the startup ecosystem," says Guy Penn, a principal at investment manager St. Louis Private Advisors. "It's a way for success to breed more success."
But angel investing comes with plenty of pitfalls--including how you field, and sometimes reject, pitches from friends and family members. The payout can also be incredibly hit-or-miss: Seventy percent of 245 startups tracked in a 2016 study failed to return even the original capital to investors, while most of the investors' returns came from only 10 percent of exits, according to the Angel Resource Institute.
So if you're ready to spend your money--and time--on other people's startups, know the angel basics.
1. Set your strategy.
Shooting from the hip can be dangerous for new investors, so figure out some personal parameters upfront. Most important: Have a sense of how much money you can stand to lose in aggregate, and how much you're willing to put into each company. "If a person can look at building a portfolio of at least 10 companies, that will increase the odds of positive return with the whole portfolio," says Lisa Crump, a managing partner of Sofia Fund, an angel investment fund for women-led businesses. Part of spreading out your risk may also include putting a cap on how much you give any one startup over time.
These guidelines can also help you navigate requests for funding from close friends, without letting personal feelings cloud your judgment. "By putting standards in writing ahead of time, and holding all pitches to the same standard, it allows for an easy 'no,'" says Penn.
2. Tap your network.
You don't have to go it alone. When Kittredge began thinking about investing, he started asking his contacts about their wins and losses, which made it "much easier to filter through the deals I wanted to take seriously," he says. Andrew Bokor, an angel investor and co-founder of Truss, an online platform for commercial real estate, says he simplified his vetting process by working with a venture group in Chicago, Hyde Park Angels. "They'd bring deal flow, do initial diligence, and handle the administrative aspects," says Bokor, allowing him to focus on his funding goals.
3. Plan your engagement.
Do you want to be an active investor, a silent partner, or something in the middle? "What a lot of people don't realize is that if you're a minority investor, once you write the check, you don't have a lot of leverage unless you are in a control position or have negotiated something contractually, such as a board position," says Neil Kane, a serial entrepreneur and director of undergraduate entrepreneurship at Michigan State University. Before investing, discuss your ideal role--adviser position, board seat, something else?--with the company's leadership. Also, think about what you can provide beyond cash, like introductions or recruiting help. "Can the investor provide value besides funding?" asks Crump.
4. Anticipate all outcomes.
Make sure you're aware of the risks associated with any investment--especially if you're backing a friend or business associate. "You may have an exit where there's not enough to pay everybody--and then you really are fighting over crumbs," says Kane. It's also worth having a blunt conversation about what a less-than-ideal outcome would mean for the people you're investing in, particularly personal contacts. "We might know this will probably go to zero," says Penn. "But not everyone asks how that other person might feel losing your money."