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Success factors of early stage venture investing

What are the factors that determine the success of Angel investing?  In the most comprehensive study of Angel investors, Robert Wiltbank and Warren Boerker have looked at the portfolios and exits of 539  Angel led investments, in a three year study conducted through the Angel Capital Education Foundation and the Kaufman foundation (study is here Returns to Angel Investors in Groups).  They gathered data from several prominent angel networks including the Tech Coast Angels in Southern California.  Their analysis provides interesting insights into the factors that determine success in early-stage venture investing.

First, the numbers: the average ROI on investments of individual investors who are part of angel networks is 27% on average, with 2.6x return in 3.5 years.  The returns are concentrated in a small number of investments with only 7% yielding more than 10x.

1.  Due diligence: the amount of due diligence conducted on an investment is a direct predictor of success.  It is clear from the study that a higher number of hours of due diligence relate to greater returns on the investment.  This confirms that the large number of hours that angel networks spend in due diligence, per deal, is indeed time well spent.

2. Expertise: The experience of the angel investor in the industry that they invest in is also correlated with the success of the deal.  The strength of large angel networks lies in the depth and breadth of the expertise of its members.  This finding regarding the correlation of investor experience with returns indicates that in angel networks, investments are best led by (or actively supported by) members who have specific domain expertise in the area.

3. Follow-up: Hands-on investors had a higher success rate than those who were less involved with their portfolio companies.  This finding certainly makes sense, as companies that are closely mentored and receive the benefits of the investor’s experience, are more likely to succeed.

The study covers investors in major angel networks.  Individual Angels are not included in the study.  It is not clear how the performance of individual Angels would compare with the results of this study.  One can only guess that single investors would not invest the tens to hundreds of hours of due diligence typically conducted on investments in angel networks.  On the other hand, angel investors with very strong know-how in a particular domain might perform very well if they invest within their own area of expertise.  Individual Angels tend to invest in companies and people that they are familiar with, so they might have more insight into the strengths and expertise of the entrepreneur. 

The issue of an investor keeping in close touch with the companies that they invest in, is a big one.  The standard recommendation is that an angel investor build up a portfolio 20 to 25 investments, so that they are properly diversified. For an individual investor (or even one within a network) the job of tracking that many companies can be very time consuming indeed.

And then there is the issue of what is "suitable diversification" in a venture portfolio. If we use the results of this study - that only 7% of investments are in the category of "make-the-fund" transactions that return more than 10x, it implies that in a portfolio containing the recommended 25 investments, 1.75 on average, will generate high returns.  With an error of 0.75 on the average number of investments needed, there is a 67% (1 sigma) probability that the investor get between one to two big hits under their belt. 

The last piece of analysis assumes a normal curve for venture investments. But but of course we know that there is nothing "normal" about venture investing, and that the highly interesting phenomena really lie in tails of the distribution!

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Leverage: Ending gift card clutter!

Do you have some gift cards from the holidays taking up space in your wallet? Wouldn’t it be nice to exchange those Gap cards for Nordstrom?

Leverage, an Irvine based start up affords its users an opportunity to purchase and track cards from hundreds of national retailers in one place. Unlike other gift card sites, Leverage’s business model is unique. Rather than paying extra for the privilege of purchasing a card, consumers collect interest on card balances on account. At a time when most cards go unredeemed and sites charge a premium to buy gift cards online, Leverage’s free approach is refreshing and makes a great deal of sense for gift card holders. Moreover, since cards are tracked electronically all in one spot, it helps in cases where a physical card is lost, gift card balances need to be checked, and it removes the need to hunt for all that plastic (especially when shopping online).

Once registered, unwanted gift cards can then be swapped with other users in the Leverage community. Members get full value in the exchange and Leverage does not charge a fee for the service – all of the other places you can swap or sell a card do charge fees.

The Leverage "virtual wallet" goes further in tracking loyalty programs such as frequent flier programs of major airlines, hotel stays, rental cars, etc. At a glance, a member can determine loyalty point totals from various programs rather than having to log on to each airline/hotel site separately, remember usernames and passwords, etc. How many of us can attest to losing frequent flier miles to expiration? Tracking loyalty points on Leverage provides full visibility and increases the chance that they will actually be redeemed for awards.

Additionally, Leverage offers consumers a way to receive specific, targeted offers and coupons. Leverage will anonymously combine the information gained from activity on the site with profile, gift card, and loyalty program information to “pull” offers to you from retailers and manufacturers. Such messages would only be delivered to members when they are in the mood for them rather than interrupting you with email (in other words, you see you pulled offers only when you log into your Leverage account). The Leverage user would essentially decide what messages they’d rather hear about; for example a 30% off in-store coupon at Borders, or a sale announcement at the exact online apparel store that they are holding a $50 gift card to in their Leverage wallet.

Additionally, with their Transparent-Targeting mechanism, Leverage provides members with the exact targeting rationales from the retailer for each offer that gets pulled. For instance, a communication from a retailer might be target you and let you know that "you received this offer because you’re a 25-40 year old female, holding at least $48 worth of our gift cards and you indicated an interest in fashion". This is all done anonymously and members would also be able to exercise full control by "dialing up or down the volume" to get more or less messaging from the retailer or the specific category.

This control and feedback, unprecedented in the industry, enables a member to anonymously ask for relevant information and for retailers to target their messages to a motivated consumer.

All in all, Leverage offers a unique approach to a sticky problem; that of purchasing and keeping track of gift cards and loyalty programs. It offers retailers targeting messaging and consumers with an ability to control what they want to see and hear about.

Contributed by Rabinder Sekhon, Sekhon Advisors

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Robert Scoble and the secret Microsoft killer product

We know that Microsoft is going to unveil a revolutionary product. We think it is coming out March 3rd. We don’t know what it is. We know a lot about what it isn’t.

The hoopla started when Scobleizer Robert Scoble broke the story that he was shown a Microsoft product which was so moving that it made him cry.

Microsoft researchers make me cry

It’s not often that I see software that really changes my world. It’s even rarer that I see software that I know will change the world my sons live in. I can count those times pretty easily. The first time I saw an Apple II in 1977. When Richard Cameron showed me Apple’s Hypercard. And something called Photoshop, all in his West Valley Community College classroom. Later when I saw Marc Andreessen’s Netscape running the WWW.

I think we have all been there. Seen an invention that you knew was going to change the world.

So it was when I saw the first web browser. It was Mosaic (the mother of all browsers), beautiful, even in its first version. I tried to tell others what I had beheld. "It had graphics, hot links that you click on to go to yet another page, you book mark things you like….". But it was like speaking a language no one understood. If all you had encountered were Bitnet, Decnet and ATDT (remember?) there is no way you would have the vocabulary to understand how revolutionary the first graphic web browser experience is.

So I understand Robert Scoble, and his need to write about what he had seen, even if he cannot divulge the details yet.

Techcrunch has spent some time speculating about what this is. Scoble has replied on his blog with what the new product isn’t - ie everything that Techcrunch is speculating about. According to Robert it is not operating systems, productivity apps, data centers or databases, video game consoles. And no, it is not the touch table top pc either. What is seems to be is a clever, small application that two (presumably very smart) people built.

So then Valleywag gets into the fray. They scold Scoble for starting hype about a product before he is released from an embargo regarding divulging information!

From Valleywag: Unsolicited advice, Robby: If you have an embargoed piece of information, don’t talk about it until you can talk about it. You’re not building buzz, you’re killing it in advance by sending people’s imaginations soaring in the wrong directions

Excuse me! There is no great product that has needed buzz before it was released, to be successful (think Facebook, Google, Ebay). Nor has any product been killed simply by hype.

For those who are pointing to the Segue as a prime example of high expectations generated due to too much buzz, lets just be honest. The product did not get killed because of buzz. It faded away because it looked dorky! Steve Jobs thought so, and a focus group of a few teenagers would have come to the same conclusion if the designers had let anyone have a peek at the product while it was being built!

Meanwhile - yay for Microsoft! We are all ready for them to totally wow us with their next app!

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Intrade: Fantasy markets making real money

According to the WSJ’s fantasy political market, today’s top pick for president is Barrack Obama (trading at the highest price), followed John McCain and Hillary Clinton. The most active trading is for Mike Huckabee (largest volume of shares traded).

Fantasy betting has risen considerably in popularity in recent times, with web sites devoted to picking winners in every sport from football to fly fishing. The built in social network of most sites allows users to participate in fantasy betting with friends and family.

 BetFair as the front runners in the prediction markets game. 

BetFair is aimed at the European market and charges commissions on winnings (there is no charge for a net loss). Betfair was founded in 1999 and claims to process 15 million trades a day.

Intrade powers WSJs fantasy political market. Trading on the prediction market is simple. For example, if you think the likelihood of Hillary Clinton becoming president is more than 17% (see table above for Ask price) you buy contracts. If you think the probability is less, you sell a contract. The site charges 5c per trade. Members buy and sell contracts against each other. Intrade charges 5c per matched trade.

The big question is - other than being quite entertaining, are fantasy markets able to predict the outcome of events in a reliable fashion? Given that the betting is probability based, one can infer that with a suitable, unbiased population size, the predictions should be at least as good as those of the experts - similar to the financial markets where the success of the expert predictions of, say, the level of the S&P index in the future, has been no higher than those of the lay person. In a market where the collective thought process actually influence the outcome, it is very likely that the aggregate forecasting ability of the masses will actually provide a more accurate representation of reality.

Earlier we looked at crowdcasting and polling as ways of harvesting collective wisdom. Predictive markets are like 4 dimensional polls in that they have a time component folded in. Like true financial markets, they reflect the quicksilver nature of changing sentiments.

By the way, is the US in recession in 2008? According to Intrade, 65% think so!

Do you spend time on the Fantasy betting or Predictive markets sites? Take our poll on the sidebar.

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