Jason Calacanis is the man who spotted an opportunity and invested USD 25,000 in Uber when the company was still valued at the paltry USD 5 million. And this is only one success story from his portfolio. It is obvious that he knows a thing or two about investing.
His book with an extremely long title ‘Angel: How to Invest in Technology Startups — Timeless Advice from an Angel Investor Who Turned $100,000 into $100,000,000’, in my opinion, is one of the best resources on angel investing out there. Here is a link to the Kindle version of the book. And, yes, I am going to receive a commission fee if you decide to buy it.
Mr Calacanis starts with a premise that you have a net worth of USD 2.5 million, of which he recommends to allocate 10% to angel investment. At USD 5,000 increments this would allow to make 50 investments that, according to Mr Calacanis, would form a well-diversified portfolio.
This is not something to be taken lightly and requires a remarkable commitment. To find 50 exceptional startups to invest in you have to look at 5,000 companies over the course of 5 years, or at 20 companies a week.
Of course, the Holy Grail of angel investment is finding a new unicorn, or, even better, a decacorn (a company with market value in excess of USD 10 billion). Assuming that your USD 5,000 investment was made at a valuation of USD 5 million, this would provide you (provided there has been no dilution of your share) with a 1,000x return on your investment. Such coup is something to aspire to but better be prepared that the results will be less spectacular and that some investments will be lost.
In Mr Calacanis hypothetical, even if 70% of your investments return USD 0, your loss would amount to USD 175,000, or 7% of your net worth. But this disregards the remaining 15 investments, where the likely scenario might be as follows:
- 5 investments return 1x capital, or USD 25,000;
- 7 investments return 2x capital, or USD 70,000;
- 1 investment returns 5x capital, or USD 25,000;
- 1 investment returns 10x capital, or USD 50,000;
- 1 investment returns 20x capital, or USD 100,000.
Thus, Mr Calacanis argues, under this very likely scenario, you can realistically lose 1–3% of your net worth, or possibly gain more than 20% on your original investment.
Of course, Mr Calacanis emphasises the need to be in the Silicon Valley to achieve this. He is sceptical that similar results are possible anywhere else. And he is most bearish about Europe, the possible exception being Sweden.
Unfortunately not all of us are based in the Silicon Valley and have a net worth measured in millions. Would angel investing be possible at a lower budget?
Let’s assume that the amount of money that you can put at risk is much more modest, say, around EUR 50,000. With this amount you can make 6 direct investments at EUR 5,000 increments and 6 investments at EUR 1,000 by joining angel investors syndicates. This approach actually bodes well with Mr Calacanis advice to join at least 10 investment syndicates before making your own investments. Apart from other benefits that come from joining a syndicate there usually is a lower minimum ticket size for investment.
A smaller number of investments would mean less diversification in your portfolio. This unfortunately can’t be avoided.
Using Mr Calacanis formula, to identify 12 promising investment opportunities you will have to look at 1,200 companies over the course of 2 years, or about 12 companies a week. This sounds a bit high for any location other than the Silicon Valley. A more realistic number would be looking at 5–10 companies a month which still requires a respectable amount of work and time.
With EUR 36,000 invested you still have some money to double your bets on 2 most promising companies in each of the groups in year 2–2x 5,000 and 2x 1,000 — EUR 12,000 in total. It is also fair to assume that you will not be able to keep your investment from dilution in subsequent funding rounds and that by year 5 your stakes will be diluted by at least 50% on average.
It is highly likely that at least 4 investments in each group will return you EUR 0 and you will have to write off the EUR 24,000 invested, or 50% of your total investment. But then, the possibility that one of the most promising companies with your EUR 10,000 investment has grown in value by a factor of 10x and another — by a factor of 5x is not that far-fetched. When adjusted for dilution these investments would return you EUR 75,000.
Given that investment syndicates allow to leverage other people’s experience and investment acumen, it is not unreasonable to assume that 1 investment has increased in value by a factor of 20x and another — by a factor of 5x. Since your investments in these companies were really small to start with, when adjusted for dilution, they would bring in EUR 25,000 in returns.
Based on these hypothetical assumptions your investment of EUR 48,000 has returned EUR 100,000, or 108.3% over 5 years. Using the venture capitalists and angel investors vernacular your cash-on-cash multiple will be 2.08x. The internal rate of return for your investment is 16.7%.
These are not spectacular returns considering the risks. You can probably double your money every 7 to 9 years at a much lower risk by investing in market indices using different financial instruments. But then you will miss all the fun of meeting new people, establishing new contact networks and learning new things. And you will miss the thrill of discovery and the taste of success.
This note was first published on Medium.com on 20 September 2023.
