How to invest is directly linked with why. If you know why you want to invest, you can decide how. There are two basic options. Directly, as an angel or family office, or through a VC fund as a Limited Partner. Or a combination of both, which makes immense sense. The amount of capital you are ready to dedicate is crucial. Large investors are LPs and invest in VC funds. You can not allocate large amounts of money to start-ups directly without creating your infrastructure. This is role venture funds.
If maximizing your return is your priority, investing in funds makes better sense. Investing is a hefty job; it must be done correctly like everything else. If you are not ready to dedicate time and learn, choose your fund manager over a startup. VC (investing in venture and startups) is the best-performing asset class. You can multiply your money. But you can also lose them all. Three things guarantee you an acceptable risk level together:
Yep. As in every asset class, sufficient portfolio size is how to manage risk. And the more risky the asset class is, the larger the portfolio should be. Later on, I’ll explain the portfolio structure and power law of profit distribution. For now, keep in mind that a good portfolio size starts somewhere around 15 investments. 50 is a good number. Sure, building a portfolio is a matter of several years.
It still surprises me how often I hear people telling me, “Startups don’t work. I invested in 2 and lost everything. It is just a lottery. “ No, it is not a lottery or roulette. It is hard work. If you don’t do it as it should be done, it is just about your luck. And don’t blame the ecosystem for your mistakes.
I have often heard investors explaining that they want to invest directly. And create their portfolio. It mostly finishes with a third investment, and after that, they give up. It is too much effort. Angel funds worked well for us as an alternative. With a single investment, you have a portfolio and can do your direct investments if you wish. Most Angel networks and groups have their Angel fund, sidecar fund, or syndicate. Independent of how they are called, they are great tools for investors. We don’t want to see investors losing their money.
Typical angel investors have also nonfinancial reasons for investments. And direct investment makes sense to him. The best investors bring some value to their startups—both Angel investors and VCs (LPs as well, in fact). Learning is a great kind of revenue; some angel investors have it as their investment criteria. Even if they lose their money, they have learned something new. It makes perfect sense to me. Learning always costs you something. And you have a chance to be an early backer of the next Steve Jobs.
Some larger investors, family offices, and corporations may invest directly to make strategic investments. But if it is not just occasional and opportunistic, it leads to creating a focused team. It is called corporate venture capital (CVC) in the case of corporates. Lately, we have seen a tendency for large family offices to build their investment team internally. It allows them to have other than financial motivation and criteria for investment. Something that VCs can hardly do.
I also see angel investors who dedicate full-time to investing. Mostly, with around 10 companies in the portfolio, they come to the conclusion that they need to build a team. And when you have a team, you need to invest more. They often join forces. Become micro VCs. Or even large VCs.
Well, you can tell that I advocate a professional approach to investing. The entrepreneurship vibe in the startup ecosystem is fantastic. It needs help. It needs investors who know what they are doing. Who accept their risk and can manage it.
Petr Sima, Founder and Partner @ DEPO Ventures | EBAN board member