Want to be an Angel and find your unicorn?

You might be used to making low-risk investments in publicly traded companies (eg. Facebook, Amazon, Pepsico), property and even savings accounts or ISAs. These “normal” investments often guarantee returns up to 20% over time. Some even give dividends to their shareholders. The stable returns come from matured companies who have hoards of historical data they use to predict future profits to a fine level of accuracy.

Conversely, early stage startups at (Pre-Seed/Seed) have little or no historical data to predict their future. Instead, they rely on the market research in their industries, looking at reports, speaking to industry experts or running their own small scale research projects. It’s from this data that they can build models to project their future potentials.

The key difference between these two types of institutions, is that early stage startups talk about potential rather than accurate projections, quite often projecting potentials in the hundreds of millions on their journey to becoming a unicorn.

It may seem unreasonable to let these startups throw around such big numbers, but unfortunately they are forced into it! Angel investors are not looking for a 20% return from a low-risk investment, they want 25 times their investment from a startup.

The reason for this…

Angel investors just don’t pick one startup! For a simple example, our investor Joe has £100k he wants to invest. Joe finds 10 early stage startups with big potential and invests £10k in each of them. Joe knows 9 startups will fail, meaning loses of £90k are on the table on day 1. That’s just the risky business of startup life that all Angel investors and founders accept, failure is always on the table, like a stain that cannot be removed.

But Joe is hoping that just 1 of the 10 startups will succeed, and in order to make back the £90k already lost, plus the £10k put into this one lucky startup, that 1 magical unicorn needs to exit (IPO or sell) for 10x the value of what was invested, because startups do not pay dividends to shareholders, they must reinvest all capital to ensure they continue to outpace any potential competitors.

However, Joe doesn’t just want to make breakeven, the goal is to make a big profit! So each startup invested in needs to aim for at least 11x (£110k) return on investment at their early stage. But if Joe was only going to make 10% profit from the original £100k, why not just go with the low-risk investments in those mature companies mentioned earlier? In reality, Joe is looking for startups who can give him a 25x return on investment.

For a startup to give Joe the desired 25x return, they need to have really big potential. But if they show too big a potential, Joe will suspect them of over promising and skip on investing.

Forecasting early stage startup profits is a balancing act, too low and investors don’t see enough potential, too high and people don’t trust you can deliver. All startups push their forecasts to the higher end, leaving Joe and many other Angel investors choosing other signals to vet all the startups they could invest in:

• Making sure the market is actually big enough for the startup to grow into, grow with and profit from
• Checking the team has the experience or skills to develop & market their product/service on time and within budget
• Checking the team work well together and have a productive and welcoming culture they will be utilising when expanding their team
• Asking current customers for feedback (if they have any)
• Ensuring the startups do have competitive advantage(s)

Investing in startups is extremely exciting, either they bust or go really really big. However, I urge you to skim over any financials, checking to see they are aiming for revenues in the tens to hundreds of millions after 5 years, and then focus on talking to the startups, get to know the founders and see if you trust what they’re doing and want to help them grow in their journey wherever you can.

If you’re thinking, “but wait, I don’t have £100k to invest, I have less than £100, what should I do?!”

So £100 could turn into £2k in the future by following the same system that Joe has, which is a lot compared to the original investment, but not a life-changing amount compared to the £2.5m Joe is looking to retire to the bahamas with.

My suggestion would be to start investing £10-50/month into a startup, do it as soon as you get your monthly paycheck. Most crowdfund websites have a minimum investment amount of £10-25, making it easy for everyone to get involved. As your salary gets higher, or you make profits from your other investments, increase the base amount you invest, something Joe did early on when investing.

Have a look at Crowdcube and Seedrs to see what you can invest in right now.

Good luck in your hunt for that unicorn!