Why don’t banks invest in startups? Simple: they look for the history of a company, a detailed account of the profit and loss statements overs the years, and seek collateral in case things go awry. On the other hand, angel investors, who provide the initial capital for a startup to bloom, invest in the future of a company. Indeed, startups are a very high-risk asset class. Which then begs the question: Why do angel investors invest in startups which are not likely to see the light of day? Or to ask the same question a different way, what is the need to invest in startups when nobody else does?
“There must be something we are not doing right or are we doing something right which others are not seeing,” says Padmaja Ruparel, co-founder and president of Indian Angel Network, and founding partner of the IAN Fund. While the stakes are high, the rewards are even higher.
Having invested in about 170 startups, Ruparel has seen an IRR (internal rate of return) in the high thirties—an impressive track order in an industry where the failure rate is pegged at 90%. Globally, the IRR on angel investments is anywhere between 20% to 25% on an annualised basis.
“Early stage (or angel) investing, as a risk-adjusted asset class, delivers higher returns than even institutional investing,” says Utsav Somani, the India head of AngelList, a platform for startups, investors, and job-seekers. In May, Somani announced the launch of his maiden micro venture capital fund iSeed. Money, though, isn’t the only driving force for angel investors, for they claim to chase something more exciting.
“I like the excitement of ideas: you deal with people who think differently and are driving the innovation ecosystem,” says Krishnakumar Natarajan, managing partner of Mela Ventures, while speaking at a virtual panel discussion on angel investing on day two of the TiE Global Summit 2020. Ruparel and Somani were the other panelists. Collectively, the three angel investors, through their respective funds, said they have invested in 370 to 400 startups.
“Angel investing has helped me build my knowledge base,” says Ruparel, who has featured thrice on Fortune India’s The 50 Most Powerful Women in Business list. “The smartest guys on earth are entrepreneurs. They are disruptive and differentiated thinkers.” The consensus among the three investors is that they get great satisfaction in promoting the next generation of entrepreneurship.
“I hope we don’t get a vaccine for the infectious infection that we have for entrepreneurship and angel investing,” quips Ruparel, who moderated the panel discussion.
Drawing from a sports analogy, Natarajan, the former executive chairman of IT services firm Mindtree, says that angel investors need to be coaches: mould entrepreneurs into gold medal winners of the future. “What you do in child development and in sports is relevant in entrepreneurship and that is probably the reason many angel investors—the ones which become successful—tend to be very good coaches,” he adds. But he is quick to draw a distinction that investors should remain a coach and not try being a captain. “Because we are participating in the entrepreneurs’ journey and not driving their journey,” says Ruparel.
In the angel investing community there is a mix of active and passive investors. As Somani details, for the active investors, angel investing is a “pseudo form of entrepreneurship”, where they try to learn from experiences of entrepreneurs. “They also help founders open doors, but also get out of the way.” The passive ones, he adds, are those who look more at the financial returns. Then there are those angels who serve as brand capital, whose name itself helps startups secure future rounds of funding. Clearly, angel investing is not just about writing a cheque. “There is a method to the madness. There is a process and thinking behind it,” says Ruparel.