My Case for an Angel Funding Insurance Model

Cristian Contreras
Apr 23, 2014 · 2 min read

It’s been a few months now, since I started playing in my head with the idea that Angel Funding need not be a very capital intensive enterprise. Provided that what is lacked in dollars is made up in intellectual talent, a small group of exceptional individuals at predicting Start-up success can participate in this market with a few hundred thousand dollars used as collateral instead of equity investment.

This select group of individuals would come together contributing an equal amount of capital to a corporation where each would have a correspondingly equal number of shares. So far nothing new, the pool of capital would then be set aside in the form of Canada Saving Bonds or an equivalently liquid vehicle, ok. Here comes the twist, instead of offering hopeful entrepreneurs funding for their prospective businesses in exchange for equity, this fund would offer a stamp of approval representing a guarantee of 50% of the angel investment sought by that company. If the startup fails, the fund covers 50% of the loss incurred by the Angel. However, if the company raises a subsequent round of funding, the fund receives an equity stake 20% that of the Angel’s, and the guarantee would expire.

Let’s do some quick serviette math. If startup ABC raises under this guarantee $100,000 in Angel financing in exchange for 25% of the company, the fund receives a 5% of equity in exchange for the guarantee, and the guarantee covers $50,000, then:

NPV = ($20,000 x P) — ($50,000 x (1 — P))

P = Probability of success.

NPV = 20,000P — 50,000 + 50,000P = 70,000P — 50,000

P = 0.715 to break even

Better yet, P (|NPV=0) = G / (G + C)

G = % Guaranteed & C = % Charged

Not surprisingly, the viability of this exercise depends entirely on our ability to discern the sensible startups from the hopeless ones. You might at this point feel compelled to say: Duh! But keep in mind that contrary to the standard Angel financing model, insofar as the startup raises a subsequent round of funding, not a dollar is spent.

    Cristian Contreras

    Written by

    Product Operations @Shopify — ex Head of Growth @HeyOrca