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A Lesson On Convertible Notes With Angela Jackson

Tatyana Gray interviews Angela Jackson

I’m planning some exciting things for the Angel Investing Podcast in the New Year. One idea I have is creating some form of an online video course or boot camp about Angel Investing. I’d love to hear your thoughts and suggestions on how I can provide more value to you in 2016. Please feel free to email me directly at: tat@angelinvestingpodcast.com.

Now, after talking about the future, let’s quickly jump into the past. Did you check out last week’s episode? We had Dan Mindus, Founder and CEO of NextGen Angels on the show. Dan created NextGen Angels to attract young Angel investors from big cities. Dan also has a very contrarian view on the portfolios here of Angel Investing which is geared specifically to younger millennial type investor. Check out Dan’s episode here.

I’m very excited to have Angela Jackson on the show today. Angela is the managing director of the Portland Seed Fund, a seed-staged VC - venture capital - fund that has invested in over 50 start-ups to date, mostly in the Pacific Northwest area. Angela is also a director at Portland State University’s Center for Entrepreneurship and Business. The center is a business accelerator for tech, clean tech, and biotech companies. Angela was also named the Most Valuable Angel by the Oregon Angel Fund a few years ago. To top all of that off, she’s just a great person with wonderful stories. Without delaying any longer, here’s Angela. Hi Angela.

Hello.

It’s so great to have you here. Where are you joining us from?

I’m joining you today from my office in Portland, Oregon.

Wonderful.

It’s a little gloomy. It’s nice to chat with you.

It’s a little gloomy here in Sun Valley too. We’re preparing for snow, I hope.

Okay, yes.

Angela, we’ve met before a couple of times, and it was really fascinating getting to know you and your story of how you became an angel investor. I think it would be great for our listeners to learn a little bit about that as well. Will you please share your story of becoming an Angel Investor with us?

Thanks, Tatyana. I feel very fortunate and that I grew up in a family that had a serial entrepreneur, my father, at the head of the home. Like all entrepreneurs, the first couple of ideas weren’t so hot but he persevered and the third idea was a breakaway success. It happened to be in the technology space. We grew up in Minnesota, and this was not a venture-backed company. It was a good, old fashioned, privately-held company with a few outside shareholders that got dividends. My father was a good businessman, an excellent entrepreneur and was able to grow that company from his initial $5000 savings into one that was sold for multiple millions of dollars back in 1980 which was a big deal back then.
Now, I don’t think the numbers would shock anybody but for us, we were a fairly simple family from Midwest. My father had to expand in the Silicon Valley. That was pretty visionary at the time. It was in the early ’70s that he did that. I think the lesson for me was tolerance of risk and ultimately embracing risk because our family dinner conversation was very much around how business and jobs can create or can positively change lives. We as a family felt very proud of creating jobs and creating wealth not just in our own family but for other families, and that was a key conversation point at dinner.
In a way, I like to joke that I was on the board of directors because when you’re a kid, you think you’re responsible for everything. Of course, I wasn’t but I was much older when I realized how much I had actually absorbed stress in those days, and I was very grateful for both the education and the role modeling of my parents that taking appropriate risk can in fact have great awards, and I think that is what led me to Angel Investing.

That is amazing. I think for everybody listening, tolerance and embracing risk is such a crucial part of being an Angel Investor more so than stock market investing or maybe real estate investing because definitely the risks are high with Angel Investing. Rewards are high as well which is nice. I also like you saying that you’re very proud of creating jobs and creating wealth. I think sometimes we’re missing that frame of mind in our society that maybe money is bad somehow, but it’s such a great attitude to have, to be so healthy about money and creating wealth and creating jobs. It goes hand in hand so it’s really hard to separate those two.

Angela, I know that aside from the background with your family, you yourself had an interesting entrepreneurial story being a sea captain. Can you tell us just briefly about that? That is so unusual.

It’s funny how risk follows you around. I only realized in retrospect that so many other things I’ve done in my life have embraced this attitude of calculated risk and certainly going out on the middle of a tall ship crossing oceans is risky but also extremely rewarding. I had an amazing opportunity after college.
I went down to Australia for the America’s Cup. The kinds of boats I ended up working on weren’t racing America’s Cup vessels but I was introduced at the time to a whole world that I knew nothing about, and that was these rather large, somewhere between 100- and 200-foot ships that could accommodate anywhere from 20-50 people with multiple masts - at least two masts - and some complicated rig that requires a person to climb the loft, and wide out the sails, or unfurl the sails, and many forms of line that looked like spaghetti that you can’t possibly know what you’re looking at.
Coming in to that as a novice but with a profound desire to learn how to do it despite my fears and everything, that was pretty intoxicating back then. I was lucky enough to spend close to four years sailing, getting better and better at mastering. You never master the sea but getting better and at least keeping the feet under you, let’s say. I had the opportunity to cross several oceans. I’ve crossed the Atlantic a couple of times. I’ve sailed in the southern ocean on one of these ships. Voyage is ranging from just days’ sails all the way to a 41-day trip all the way to what was at the time Leningrad back in 1989.

Pretty cool.

Yeah, I’ve been very lucky and I miss that sometimes, those icebergs on the radar. It’s hard to get in a riverine environment but we try to find own challenges other ways, I guess.

That’s a pretty amazing story, and I like to make it a point on almost every show that Angel Investing is for people of all kinds of backgrounds, or educational levels, or industries. It’s great to have a lot of diversity and hearing stories from people like you.

If I could add to that, I am glad that you seized on that because I am sure you get asked and I know I get asked as well, “What did you study in school to do this?” and the truth is you really can’t get a finance degree and be prepared as an Angel investor. You can’t get an accounting degree. This is an absolutely multi-disciplinary process. Finance and accounting is a piece of it, so is management and leadership, so is marketing and sales, so is operational excellence, but a lot of it is a gut about a team or a market, and a lot of it is gut about products and how customers will delight, be delighted, or not embrace one. Sometimes, people aren’t comfortable with valuing that something can be both an art and a science, but in this case, in this very, very early stage companies, it is absolutely probably well more art than science, in my opinion.

I totally agree. Actually on the past three episodes, I think, every guest had an MBA. I was feeling a little insecure, and I don’t know if our readers were maybe feeling similar, and I definitely don’t have plans in the future to get an MBA which I think the readers can relate to that as well, but the point is that exactly what you’re saying, some people do have that background, and I am sure it’s helpful but it’s not a requirement. You can definitely surround yourself with people that can fill those missing pieces in your background, and that’s a big relief for me that I can still be an Angel Investor and be successful, and not have this degree or that degree necessarily.

Absolutely. As you know, so much of the fun of it is the wisdom of the group. What you don’t know, someone next to you does. What’s perplexing to the person in the back row is something that is just so easy for you to know and share. Through coming together to share information and do due diligence on different deals, I think it’s really fascinating to learn so much about so many kinds of industries.

Definitely. Going back to your comments about your family and how you were raised: risk and entrepreneurship are part of your blood, but are there any other reason why Angel Investing particularly appeals to you?

That’s a great question. When I was probably in my 20s, I started to do some real estate investment, and the thing I enjoyed about real estate where I was investing is I felt motivated by the ability to see a neighborhood that was going to really be big before other people saw it. Those are the kinds of real estate investments I enjoyed making. I did well with those. It made me realize that that is my strength. It doesn’t mean it always works out. In fact, as with all things investing, there are plenty of times when it doesn’t work out, but it became clear to me that was what was motivating. I like the seeing-the-future aspect before others.
I think once I’ve got comfortable with real estate, I started to look at small businesses. Since I was fairly young at the time, my network of people who were starting small businesses were also quite young and the business ideas weren’t that great. They were retail businesses and mainstream-type businesses which can be good businesses but I was pretty clear that for me to have that high-risk, potentially high-reward form of investing that I enjoy that the small businesses, these retail brick and mortar places were probably not for me.
I try to apply that same sentiment for seeing the future before others see it as I started to get into more complex technologies and products, but I had to build a new network in order to get access to the right deals. I also didn’t know how documents work. At that point, fortuitously, I joined Oregon Angel Fund which was in Oregon anyway, our first year-round Angel Fund, and through that, I learned a ton. I got access to great deal documents. I was not the one negotiating the deal or anything at that time but I got to see how it worked. I got to hear from others what things were they looking at in deals.
Talking about MBA, boy, my money is on one year in that kind of environment where instead of paying tuition, I think I pay $25,000 to be part of the fund and we ended up making four or five investments that year. I can easily say that within the MBA, I invested in that as opposed to pay tuition. But again, even as people got to prefer later-staged deals that were a little more predictable, I found that my heart was still in seeing the future before others saw it. I decided to refocus my energies back on to that seed and early stage. That’s really how I had focused my last seven to eight years.

That’s an awesome perspective. I know that this is a perfect segue as well because I wanted to talk to you about Portland Seed Fund, and this is, I think, what you’re talking about that you’ve been involved in for the past several years. Can you tell us how Portland Seed Fund came about?

I formed Portland Seed Fund with my partner, Jim. Jim had come out of venture capital, and I had come out of a lot of comfort working with very raw, early stage entrepreneurs. Even though our experience sets were so, so different, we had a shared belief that venture capital was pretty broken. This was back in 2010. In talking and getting to know one another, it was clear that his skills and my skills, and his shared platform of a belief that we can do better than venture in this market. When I say ‘venture’, the problem with venture is that Portland has become a hotter market than it was but there wasn’t a whole lot going on back in 2010 that venture capital was very excited about. This notion that we needed venture capital in order to do well as Angels, it was pretty broken.
We got together and tried to create a model that would balance the fact that this early stage does reward you potentially but it’s also more risky, and created a model or a platform by which investing in these early deals systematically could potentially over time produce a winning methodology. We organized around some pretty prevalent data that we hear quoted a lot in Angel circles. Rob Wiltbank’s early study had just come out a couple of years prior where he looked at returns of over 1500 Angel groups, and we really distilled his findings down to three or four things that we thought were true for us.
One of those had to do with amount of due diligence on the deal, the number of deals done, and also finding that there was not necessarily sensitivity around investing a large amount versus a small amount. In other words, people had always said without actually being able to prove that investing only small amounts, it’s really hard to do well if you’re only investing small amounts in each deal. Part of the study showed that that wasn’t actually true. There wasn’t really sensitivity around the amount put in.
We put this together where an individual investor could achieve through a fairly small investment. With our first fund, we asked individuals or institutions. We also had some state, and city, and institutional investors, but they had to invest. Individuals had to invest a minimum of $60,000. With that, we would do at least 30 investments which we felt was statistically significant relative to the data. By giving them a platform where one amount of money - $60,000 - could get them into at least 30 deals, that was something, at the time, they couldn’t do on their own. Our hypothesis was by statistically doing enough deals to mitigate the ones that would ultimately fail that we could still produce a decent return.
That was the hypothesis. We did a good job, I think. We raised $3 million on that first fund. We ended up making 36 investments and we started investing four and a half years ago. To date, we’ve had ten exits that have been at least a 1x. I should say a couple of those are just under 1. We’ve had plenty of failures and that was modeled and expected. Plenty of 0s. I think we’re up to nine 0s. Then, the rest of those include a couple that we would call ‘walking wounded’. They’re not exactly dead but we don’t believe they’re actually going to go anywhere. Then there’s about 8 companies that we still feel are quite strong.
We know statistically it takes longer to produce the bigger returns and we expect not all of those eight will do that but we expect that the bulk of the returns will come from the ones that are maturing nicely. These are the ones that have raised significant outside capital. Their revenues are in the multiple millions. Probably the biggest one has hired 50 people. We have legitimate hopes for those. We tried to create a way where an Angel Investor could get into more deals that were statistically significant to produce a return on a smaller budget, i.e. $60,000, and that’s the experiment. I can’t say for sure exactly how it went because not every deal is done but I can tell you that we’ve already returned over 30% of the capital. Again, that is with the bulk of the value still occurring as the strong companies continue to mature.

That’s awesome. There is a saying about the lemons and the oranges or the plums - do you know this?

Yeah, I love that one. The lemons ripen faster than … I’m the worst with these metaphors but I know what you mean. I think it’s lemons ripen faster than plums. Isn’t it?

I think so.

Or lemons spoil faster than plums?

Yes that’s right. How does it apply to this whole portfolio of Angel Investing?

Absolutely. The way our investing model has worked is with the first fund, our initial investment was only $25,000 to start which isn’t very much. We weren’t, in any way, suggesting that was all the capital they are going to need but we also have a pretty intensive 90-day accelerator program around that where we really get into trenches with them and get to know the company. It wasn’t unusual with that first batch that within a month, we knew that the company or the team was going nowhere. At that point, we’re not obligated to make any future investment. We called that a failed-fast, failed-cheap, move-on model.
Now, some might not be comfortable with that but that was baked in and modeled as part of our model. In fact, we over-modeled the failures. We thought as many as 50% would fail within 18 months, and we still had a model for how we’re going to get a target 24-28% IRR or I should say, return on investment from the fund even with that high failure rate.
Again, there’s a real need, I would say, to cut your losses when you know the deal isn’t a good one or you don’t trust the team or you have seen characteristics about the market that show you that you don’t want to be in it. I know the tendency can be to want to sprinkle some of the remaining funds equally but it’s pretty critical not to do that. By the same token, you need to double down on the ones that are going somewhere, and I think that’s potentially how you can win at this game with this kind of portfolio strategy but the failures do come quickly and you just can’t throw money at them once they have shown you that they’re not worth investing in.

You mentioned the 90-day accelerator. How typical is it to have an accelerator connected to a fund?

That’s a great question. When we designed Portland Seed Fund, it seems like a long time ago, but again, this is only five years ago, it was quite noble to have both a fund with an accelerator component. Techstars was doing something similar. I think, Dreamit in Philly, I believe, and a few others, but it was rather unusual. There were good reasons we chose to do it, and we try to model. We said, “Let’s take the best and leave the rest.” We tried to learn from the Techstars and the Y Combinators but also modify it for our local market because Portland is not Silicon Valley.
What we found is that it gave us a way. It taught the entrepreneurs a lot. At the time, this ecosystem lacked key learnings and resources for entrepreneurs. They needed it but we found more importantly, it taught us so much about the team that they couldn’t have learned just from them managing meetings with us or sending us emails. We really got in the trenches with them to see what they were made of. We’re with them when they realized they opened their phone the next day to find out that Amazon is diving into the very thing that they thought they were going to do. How do they handle that?
That, for us, gave us great intelligence or what we could call experiential due diligence about whether we would continue doing best in that company. That’s why today, we do the accelerator program still but we do it very differently than we did it at the beginning. That has to do with, I think, the fact that the average entrepreneur has gotten so much better at their craft, and that has to do with our ecosystem getting a lot stronger. There are multiple resources here in Portland, not just Portland Seed Fund that are helping entrepreneurs put better businesses together, pitch better, think more critically about their business model, etc. They’re coming to us stronger and they don’t need that rudimentary training necessarily.
What we’ve done with the second fund is we’ve raised more money. We raised 7.75. We’re investing a little bit more. Our brand equity is a little higher. We’re seeing better deals. We find ourselves getting into things, fewer pre-revenue deals, and more that are slightly established or even somewhat growing concerns. Then, they have different pain points. They’re not trying to find the product market fit anymore. They have growing pains. How do I hire the right sales guy? How do we create a direct sale or an inside sales team? How do we do AB testing so that we know where to spend marketing money? How do we fire a lead engineer? These are actual growing pains. We’ve tuned our program to be much more topical on operating issues, and they seem to really respond to and appreciate that.

I think this is a great program. When I first heard about it, I thought that was pretty cool that you were doing an accelerator as well to help your companies. I don’t know if this is a possibility, Angela, but the investors in your fund or maybe new Angel investors, either in your area or for our readers in other areas of the country, is there an opportunity to somehow get involved with your fund maybe not as investor, as a mentor? Is it something that is common?

Yeah, that’s a great question, and I should say that we apply to ourselves the same discipline that we would ask of our companies and that is to be honest with how things are working and keep iterating if they’re not working. We’ve had several different takes, I would say, on mentors, for example, for the early days to where we are right now. Where we’re at right now is having tried many iterations, throwing a lot of mentors at everybody, giving them one lead mentor, letting them find their own mentors. Many flavors. At this point, we’ve settled on a very curated list of just several mentors that we rely on to mentor all of our companies. They’re in a class of about ten companies at once.
After that intense period though, we do reach out to different service providers or skillset experts in our network. Mostly, they’re investors of us but otherwise, they’re close people in our network that we trust. We may arrange for them to do office hours. Less of an ongoing mentorship but more to give a checkout thing on a topic of their expertise to a company, and that works really well. We do occasionally have ways for people that are good fit to get involved that way.

But wait…there’s more!

This post has been adapted from the Angel Investing with Tatyana Gray podcast.Listen to this recent episode for more great information from ANGELA JACKSON!

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About Tatyana
When Tatyana learned that out of almost 9 million accredited investors in the United states only 300,000 (about 3%) were active angel investors, she made it her mission to attract, educate, and inspire the next wave of angel investors in this country.
As a new angel investor herself, Tatyana loves to learn the craft of investing in startups from experienced angel investors. It was only natural to share this process with a broader audience via her Angel Investing podcast.

Follow Tatyana on Twitter at @tatgrayid. We welcome your comments.

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