Photo Credit: Julia Caesar via UpSplash

How To Succeed As A Young Angel Investor

Tatyana Gray interviews Kevin Learned

Hi everybody. Thank you so much for joining. We have a great interview today with Kevin Learned, the director of the Venture College at Boise State University in Idaho. Kevin has played many roles in his life from entrepreneur with a successful exit to a world class educator to a passionate angel investor. Kevin was instrumental in starting the Boise Angel Alliance and will talk to us today about angel groups, angel funds, and how new and young angel invests can benefit from both. So, without further ado, here’s Kevin.

Hi Kevin. Thank you so much for being here. How are you?

I’m just fine, Tat, thank you. How are you?

Pretty good. I really appreciate you being willing to do this interview and I think our readers would really find it very interesting/educational to learn from you. I like to start off asking my guests how they found out about angel investing, because as you know, it’s not a major you can study in college, so everybody has a very interesting path and we’d like to know what your path was to becoming an angel investor.

Well, I’m flattered that you think I can add value for your readers and delighted to talk you. In 1973 when I was a young businessman, I was very close to a family and I put a deal with a deal together with them where we decided we’d take some of their capital and we would invest it in local Idaho companies. This was before anybody had started to apply the word ‘angel’ or before there were standard terms or any of those other things and I made my first three investments of this family’s money in 1973/74/75, some time back then.
Needless to say, all three of them turned out badly and they lost all the money. I went on to found one of the very first scalable computer software companies in Idaho back in 1975/76, and we needed money. We had used the family’s money and my partners and I had used what little money we had scraped together to get something going. We worked for the local attorney, put together an offering and went out knocking on doors and raised capital for that business again. This was before anybody knew that there were rounds of capital that were series seed, series A, or before we knew we were raising money from angels. So we raised a reasonable amount of money for those days by knocking on doors, and then in the early 90s a major new stock exchange company came along and bought us, so we sold the company and people were quite happy with the returns. That was my first exit although that was before I knew what the word exit meant.
I’ve been blabbing in this my entire business career. I very early on make investments to raise my own capital. When we had our exit that gave my partners and me a certain amount of financial freedom and people began to approach us and ask us if we would help them with their business. They asked would we invest in them, so I made three or four investments on my own in the 1990s.
Again, I’m not sure that the term angel was in prevalent use or that we really knew what we were doing in terms of that area, but we put some deal together and had another fortunate exit from that. I was an academic after being a software geek and I was president of the local college and when I retired from that in 2003, I got serious about how we could help improve the ecosystem in Idaho for entrepreneurs and one of the ways was to create capital. So, from that we formed our local organization. I’ve been working in that for the last ten or twelve years now I suppose.

That’s a great story and that is part of what I love learning from other angel investors, because everyone has such a unique path and really I think anybody can become an angel investor once you reach the level of being accredited. I’ve met people from so many different backgrounds and I think really angel investing is fascinating, because it is for anybody really. For newer and younger angel investors, I want to point out the lesson that you learned in the 70s when you made the three investments and they tanked; you didn’t get discouraged and I think angel investing and you can add to that too. It is risky of course and I think the expectation of taking that risk, facing uncertainty, being prepared to lose some money and not get discouraged, is something that everybody going into this needs to understand very clearly.

Absolutely, Tat. We were very naive back then, but we tried and we did our things and we learned from it. We know a lot more about angel investing today, we’ve had some research and we know basically a set of best practices and if people will follow those best practices - which are briefly: you must be diversified and don’t fall in love with one company. If you’re going to do this, you need to treat it as a portfolio approach and if you can’t put together ten to fifteen angel investments with approximately the same size over a period of time, let’s say, three to five years, then you are assuming more risk than perhaps you might be comfortable with and by that I mean the returns are much more random.
You may have a home run and you’ll congratulate yourself and you may have a lot of losses and you’ll feel terrible about it. But if you can be diversified, if you can do good due diligence, and do the basic things of making sure you’re investing in honest people, that they have potentially scalable businesses and, most importantly in my book, don’t overpay, then you can make a return on angel investing. However you are going to have losses and, as my friend Bill Payne often says, lemons ripen faster than peaches. You will in all likelihood have losses before you have profits, because the nature of it is with some companies…stuff happens. The market doesn’t respond; the economy changes; something in the companies go out of business fairly quickly. The ones that will make you money tend to take a lot longer.

One of the best practices that you didn’t mention, is that it still is invaluable experience to join a local angel group. Everybody who is reading, if you’re not a member of an angel group, you really need to Google an angel group near you and join it. I’m fortunate enough that Boise Angel Alliance, an angel group in Idaho, is not too far away from me- about 2/3 hours one way- but I’m so happy that there is a group in Idaho that I could join. Kevin you played an instrumental role and you started telling us about it, how you got the Boise Angel Alliance started and got it going. Could you please tell us a little bit more so our readers can understand that angel groups are great, but they are also a lot of work.

Well, first of all let me echo your belief that angel investing for most of us isn’t a solo sport and shouldn’t be. Now, if you have enormous amounts of money and you’ve been living in this world of nice start-up and finance and all that, then perhaps you can do this on your own, but for most of us mere mortals having friends and colleagues around to share deals or talk about deals to structure deals is really important. So, the Boise Angel Alliance; we’ve been around long enough that we’re a charter member of the Angel Capitalists Association.
So, the Chopin Foundation decided back in about 2003 that they were going to try to start an initiative to encourage the formation of angel groups. One of the prominent local angels here, Mary Andrews, along with one of our venture capitalists Phil Reid went to that initial meeting in Kansas City and came back with this idea that we could start an organization here. They were really the godparents of this and there were half a dozen others of us that raised our hands and said, ‘I’m really interested in this.’. So, we formed our first organization backed then.
We had began to set up a screening process and we began to have a little computer portal where people could submit deals and we started meeting. That has now morphed from ten people back then to more than a hundred people involved in the organization today, and we have informed angel funds through which most of our investing occurs.

Thanks Kevin for sharing that. I just want to go back to a comment I made when I said angel groups are hard work. They are hard work for people who organize and run them, but I think for new angel investors to join an angel group, it’s a no-brainer. There’s probably a little bit of a screening process, but that should not be too hard to overcome. There might be some fees involved, but definitely don’t get scared by my comment about hard work. Everybody should definitely join and there’s always an opportunity after you join to get more involved and participate in that hard work.

Also, I want to point out that I’ve come across several different angel groups which are structured differently, and over the course of this interview, I’ll try to interview as many angel group organizers or higher-ups that can talk to us about different structures. Kevin, I’d like you to talk more about the structure of the Boise Angel Alliance. There’s the alliance portion and some people can be members of just the alliance, and then the funds and who leads. I know with some angel groups the individuals leads and the funds follow. Boise Angel Alliance is a little bit different that way. So, will you please tell us a little bit more about the structure?

The classic ways of structuring angel groups are the alliance model and that’s what’s best known around the country- the Tech Coast Angels down in California and the Alliance of Angels in Seattle are two of the big groups that function that way here in the west. Basically you pay dues to join the organization and the organization then, if they’re large enough, have some staff typically that takes applications, pre-screen deals and then sets up an opportunity for the angels to listen to pitches from these companies. In that model, as you get enough people in the room and somebody pitches and some people in the group are interested, somebody will raise their hand and then say, ‘I’m really interested in this and I want to do due diligence on this and want to invest in this. Who wants to join me?’
So, you get these little ad hoc syndicates that form and that is the classical way that most angel groups function. We tried to do that here in Boise, but we’re a smaller community. There’s about 800,000 people here and so when we start we have maybe six to ten people who had raised their hands and said, ‘I think I’m an angel in a room’ and the entrepreneur would do his or her pitch and we would all look each other and wait for somebody to say ‘I know what to do next’ and we did that for about two years. We enjoyed really good shrimp and fine wine, but not many checks got written and over a period of time we first frustrated the entrepreneurs who said, ‘I came and did my thing…what happens next?’ And we frustrated ourselves and we were all new at this.
One thing you’re sure of as an angel is you don’t want to write the only check in a deal that needs a lot of money and several of us were sitting around talking about that one day and one of us came up with an idea. How about we get three or four of us and we all put $50,000 apiece in a bank account and then we got some money in that bank account and we’ll write a check? That was the start of the motion and I was prepared to do that, and Mary was prepared to do that, and a few others and we began to go to work on that.
Well, of course, that turns out to be a little more complicated than the way I described it then. By the time we were through we had created our first fund which had about 25 members in it at about $50,000 apiece, something like that. So, we had a little over $1m and now we had something that we could talk to the entrepreneurs about seriously, because they knew we had money in the bank and we knew that we were going to put that money to work and so that was the genesis of our first fund.
When you talk about angel funds, sometimes they are professionally managed. In other words, people put their money into a limited partnership and some general partner/partners makes the decisions. We went the other way. These are member-managed funds and so there are little LLCs and the decision-making process is a vote of the members.
In our case, a super majority voted 60% in order to make an investment. We’ve been doing this for eight years and we’ve perfected that model, it’s worked well for us and it’s enabled lots of new angels to come in and make a commitment for you in the fund of perhaps $50,000. Maybe they’ve come in with two or three others and put a little syndicate together to make a commitment of say $10,000 or $15,000 apiece. What happens is those people all get to see the process and over time they become comfortable with it.
Meanwhile their money is being invested in a diversified portfolio. You asked about members who are not in the funds. We started the first fund. We went to all of the members and said, ‘put up or shut up. We’ve all been talking about this, nobody is writing any checks, so this is what we’re going to do. If you want to stay, it’s $50,000 and we’ll invest out of that’, and we cleaned the membership out.
There were no members left other than those in the fund and when you do that, inevitably what happens three or four months later, if somebody moves to town or somebody gets a hold of this and says, ‘guys, I just heard about what you’re doing and I’d like to participate’, but by then you close your offering on your fund. So the second inspiration we had was, ‘they’re not in the slime, but we could have them join the alliance as an individual member and they could come to all the meetings and listen to the deal and participate in the due diligence’.
They just don’t have a vote when the fund is ready to invest, but they can invest side by side with the fund and that has lead to a robust ecosystem here where we form a fund and it takes two to four years to invest the capital in that fund. By the time that fund is fully invested, we’ve probably picked up another five to ten new members who want to learn about it and when we form the next fund, they’re often are the first ones into the next fund. So, we have this hybrid model of fund and then member. Many angels do it the other way - they have the members and then they have a side car going that will invest alongside the members. Our model is the fund gets dispersed and then the members invest alongside the fund, if that’s what they want to do.
It’s worked really well for us and for those of us who live in cities that are not money-centered, but not very lean to people who have actually written an original check as an accredited investor or an angel check. This really is a way for people to get going, for instance, I’m going to be in Fresno, California next week to where I’m helping the good people in Fresno start a fund like this. They’ve got Silicon Valley, of course, in San Francisco, and they’ve got the Bay Area, Orange County, and San Diego. They’ve got all the coastal stuff, but in the in-land cities, not much is going on and the people there said ‘we’re going to form an angel fund, because we would like to be able to provide financing to our local central valley California entrepreneurs so they don’t have to go over the hill and leave our valley and go to Silicon Valley to try to raise money’ and so they’re going to start with this model. I have no doubt that once the model gets going sooner or later somebody will show up wanting to know how they can play, because the fund will be closed and they will probably move to exactly what Boise did, which is ‘you could join our little organization over here and you can play with us while we’re all learning new this together’.

It worked out for my husband and me, of course, because when we found out about the Boise Angel Alliance, the third fund was closed, the offering on that was closed and I’m so glad you guys didn’t just turn us away. We were able to become members of the alliance and it has been slightly over a year now and we’ve had lots of fun. We’ve learned a lot and I participated in a couple of due diligence committees. That was great learning experience and just meeting with the entrepreneurs and investing on the side provides a lot of security for somebody who is a new angel investor, because the fund takes care of negotiating the terms and as a newbie, of course, I don’t know enough to do that.

This model has been great for me personally, because I’ve benefited tremendously from it. I just want to go back over one point, Kevin. You were saying with members putting in $50,000 a pop for a fund, and I want you to talk a little bit more about that because some readers are younger and newer and maybe they don’t feel super comfortable just writing a $50,000 check, but that’s not the case. Will you tell us about the capital calls?

If you’re familiar with the venture capital model, the managers of the venture capital company raising on a limited partnership, they make the decisions; the limited partner puts up the money, but they put up the money typically 28% of whatever their maximum comfort is and then as the VCs make the investments, they call additional capital.
So, we’ve adopted that model. When we form a fund, typically we’d say we’re going to sell to 40 units at $50,000 apiece, so that could be a maximum of $2m. When you decide to join the fund and you’re going to purchase a unit, then you pay 20% of the time you join or $10,000 and so, let’s say we end up with 30 units that we’ve sold in that fund and so that’s $10,000 x 30, which is $300,000 sitting in the bank account.
Now, when we do deals, if we’re the lead investor, typically then the fund is going to invest in the neighborhood of $100,000 and we can come back to discuss about getting diversified and how that might work, but just to follow my math. We would be able to do three deals off the initial capital and it’s no surprise, because the members at the meeting, they’re all voting on the deals.
The time you do the last deal, you’re out of money and so then the chair of the fund, which is a volunteer position, issues a call to the member to put in another $10,000. Typically there’s an initial cash deposit of $10,000 and there’s four more calls of $10,000 at a time and that’s going to take five years depending upon how the economy does, what the deal flow is, how rapidly the members feel comfortable investing that money.
Making a $50,000 commitment - you’re on the hook. No - I want to be very clear about that. You’re signing a commitment like that, you have a legal obligation to put that money in when it’s called, but it’s different from having to put it all in at once.
The other thing we should talk about - and this is one of the things I love about this model - is as we move to our third fund, everybody was in as an individual. By the time we got to the third fund, about half our units were held by syndicates and what a syndicate is is a little LLC that’s formed for the purpose of buying unit in the fund. So, let’s say that we formed our next fund tap and you and your husband and my wife and I decide we’d like to form a syndicate together and each of us own half of that unit, so we’re each on the hook for $25,000 instead of $50,000. We have syndicates that have seven or eight members of them sometimes. It’s so that the people are on the hook for relatively small amounts of money, but that works just fine, because they get to come to the meetings that you have and when it’s done, you get to see what happens and you get to put your toe in the water without taking a lot of risk.

Definitely from what I heard about people forming syndicates within in the fund certainty gives a lot of opportunity to kind of younger, newer angel investors. Again, maybe $50,000 seems like a lot. You’re an accredited investor, but maybe you’re just kind of barely hitting that threshold, so find a friend! Bring a friend.

Find some friends and that leads to fun decisions, because of course, their net syndicate has to figure out how will they vote and we figured out some governance procedures to how that works, but that leads to decisions, but what it also leads to is real engagement by lots of people. It’s amazing, even if you only got a tenth of a unit, so your whole commitment is $5,000 it’s just amazing how seriously everybody takes that. It’s real money. From the standpoint, of course, of the entrepreneurs and we are typically seed stage investor so we’re the first investors in after family and friends and that round might be $150,000 -$500,000 and so a $100,000 lead investor is a pretty good-sized check.
I just finished an analysis of the last seven deals that we had lead as investors out of the funds.On averages the companies that got $100,000 out of the fund got a total of about $400,000 from the members. So, if we are were all writing those checks as individuals and we didn’t know much about the process, it would be really hard for an entrepreneur to raise $400,000-$500,000 in Idaho. With this process, because the fund is going to write them a material check and it’s going to do due diligence and writing a report, it really helps the entrepreneurs then close out that round, because when they were tier pitching the members of the fund to invest fund members, of course, they’re also pitching to members to invest alongside.

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 Kevin Learned!

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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.