THE ROCKY MARKET and the disappearance of initial public offerings may have pushed most investors away from startups, but a growing number of investors are casting aside their doubts and seeking out promising new ventures.
The risk may be high for these investors, but so is the reward. Just ask Mike Maples Jr., whose Menlo Park, Calif.-based venture firm Maples Investments got in on the ground floor at Internet startups Twitter and Digg. Other investors are so driven to buy in now that they are pooling their funds with groups across the country to acquire larger stakes than they could afford on their own.
The reason? Today’s startups are likely leaner than their predecessors — and companies tend to make sweeping innovations during downturns (for example, Microsoft (MSFT) and Google (GOOG) were founded during downturns) says Jeffery Sohl, the director of the University of New Hampshire’s Center for Venture Research, which studies early-stage equity financing. “It’s cheaper to buy into start-ups right now,” he says. Because business valuations are down, there’s more upside potential for investors if a company sells itself down the road when valuations are higher.
Of course, not every seed-stage investor is willing to hand thousands (or, in some cases, millions) of dollars over to newbie entrepreneurs — especially in today’s tepid economic climate. Thirty-four early-stage companies seeking their first rounds of venture capital received $128 million during the first quarter of 2009, down sharply from last year when 95 companies landed $304 million, according to the National Venture Capital Association, an Arlington, Va.-based trade group that tracks venture capital investments. However, if your idea has potential and the market for it is vast, you’ve got some options. Here are four groups of investors who may take a gamble on your new company.
Unlike traditional venture-capital firms, which typically make multimillion-dollar investments in exchange for large equity stakes in more established companies, “super angels” — that is, microcap venture funds — offer less money to companies in riskier stages of development. Firms like Maples Investments, Baseline Ventures and First Round Capital maintain funds worth less than $100 million and routinely make investments between $50,000 and $1.5 million in start-ups.
In exchange for financial aid and guidance, super angels often take a 10% to 15% ownership stake in companies. “Part of our strategy is to not own too much,” Maples says. “I want to one day introduce a company to VC firms, not compete with them.”
Early-Stage Venture Firms
Like super angels, early-stage venture firms seek out seed-stage firms. However, they’ll often make larger investments (between $250,000 and $3 million) in new companies in exchange for larger ownership stakes. Matthew Growney, founder and managing partner of Rudyard Partners, an early-stage venture firm in Concord, Mass., for instance, typically requires start-ups to offer a 20% to 40% ownership stake.
The companies generally receive substantial business development help from such firms in return, Growney says. Start-ups don’t need to approach him with a full management team or pro-forma financial statements, he says. All they need is a willingness to submit to a heavy hand from the firm. “We’ll spend 100 hours with entrepreneurs before they even have a tax ID,” he says.