VC vs. Angel: How you feature in their screening process

By Yossi Carmon
July 14th, 2013

Last week I met separately with two great guys: Jeff Pulver and David Meister. Jeff is a well known entrepreneur and seed investor (Angel). He has been called a Voice Over Internet Protocol (VoIP) pioneer, and has written extensively on VoIP telephony, and the need to develop an alternative to government regulation of its applications layer. David is a CPA and specialist in private equity (PE) and investment management and a partner in 'Singer Meister' - direct investment funds.

After we'd talked about almost everything, we eventually centered our conversation on investments. It was very interesting to hear each guy's point of view on how he makes decisions about his investments. Jeff and David embody the very nature of angels and VCs, when making decisions during the course of their screening processes. Although David comes from the world of PE which is similar to VC in the way it relates to people in the company, there are nevertheless many other differences.

And before I dive into the deep end and point out the intrinsic differences between VCs and angels, I'd like to establish the basics to ensure that we are all on the same page: First, "The differences between PEs and VCs" and second, "The five investment stages".

The differences between PEs and VCs are:

  • PE firms buy companies across all industries, whereas VCs are focused on technology, bio-tech, and clean-tech.
  • PE firms almost always buy 100% of a company in a LBO (leveraged buyout), whereas VCs only acquire a minority stake - less than 50%.
  • PE firms make large investments - at least $100 million up into the tens of billions for large companies. VC investments are much smaller - often less than $10 million for early-stage companies (third stage).
  • VC firms use only equity whereas PE firms use a combination of equity and debt.
  • PE firms buy mature, public companies whereas VCs invest mostly in early-stage - sometimes pre-revenue - companies.

In the early days - the 1960s and 1970s - many VCs had entrepreneurial backgrounds - such as people like Jeff - but today that is not necessarily the case and many partners have never worked in any field other than finance.

When we talk about company investments, there are five investment stages:

  • Seed - founders only, no product, no customers, and primary risk is R&D. Investment between $50K up to $500K.
  • Start-Up - management team incomplete, prototype or beta product, no revenues, limited customer interest, some capital invested, primary risk is market acceptance. Investment between $500K up to $1MM.
  • Early - most of the team in place, limited revenue, not profitable and primary risk is execution. Investment between $1MM - $3MM.
  • Expansion - meaningful revenue, achieving profitability, growing customer base and primary risk is competition. Investment between $3MM up to $10MM.
  • Mezzanine / Bridge - significant revenue, profitable, industry player, IPO in 6 to 12 months and risk is much lower. Investment $10MM up to $20MM.

So now, after setting out the basics, I can describe your role in the VC and angel screening process.

Angels - "All soul - screening process"

Angels such as Jeff mostly invest in seed stage companies, where as VCs invest in early stage companies.

Like most angels, Jeff's screening process is less analytical and more sentimental. He cares more about the people. When during the course of our conversation, he described what he looks for in entrepreneurs and what he would want to know:

  • How many founders? "Two are better than one", as the Rabbi says.
  • How do they communicate with each other? Do they complete each other's sentences? Have they worked together before?
  • How long have they known each other? Have they developed anything together in the past?
  • What is their track record and are they successful in their specific fields? Has their idea evolved from their well based knowledge?
  • Do they know the market very well?

Jeff's investment pace is slow. It's his own money and he takes the time to learn about the entrepreneurs and how they handle themselves. He will invest in 4 to 6 companies a year and in small amounts. The angel will invest his soul in the screening process and will usually be more involved in the company's life.

VC - "Capitalistic screening process"

Coffee with David was full of enriching ideas and observations relating to investments. His point of view regarding investments is more capitalistic - his goal is 'outperformance' companies. Like Jeff, David thinks people are important, not as individuals, but rather as a management group. His questions will relate to management capabilities, the marketplace and the competition. He will ask:

  • Does the management have a deep understanding of the financial dynamics of the business and industry?
  • Does management recognize, accept and have strategies to deal with key risks?
  • Does the management have a clear understanding of the competitive landscape?
  • And the most important question: has the management team had experience and proven success in the same industry?

When David speaks about "track record" he's referring specifically to the company track record.

Summary

The differences between VCs and angels are more than simply the amount of money they invest and the equity they require. When approaching either of them, we must bear in mind how we feature in their screening process.

I may have described VCs as being more "company" oriented and angel more "people" oriented, but nevertheless they both care about the passion of the founders and employees - the proverbial "fire in the belly". Without it no investment has value.