Category Archives: Public Policy

Angel Investing on NPR

NPR ran a great story on Angels and entrepreneurs in Milwaukee. Worth hearing.

This is another example of government beginning to understand the impact of the benefits of high-growth startups backed by angels. It is good public policy to encourage angels to help create companies through extension of the zero percent capital gains (Extension of 100% gains exemption on Qualified Small Business Stock (Sec 1202) – Current Senate bill 2050, Small Business Tax Extenders Act of 2012) and a 25% tax credit for investing in these businesses (Current Senate bill 256, American Opportunities Act, which would provide a 25 percent tax credit for investments in innovative startups).


Crowdfunding is about to be approved by Congress and signed into law by the President. For those unfamiliar with the concept, you can read Wikipedia ( or simply put it is raising money for startups, typically via the Internet, in small chunks from people who may never meet with or diligence the company. Crowdfunding has been used in some non-profits for years and has been successful in Europe for the last two or so years as well.

Most existing investors in this early-stage asset class hear of crowd funding and have the immediate reaction: “Won’t this lead to massive fraud?” Today, investments in unregistered securities require that all investors be “accredited” so that they are assumed to understand the risks in these investments and ensure that sophisticated investors carefully vet deals to ensure that there isn’t fraud.

But, times change. Some VCs and Angels have become fabulously wealthy and famous by investing in early-stage companies, and the media has made a big deal about this. Think Google, Facebook, and even Microsoft. And, in our current economic malaise, creating high-growth, innovative startups is seen as a way out of the mess. But many innovative startups fail in trying to raise money. Angels do their part (see many of my previous posts). But many believe that the need is greater than sophisticated (“accredited”) Angels can finance.

So.. the idea of Crowdfunding has gained great momentum. The current vehicle, H.R. 2930, the Entrepreneur Access to Capital Act, as amended and approved by the House Financial Services Committee on October 26, 2011, (see for the original). The amendments are important, since they lower the size of the amount raised. While the situation is still fluid (the House reportedly just passed its bill and the Senate is in draft), it appears that there will be a $1M annual cap on raising money through Crowdfunding. Crowdfunding is exempt from current broker-dealer rules. Other issues, like how companies handle scores or hundreds of investors or allowable fees that Crowdfunding platforms can charge, remain up in the air.

I have heard rumors about this being done in Europe for the last several years, but cannot substantiate that startup companies have been funded this way. Wikipedia reports that “One of the pioneers of crowd funding in the music industry have been the British rock group Marillion. In 1997 American fans underwrote an entire U.S. tour
to the tune of $60,000, with donations following an internet campaign…” And movies have been known to use Crowdfunding. Any readers with more data?

This is a brave new path for the US. While many (myself included) think that our current SEC regulations that limit investments in startups to “accredited investors” are too narrow and should allow other knowledgeable investors to participate, there is established law and precedent for the investment market. I worry that we might be opening Pandora’s box. Many startups fail and investors that are not willing or able to do due diligence should not be investing in them. It is one thing for sophisticated, accredited investors, like me, to invest in a company and loose their investment. We understand the risk going in. We did our due diligence on the management team, the market, and the technology and reached a positive conclusion. It is quite another thing for someone to “advertise” a deal to the Crowd and have people send them money based solely on the company’s information without any substantiation.

I believe that broadening the participation in the early-stage asset class is a good idea and Crowdfunding is one way to achieve this. I just don’t want some bad actors who use the Crowdfunding mechanism for fraudulent transactions to poison the entire asset class. I think it would behoove both the entrepreneurs that raise money with Crowdfunding and the investment community to find a way to have a trusted platform that verifies that the company is who they say they are and that some investment professional has done due diligence appropriate to the investment.

I also worry that Crowdfunding could lead to some very high priced deals. Investment professionals (including “Professional Angels) have a great deal of experience setting the price for early stage deals. This experience comes from many years of investing, forecasting companies’ success and capital needs, and understanding how exits are likely to occur. Without this discipline, prices might not reflect true value. For example, if an entrepreneur is told by the investment professionals in their community that an appropriate valuation for their company is $2M, but they go to the Crowd with a $10M valuation and raise $500k, what happens when they need to do their next round? After they have spent the $500k, they might approach either Angels or VCs who will then set the price well below $10M. The Crowd will then find that their investment is worth very little. If the Crowd understands that risk, I have no problem with Crowdfunding, but if this isn’t transparent or well-disclosed, I think we could have many disgruntled investors.

I really want Crowdfunding to work. I don’t want a bunch of “mom and pop” unsophisticated investors ripped off.

The Economic Crisis

A while ago, I blogged on the decline of Microsoft ( Lately, many people have asked me about the current debt crisis, followed by the S&P downgrade of US credit. There are striking similarities.

Until about 20 years ago, for over 200 years, the US has been in a building mode. We have created the economic engine that fueled world growth, established an education system that was the envy of the world, a climate and legal structure that allowed great entrepreneurs to create companies that were the envy of the world. Even when faced with extraordinary challenges, like the great depression or the world wars, we were able to overcome these challenges.

Just as with businesses, in times of plenty, it is incumbent upon a business (or society) to put aside for the lean times. (I won’t cite Biblical references here, but they are obvious.) Since WWII, we have had numerous times of plenty. In the late 40s and early 50s, as a county we hugely increased our infrastructure (think the Interstate highways), invested heavily in universities (which have been the envy of the world and fueled much of our entrepreneurial growth), and through the concomitant consumer spending, created a surge in our standard of living. Many of these improvements allowed us to weather some of the storms that followed. With confidence, we strode into space – landing on the moon, created the Internet and countless other platforms that fuel global innovation.

But, our generation seems to have lost sight of what is really important. We have spent with reckless abandon. We have made poor strategic decisions. We, as a society and management team (the political leaders we elected) made bad strategic decisions. If we were a company, our stock would be trading at record lows and our investors would be clamoring for a change of leadership. But we have lacked the will and foresight, not to mention the systemic governance issues that prevent truly innovative leadership from coming to power. We need to make changes in the way we are run.

We are negligent for not having done this in the US. And, despite politicians’ desire for reelection demanding that they give us a silver bullet, there is no silver bullet! It took 20 years to make this problem – 20 years of lack of political will to curb spending and live within our means. But, just as I suggested with Microsoft, there are reasonable long-term solutions.

From my point of view, the solution is to unleash the entrepreneurial spirit that is embodied in the startups. This is where the economic growth, job creation, and invigoration of our society can come from. In a very specific sense, legislation before congress, like Senate Bill S256 “American Opportunity Act of 2011” (, sponsored by Senators Mark Pryor and Scott Brown that gives a 25% tax credit to angel investors; when similar legislation was enacted in other places, dramatic increases in angel investing and increased tax revenues have resulted. Another example are the proposed changes to IRS Section 1202, exemption for gains on qualified small business gains, which will give 100% exclusion of capital gains for angel investment.

These actions will spur angel investing in those high-growth startups that will ultimately move the economy. While modest in cost, they could be large in impact.

University Spin-Outs

I am a big fan of high-tech companies. People that know me (and my co-investors) know that I like companies that are “changing the world” or “creating new industries” through technology innovation. And they know that I believe that research universities spawn great technologies and deserve public support. Universities do a terrific and efficient job of educating students, organizing research projects, getting and managing grants, and investigating science in a way that can make meaningful contributions to society.

I do not believe, however, that universities can do a good job of creating companies from the technologies that they create. This is a fundamentally different skill set than most (if not all) universities have as a core competence. It has been well demonstrated (e.g. Josh Lerner’s book, The Boulevard of Broken Dreams) that most governmental organizations don’t do well in creating or nurturing entrepreneurial businesses.

I do, however, believe that it is a fundamentally good idea to help start companies from university technologies. While the universities play a key role in making this happen, I am disturbed by a trend that seems to be emerging of universities establishing internal angel funds to spin out companies. It is a good idea to give very limited amounts of money and a great deal of support to key university faculty or grad students to help them understand if their technology makes sense to commercialize. Many universities already have small funds that give grants toward this end – something like $25-50,000 to help bridge the gap between pure research and a product or to pair business school students with engineers. But setting up multi-million dollar funds to compete with existing angels and VCs is a really bad idea.

It is really hard to take a new technology, build a company around it, and bring products based on that technology to market. This is something that VCs and, increasingly, angel investors have done successfully for many years.

History is littered with examples. How many states in the US and countries worldwide have decided to create “clusters” for specific technologies so that they could participate in the explosive growth of a new industry? Very few have been successful. Incubators have come and gone, wasting a lot of public money.

I believe that, instead of spending precious resources on trying to take companies from the “research stage” to the “company stage” it is a much wiser course for research universities to work with established financing sources for early-stage companies, like active angel groups. And for governments to help sponsor that collaboration by setting a public policy that incents angels who are willing to put their own money on the line to help create a company.

Many states have now established tax incentives along these lines. The Angel Capital Association has a summary of these activities. ( ) This makes much more sense to me than asking universities to replace or augment Angels or VCs.

Severance – Oh No!

Many entrepreneurs, when they take outside money into their company, want to protect themselves. This is a perfectly reasonable thing to do.

The investors putting the first money into the deal also want some protection, especially when the founders own a vast majority of the overall stock and probably have a majority of the board seats.

One of the items that entrepreneurs sometime request is a severance package. In Washington State – DO NOT DO THIS. I don’t know about other states, but in Washington, the law apparently makes individual board members liable for any salary owed employees and not paid. For historical reasons, severance was considered salary in Washington. That would mean that board members might become liable for the severance of a fellow board member and company executive.

Clearly, this is a bad idea and the law needs to be changed.

But in the meantime, do not agree to a deal where there is a severance agreement.

I have modified my model term sheet to reflect this (

AoA Results – why are they so good?

In my previous post, I noted that the AoA had a great year in 2010. ( or the full release

Typically, most angel groups or VCs see about 25-40% of their deals die in the first 4 years. (This is called the J curve, since the portfolio value goes negative for the first 3-5 years and gets positive when you begin to get exits in year 5 – this valuation curve looks like a J.) The AoA has what appears to be unprecedented results – almost all of our investments in the last 5 years are still alive! Many people have asked my why we did so well in a crappy market. I’ve certainly spent a great deal of time thinking about this. I believe that there are four principal reasons that caused the great year.

  1. World-class, innovative deal screening process. The AoA sees great deal flow, largely because we have a reputation of being savvy investors, who bring lots of value, and do “write checks.” One of the true core competencies we have developed over the last 15 years is our ability to take all the deals that are submitted and invest in the very best. This takes a lot of work, starting with our selection of our staff (both full-time managing director and 2 part time program managers) who have the right skills and knowledge to help startups be ready to enter our process, continues with preliminary screening by the staff, through the selection by our screening committee (the 10-15 most experienced angels in our group), and finally the presentation to our members who invest in good deals. This process is both efficient and respectful for both angels and entrepreneurs. And, it is complemented by a rather extensive knowledge base of market terms, deals and conditions. All of this leads to great companies, presenting well to our members, and being prepared for due diligence and investment.
  2. Get the deal terms right. We work with entrepreneurs to set terms and valuation that are deal and market appropriate, which allows companies to endure. In the past, too often investors didn’t understand the impact of setting a price too high, raising too much or too little money, and/or having either investor or entrepreneur-unfriendly terms. While they can often be seductive at the outset, bad terms lead to long-term problems at companies. The AoA has taken a lead role in the Pacific Northwest in bringing forward deals that make sense for both investors and entrepreneurs. By setting terms correctly, companies can survive and thrive even after market or strategic problems push the company off track.
  3. Active, engaged investors. The AoA members not only write checks, but often get actively involved in the companies in which they invest and often take board seats. As a group, we bring a ton of knowledge and experience – the kind of experience that many startups couldn’t afford or acquire any other way. This knowledge often helps our portfolio companies avoid mistakes, see them earlier, or find more innovative solutions to fix them. We are also a source for follow on rounds, especially at this time when VC financing is either not forthcoming or inappropriate. This pool of active, engaged investors helps companies survive and thrive.
  4. The right strategy, done early enough to make a difference. About 4 years ago, we realized that our investment results then were mostly dependent on a few of our most active members investing in a lot of companies, but this wasn’t sustainable. We realized that we needed to increase the “capital capacity” of the group, if we were going to remain relevant. We were fortunate to ride the trend of the “professionalization of angel capital,” where individual angels realized that working together led to better results. Over the last four years, we have succeeded in (a) reformulating our strategy, vision, and mission, with a rebranding of the AoA; (b) recruiting a continuing stream of new members; (b) putting in place education programs that help our new and existing members know how to do good deal; (c) putting in place an angel term sheet ( that helps angels get deals done quickly and at low cost; (d) train our angels to be good deal leads, board members, and investors; and (e) be an advocate for better communication from startups to their investors.

While the ultimate measure of success is a positive return through lucrative exits, we also know that for these early-stage startups have a long period to exit – typically 7-10 years. Since our data prior to 5 years ago isn’t very good, our surrogate measure is the “J Curve.” The fact that the AoA has succeeded in dramatically changing the J Curve implies that the strategy is working.

Comments welcome.

Technology & Revolution

I admire Thomas Friedman’s intellect. In today’s NYT, he wrote a particularly insightful analysis about the events in Egypt and the Middle East, called China, Twitter and 20-Year-Olds vs. the Pyramids ( Like in many of the revolutions that swept Eastern Europe, there is clearly a link between modern communication technologies that were spawned by the Internet and the ability of people to quickly gather around key societal issues. This was one of the original promises of the Internet. Like with many technologies, we often overestimate their progress and impact in the next two years, but underestimate their impact in ten years.

Social networks are one of the first communication media that allow like-minded people to communicate without knowing each other. In the past, you had to at least know someone’s address (physical or virtual) to send them a message. This is no longer true and the vast societal impacts of this will reverberate for decades. I saw this first hand when I was in charge of AT&T’s communication businesses in Eastern Europe in the late 1980’s (even having the good fortune to be in Berlin on the day the Wall was opened.) Even then people realized that communication was a necessary ingredient for change.

But Tom takes this a step further. He points out that “the whole Asian-led developing world’s rising consumption of meat, corn, sugar, wheat and oil certainly is” fueling the revolts in the Middle East. What a fabulous insight about the interconnected global economy! Couple that with an increasingly educated and aware population of 20-year-olds who can now easily communicate their frustrations and gather on social networks – that’s fuel for change. Especially in societies where there are a great many of what Tom calls “the educated unemployables” that have college degrees on paper but really don’t have the skills to make them globally competitive.

It is axiomatic that most new technologies are generational. It is not surprising that the aging autocratic leaders of the Middle East (and elsewhere) at best have a limited understanding and therefore underestimate the impact of Twitter, etc. While those of us in the technology field know that none of these are revolutionary technologies per se, the societal impacts wrought by the wide-spread adoption of them are!

Quebec City Conference on Public Policy on Venture Capital

Last week, I was invited to attend and speak at the Quebec City Conference Public Policy Forum on Venture Capital and Innovation ( ). It was a presage to the main conference on Innovation. The participants and speakers were all excellent, with the majority non-US, which gave the event a perspective not usually seen in similar events. While I could write at length about each topic (e.g. getting innovation out of universities, supporting industries during times of transitions, and international models), I will focus on some of the insights about the VC model itself.

Starting with a well-tread topic – VC returns, which are negative in the last 10 years, Thomas Hellman of UBC, did some cool analysis of the Thomson/Reuters data which analyzed the returns from US VC funds from inception through 9/3/08, and plotted the ROIs against the percentile of those ROIs. Stunningly it showed that the top 1% of funds had 41% of the total returns, the top 5% had 70%, the top 10% had 84%, and the top 25% had 104%. Several key thoughts follow from this:

  1. 75% of the funds lost money.
  2. If you aren’t in the top 10%, you probably won’t do too well.
  3. LPs are deserting the asset class, if they aren’t already in a top decile fund.

So what does this mean? Clearly the VC industry will continue to contract as the funds that haven’t performed well can’t find LPs. This has been discussed at length elsewhere. At the conference, in the networking sessions, and afterward, I learned more. But, with LPs abandoning any but the most established VC funds, should governments sustain them? Or is the VC model broken? (Those that follow my blog, know that I suggested this a long time ago,

And.. if you assume that the VC industry will collapse back to the top decile+ of funds, what does that mean to funding early-stage startups? That was one of the major topics of the conference. It was also the reason that angel investing got so much attention! (And, of course, why I was there.)

As I’ve blogged before, it is evident to both governments and policy makers that “high-growth startups,” primarily in tech, healthcare, and cleantech, can propel the economy. Many of the government speakers and participants acknowledged this and are struggling with how to make this happen in their geography.

Many of the policy makers that were present (and many of the VCs from outside the US) seem to believe that angels and angel groups must play a key role, both in financing and helping startups. But what does that mean? The conference participants adopted my term “professional angels” to distinguish between those that make occasional angel investments and those “professional angels” that (a) primarily do angel investing, (b) develop and maintain a portfolio, (c) invest with an experienced discipline, primarily in groups, and (d) help their companies and often serve on boards. A great deal of discussion was how to encourage Professional Angels to invest more and pick up some of the load from the VCs who will disappear.

A number of government incentives were discussed, including tax credits, capital gains holidays, etc. It seems that Canada is well ahead of the US in considering these. Hellman presented the results from some of the BC programs that have worked. When his study is published, I’ll include a reference.

What was also striking was how much the government officials in Canada and elsewhere are looking at the Angel group model in Seattle and wondering how they can duplicate what we have done. As we in Seattle realize that the model needs to be local (we couldn’t just copy the model from the Bay Area), it won’t be simple to extend it to other geographies.