By Dan Somers, Managing Partner, Boundary Capital (www.boundarycapital.com)
Investing in early stage technology businesses is a risky business. If you get it right investing in a disruptive business like WhatsApp or Alibaba can generate huge exits: a whopping $22Bn and $25Bn respectively (Sequoia Capital turned $60 million into $3 billion thanks to WhatsApp). However, there are so many ways it can go wrong: too early for the market, too late, inappropriate management team, product market-fit, IP etc. The odds of making it are smaller than the odds of failure.
Conventionally you also need a lot of cash: Many of these success stories take a lot of funding, and arguably some of the biggest VCs in the world, especially in Silicon Valley, have the funding clout to help ‘make’ the market even if the product is not the best or unique. Uber is now on its 16th funding round, absorbing $12Bn. Whilst this is extreme, VentureSource Dow Jones shows that the average rounds is c. 4 whatever the economic cycle.
Whilst many accept this as the status quo and choose to invest elsewhere, there are many entrepreneurs and angels who succeed time and time again and returns are typically very concentrated on a minority of very successful investments. Only 10% of all angel investments generate 90% of the returns. So, are these serial successful investors outliers or is there a special something they are able to bring?
Well, many of the more consistently successful VCs get cited because they have experienced investors, sometimes entrepreneurs themselves, and often with a focus and supporting processes. So, could this be the secret to successful early stage investment and should investors be prepared to invest more than just their money?
Enter stage right a new style of early stage tech investing:‘mammalian’ investing.
Mammalian investment finds and embeds an appropriate executive into a start-up to support and nurture the management team. The executive is appointedto the board, e.g. as executive chairman. Crucially they invest alongside the VC on the same terms. The whole process, if done right, ticks a lot of different boxes: It adds domain expertise to a business to provide support as the business pivots. It allows the business to ‘hire’ people it could never otherwise afford to pay. It reduces the cash burn because the expert is investing themselves and making contacts which otherwise would cost a lot in sales and marketing. It also provides operational due diligence to the investor as the executive will spend some time with the entrepreneur before recommending investment (and investing themselves). Finally, it aligns everyone’s interests, a crucial aspect particularly for a business pivoting to establish its business model.
Mammalian investment is generically similar to the concept of ‘Venture Partner’programs, where VCs sometimes find individuals to add value to a portfolio company but the differences are also stark:Venture Partner programmes are not mandatory, there is no process to help screen the investments, and often it is a privilege for the Venture Partners more than a need or process to develop the investee companies.
This approach has been adopted and developed by early stage investment company Boundary Capital in its AngelPlus EIS Fund. They call their value-added co-investors ‘Venturers’. One of Boundary’s key assets is the network of 300+ screened Venturers from different sectors which helps to be able to find the right match. Boundary Capital always appoints a director alongside the Venturer to maintain investor perspective and governance as it is often the case and almost expected for the Venturer to go ‘native’ partially in terms of helping the investee company.
As an example, Desktop Genetics is a genome-editing software company. Its technology helps research scientists to dramatically speed up their research and application for gene therapy using CRISPR technology. The business was founded by 3 entrepreneurs who met at and through Cambridge University. Whilst they had a good idea, the business model and routes to market were unclear. Boundary worked with them to appoint a Venturer Dr Darrin Disley, who is a highly successful serial entrepreneur in life sciences (and currently the CEO of a fast-growing life sciences company Horizon Discovery plc). Darrin helped mentor them even before Boundary’s first investment, and took on the role of executive chairman. He helped them to shape the proposition, introduce them to customers and partners and guide them on the other aspects of business development. As the model matured, Boundary led a follow-on investment round, bringing in other experienced and value-adding investors and strategic partners (e.g. Illumina who are a potential partner and acquirer co-invested). The business is poised to be one of the pre-eminent CRISPR software businesses in Europe.
The entrepreneurs themselves really like the model as much as investors as it means they get real help and it engenders a strong sense of trust and alignment between founders and investors, something which sadly is not always the case. Riley Doyle, the CEO of Desktop Genetics said: “We had a few sources of capital we could have turned to. What attracted us to Boundary was the alignment of the Venturer with the money and our business. Helpful informal advice and contacts have been valuable too along the way.”
Other businesses who have looked to Boundary Capital with its Venturer model are a former professional kick boxer and entrepreneur Alex Oviawewho founded Precision Sports Technology (PST), creators of a wearable technology that alerts professional and amateur sportspeople to potential injuries whilst they train. Their Venturer, Mark Warrilow has relationships within premier rugby clubs, county cricket teams and professional sports bodies.
Carbon fibre high performance automotive wheel manufacturer (Dymag), life science Alzheimer’s therapy (Polyblok) and portable X-ray devices (Image Scan) are also choosing this model of investment with success.
Although nurturing the Venturer network and process can be intensive, the returns are strong both in terms of portfolio returns (25% IRR to date) and a much lower failure rate than other comparable early stage tech investors (only one ‘cheap’ failure out of 14 companies). And of course, because Boundary Capital’s AngelPlus Fund is SEIS and EIS-compliant, investors get even more benefit from the downside protection and boosted upside gains due to the tax breaks.
Instead of investing in technology companies using a ‘spray and pray’ approach to investing,there are alternative approaches to technology investing which investors can consider to mitigate risk and promote the chances of upside.