Silicon Valley has witnessed a significant shift in power since the last big bubble burst and most especially within the last year and a half. One leading factor accounts for this change: It’s far cheaper (think hundred of thousands versus millions of dollars) to start a company nowadays. You can host your application on Amazon or Google or Rackspace, etc. PR efforts can be done through Twitter and Facebook. For sales, you have Salesforce.com, and for community development, just use a blog or forum.
One effect of this shift is the rise of Angels, a topic serial entrepreneur and investor Naval Ravikant will cover later this month at Web 2.0 Expo. Along with all the startups he’s founded and invested in, Naval’s resume includes being the founder of Hit Forge, an angel fund for social media startups, co-author of Venturehacks.com, and co-founder of AngelList.
Naval and I spoke this week about his upcoming talk, and you can listen to our full interview below or read the transcription.
In the interview, we covered
- The winners and losers in today’s world of startup investing
- The next bubble(s)
- Qualities of a good angel
- Investment mistakes and lesson learned
- The AngelList/Bryce Roberts “controversy” (spoiler: it’s not nearly as interesting as bloggers had hoped)
Listen to the full audio here or read the transcription below.
Full Text of Audio Interview:
Kaitlin: So, why would someone want to go to your talk?
Naval: Entrepreneurs would want to go to my talk to understand how the fundraising landscape has changed, because of the addition of angel investors.
Angel investors who want to go to my talk to understand what the new terms are, what the new normal looks like, how companies raise money, and why they go with angel investors or not, and what’s dangerous and unsafe about being a new angel investor and how one can protect themselves.
And then venture capitalists should go to my talk to understand how the increase in leverage and power that entrepreneurs have gained allows them to unbundle many of the services that VCs traditionally offered and how they could adapt to that new environment.
Kaitlin: Much of your talk is about the rise of angels. What has changed in the past decade or even past 16 months to cause this rise?
Yeah, so even though it’s called the “rise of the angels,” … it’s the rise of the entrepreneurs. There is an enormous amount of leverage that has become available to entrepreneurs through their companies now. Everything from putting your code on Amazon to your marketing through Google to reaching your customers through Facebook and Twitter…
And so because of that, entrepreneurs need a lot less capital than they needed [in the past]. And because they need less capital, they have more options and people who earlier could not have satisfied the capital needs for a start-up suddenly can. So a lot more angels can have a lot more impact than before.
Also what’s going on is… people have come out of companies like Google and Facebook with some money. And they are looking for things to invest in and the opportunity costs out there are really low because you don’t make a lot of money right now in your checking account or savings account or from muni’s or treasuries or so on. So there is just less opportunities to invest your money elsewhere. So people are doing it more and more in start-ups.
Kaitlin: Going back to the title [of your session], I feel that by referencing the rise of something, something needs to fall. Who, who is a loser in this, or what is dying?
Naval: It doesn’t necessarily have to fall because the whole market could be growing. So in that sense it’s all good. So I just see that the angels are like startups in the investment space. They’re investor startups, and so they’re coming up and a lot of the traditional VCs are retreating a little bit to later stage investments where they’ll invest in a company after it’s already obviously a success and pay a higher price, but they’re buying into a more mature asset.
By the way, this is mostly about consumer web and software as a service kind of space. This doesn’t necessarily apply to semiconductors or hardware or industries that haven’t been as affected by the web. But there are some VCs who are reacting by going more aggressively into seed investing. They have a lot more capital, and if they can figure out a scalable model to allocate seed dollars, it’s a fine defense.
Kaitlin: And for your talk, are you going to focus at all outside of tech and web angel investing or are you also including other industries?
Naval: The other industries are being impacted less, but they are being impacted. Thanks to the iPhone and the iOS, like iPads, we’re going to see huge changes even in the retail marketplace with loyalty programs, coupons, payments, point of sale systems, all moving on to iOS devices or Android devices.
So, I don’t necessarily see it’s been limited tightly to tech but it is driven by tech. The increase in leverages come from the technology sector.
Kaitlin: Within the past few months have you noticed any new trends with angel investing, either for tech or the other sectors?
Naval: I would say there’s a lot more sensor driven companies rising up, so really what we’re seeing is the broadening of technology into the everyday lifestyle of people and businesses.
Small businesses are starting to adopt technology more from the consumer side than from the enterprise side and so I think we’re going to start talking about small business IT budgets and your local coffee shop is going to have a fair bit of IT in it because it’s really consumerized IT, so I think that’s a big trend.
The iPhone as a sensor is a big trend. Within Angel Investing itself, standardized terms, the terms are becoming much more standard and much less open to debate.
And the way the rounds are being structured is still very fluid in terms of “are they led by someone?” “Are they leaderless?” And sort of, everyone participates. I think a lot of it we’re still learning as we go along.
Kaitlin: Now obviously this whole discussion is about more angel investors and, as you mentioned, more people have money to jump into this… Do you think that there’s a bubble in tech investments now?
Naval:There ‘s no macro bubble in the sense that there aren’t hundreds of billions at stake and that when it pops the economy will go into a recession, so we are not talking about that kind of issue. What’s happening is there is some more capital in the traditional seed sector, mostly brought in by the the VC’s and it’s being spread very thinly across lots and lots of startups, so the number of potential startups out there has gone through the roof, but the total amount capital at stake has not gone up by that much.
So, I think it’s inappropriate to say there’s a bubble, but I think it’s absolutely appropriate to say there are many small bubbles. And that’s basically in the prices of a lot of these early stage companies the price has gotten quite high.
They’re just relative to history.
No one knows whether it’s appropriate or not given the stage, but compared to historical evaluations C stage prices have gone up and that may be indicative of lots and lots of small bubbles or it just might be indicative of pent up demand for getting into Facebook or Twitter or Groupon.
This is your chance to do it by investing in 50 small companies instead of one big one.
Kaitlin: Do you think things as they are are sustainable? Do you foresee anything popping (as you were saying – small bubbles), or anything growing?
Naval: I think we will see here on the end of this year, early next year, there are a lot of early stage companies that raised small amounts of capital won’t be able to raise VC rounds. But I think we’ll also see a surprisingly large number of them will have sort of hit sustainable profitability because their operating costs are so low.
So it’s very hard to predict how it will play out, but I don’t think the current pace of investing will continue at the same rate and the same prices.
Kaitlin: As things are right now, what do you think is the best thing that could happen to the angel community to make it better or to really increase how things are going.
I have no control over the market and there’s no way to do this, but I think it would be better for everyone if they did a little bit more due diligence.
Slow down a little bit, made decisions a little more carefully, but I think everyone’s driven by this feeling that, well, if I don’t somebody else will.
So as long as that mentality is there, it’s not healthy.
Kaitlin: And then same question but a little bit of inverse. What’s the best thing to happen for entrepreneurs? If you could control any conditions, what would you do?
Naval: For entrepreneurs … the goal is to just spend less time on fundraising and more time on building companies and products. Fund raising is a huge distraction for entrepreneurs; it takes up too much of their time, gains too much attention in the press and the media and certainly a secondary activity. It’s a source of fuel for the startup but it is not the startup.
Kaitlin: Bringing both of those questions together… Imagine we live in an ideal world for investors and entrepreneurs. What does a deal look like that is that ideal deal where both sides come out and both are extremely happy?
Naval: To me a great deal is investors build, are introduced to good entrepreneurs, have the time to build a relationship, go in and make an investment based on a thesis. There is someone from the Angel group who was appointed to be in charge of the investment who has enough at stake and cares to keep in touch with the entrepreneur regularly and the company does well so they all make money.
Kaitlin: I think you touched on this a little bit earlier, but, do you see anything wrong with the current market for angels or how angels are working right now and if so what needs be corrected?
Naval: Well, I think standardization of terms is helping and will continue. Because right now different angels still have different ideas of what they want out of a company and what the terms should look like.
And so consolidation there will actually make the market more efficient and I do think it would be good if they could share their diligence notes and work more closely together on the diligence, because right now there’s not enough of that going on.
Kaitlin: Now that brings me to a couple days ago, Bryce Roberts wrote his blog post about leaving Angel List and his main complaint is that he claims that he doesn’t agree with the investment philosophy of Angel List.
So first off, does Angel List have an investment philosophy and if so, what is that?
Naval: Yeah , that’s a misunderstanding. Angel List does not have its own investment philosophy. What Bryce is referring to is that there’s a lot of companies on Angel List. It’s a flood.
And as an investor you have to sort the signal for the noise. So one of things we do is we curate the best companies, the ones that are furthest along and email them out. And we rely on four things: traction, social proof, team and product.
The easiest express for traction is social proof. Bryce is responding to that he does not want to be part of these leaderless rounds where it’s driven a lot by social proof and I completely sympathize with that. We are deemphasizing that, and more importantly we’re stopping curation of deals as time goes on. It’s been done more and more by the community. Within a month or two we hope to be out of that business entirely but it’s a process. And Bryce and we get along fine. I think a lot of his comments were taken out of proportion and he’s actually coming by next week, so it’s all good.
Kaitlin: No fight? Ah, this interview got much less interesting.
Naval: Yeah, not that exciting, sorry. You know when you’re trying to build a community your job is to stay invisible, which is part of the reason why we didn’t even say anything. Because, it’s sort of like if someone’s arguing about videos on YouTube, you know, should the platform managers of YouTube get involved? No.
Kaitlin: Are you suggesting that bloggers possibly take things out of proportion sometimes?
Naval: It has been known to happen
Kaitlin: I’m in shock.
Naval:Yeah, but I think it actually was good publicity for all involved.
Kaitlin: That is true. Actually did your traffic increase a lot? Do you have any numbers on it?
Naval: We did 10 times the volume we’d normally do on a Saturday.
Kaitlin: I think you need more complainers.
Naval: It was good for PR, but it’s not, you know, I think another problem with those kinds of discussions, is the focus then ends up being on the investors. Basically an appropriate title would’ve been you know, what do VC’s think about Angel List. That was kind of the discussion this weekend when really the focus should be on the startups and the entrepreneurs.
Kaitlin: You mentioned how you are changing Angie List a bit, but where else are you doing with Angel List based on the feedback?
Naval: Believe me, we have no intention of being in the middle of community. The flood of inquiries that we get is crushing and overwhelming. So we have a lot more tools coming that allow people to rate and vote up startups that allow them to subscribe to the kinds of startups they want and to see very differing views of the site, depending on what they’re interested in.
Kaitlin: Going back to investing philosophies, even though Angel list, as you mentioned, doesn’t have particular one… What is your own investment philosophy and how has that changed over time?
Naval: Mine’s actually quite close to Bryce’s, that’s the irony. I look for a great team. People that I can trust and high energy, high integrity, high intelligence. I look for a really big market because I think companies always change and make pivots, even when they don’t make an obvious big pivot, they’re making micro-pivots.
And I look for an unfair advantage over time, which can either come in the form of proprietary technology, good understanding of a distribution channel that hasn’t been flooded yet and/or direct access to monetization, being very close to the customer and having some people you want to pay for. So those are the kinds of things I look for.
Kaitlin: From this philosophy what do you think your biggest investment mistake has been – and I don’t mean a particular company, I mean maybe you went in too soon, or the deal wasn’t good or anything like that?
Naval: My biggest mistake is always the same, and I keep making it over and over, which is I find a company where I fall in love with the product, fall in love with the traction, I’m not so crazy about the team but I go ahead and make the investment anyway.
Kaitlin: Are you fixing that?
Naval: It’s very hard to fix. It’s so easy to get seduced by the traction of the product.
I think it’s fundamental human nature that very often we see what we want to see, which is why some of the best investors are extremely patient and I think those are the investors who are also the most frustrated by Angel List because they are frustrated by the environment and the pace at which things are moving.
It doesn’t give them a chance to do a methodical evaluation and so they may be taking some of the frustration out and all because we’re the email that lands in their inbox every day.
Kaitlin: Speaking of these investors that you admire, who do you think is really out there killing it right now, either an angel, maybe a VC, who do you think is the ideal investor?
Naval: There’s no single one. There’s many of them
I’m a big fan of Mitch Kapor. I think he’s a genuinely nice human being, wants to help entrepreneurs do a lot philanthropic work and is a supportive investor, and he also makes good decisions. It’s hard to make decisions both from the heart and the head but I think Mitch does that.
Marc Andreessen, of course, I think his view of the industry is unparalleled. He ‘s making some very smart investments. I think Benchmark has made some great investments recently.
I think you know, even what Dave McClure is doing I think is very innovative in that he’s trying to build structural advantage for his companies by building metrics focusing design into almost an incubator-ish service that he provides for free to his investments.
Y Combinator has been the most innovative in the last five years in terms of how they’ve structurally helped masses of companies at a time. There’s lots of them. There’s lots of innovators in space now. I think one of the beauties of investing in 2011 is you see innovation in investment capital which didn’t happen for 30 years. So that’s pretty exciting.
Kaitlin: And then to be one of these ideal investors, what elements does someone need? What qualities does the person need to have and who should not be an investor?
Naval: I actually think it’s the same as being an entrepreneur. I think if you want to be an investor today you have to be an entrepreneur in the investment space.
So you have to be passionate about working with these companies. That’s probably number one. You have to be very high energy and high intelligence or you’re not going to succeed and survive.
And then the additional barrier on top of being a good entrepreneur, because all these are qualities required to be a good entrepreneur, the additional barriers you need access to capital.
Now, traditionally it turned out that the only thing you needed to get to investment was access to capital. You just needed to have a bunch of money and be willing to write checks. Now I think the bar is higher.
Kaitlin: What companies are you really impressed with nowadays? What types are you looking at?
Naval: I don’t want to pick out single companies because that’s so easy to do, right? Which is people can just look at the obvious winners or they can tout their own portfolio.
I’m impressed by a class of companies, and that’s a class of companies that is using sensors and wireless to extend computing into every aspect of our lives.
I think it’s not that far away when your door will know you’re nearby and automatically unlock itself, or your kid will be playing an air guitar with their iPhone, or your toothbrush will tell you that, hey, it’s time to have your teeth brushed.
So, I think that world where computers are ubiquitous and embedded all around the household is just around the corner. And that stuff was fantasized a lot in the Jetsons’ era, but it ‘s finally happening, and that’s really exciting.
Kaitlin: Speaking about, which futuristic film or book do you think gets it right? You think the Jestons or Minority Report or?
Naval: Minority Report is actually a good approximation.
Luckily Blade Runner is a bad approximation, at least to date. It’s the nature of futurists to get things wrong. It’s almost a requirement because they extrapolate from the past so if you look at a lot of sci-fi type films they always extrapolate that it’s the future in robotics and cyborgs and bio tech and so forth and space travel. But we kind of never delivered in any of those instead we delivered on information technology which would’ve been a really boring extrapolation of the future.
Rather than looking at who gets it right looking forward, my favorite bit is who gets to right looking backwards.
So there is a great episode on College Humor which is the unaired pilot episode of 24, the series from the 1980′s, and you see Jack Bauer running around trying to disarm a bomb. But this time he has to work around fax machines, modems, pagers, and pay phones. And it’s horrific of course. The 24 hours went up, the bomb goes off, and the world ends. But it’s a great, great little movie watching it because it makes you realize the value of information technology that we have in place now.
Kaitlin: What’s the current environment internationally or just throughout the rest of the country for startups and entrepreneurs and angel investors?
Naval: It’s huge, I’ve been very pleasantly surprised by it. I think New York has become really great and viable place to do a startup. Which is a comfort to anyone who wants live in New York. Austin, Seattle, LA, Chicago, Boston are all coming up fast, as a viable place to do start-ups.
In Europe, I think London, Estonia, and we see the little bubbles even forming in Paris and Milan, where there are bubbles of activity I should say, not popping bubbles, where we’re seeing good startups. We just rolled a feature in Angel List called Locations, where we have basically startups mapped across the entire globe.
We have a data base of 3,000 startups mapped… You can say show me all startups in New England, or show me the all ones in New York City, or show me all the ones in Estonia, where a graph will light up and you will see all the start-ups there. So there’s a lot of activity going on.
Unfortunately the investors aren’t adapting as quickly as the startups. Startups are springing up everywhere. The investors are still very concentrated in a few locations but that’s going to change too.
Kaitlin: Do you think that’s strictly culture? Do you think government has anything to do with it?
Naval: Government has a lot to do with it, but I think the bigger reasons is just where have there been success stories, because when there are success of companies those create alumni and those alumni go on to become angel investors. So, I think that’s why for example Estonia is still a bright spot on the map because Skype was born there.
Kaitlin: Actually, since you mentioned the new product feature, I think I forgot to ask this: does Angel List have any other features that are coming out within the next couple of months that you can talk about?
Naval: There are tons coming out. I mean literally.
Kaitlin: Can you talk about them?
Naval: We are making a startup profiles and data more structured, we continue to open up the sight with regards to regulations because it will have security, lots of space. We’re adding more elements for startups to do price discovery and feedback with the investors they interact with.
We’re trying to make the angel profiles more rich and robust and structured as well. And we’re trying to create much more personalized view of the site, so people like Bryce, for example, can see super high quality startups that fit their stage and sector and criteria and aren’t necessarily reflective of social proof or party rounds and someone like Dave McClure can see everything, because he wants to see everything, and he’s a very prolific guy. In the right community they can both coexist.
Kaitlin: So, in talking about looking at these startups, what do you recommend a startup does in order to present themselves to an investor? Do you have certain guidelines that you have for them?
Naval: Yeah, I lay it out as a team traction, social proof and product. Traction is the most important because traction is what your customers think about you and your product, and everything else is a proxy. So if you’ve launched try and get some growth try and show that people actually want to use your product and they want to adapt it organically and if you can demonstrate that that beats everything else.
And I’d say also spend more than two minutes on your Angel List profile. People will prepare for hours before going into a 101 meeting but sometimes they seem to only spend, you know, a few minutes when they’re going to go in front of hundreds of thousands of investors.
Kaitlin: Do you have any parting shots you want to go on or anything else we didn’t cover that you want to touch on?
Naval: I think it’s a great time to be an entrepreneur and, you know, take full advantage of it. Go get your education and be an entrepreneur. Go start a company or go join something exciting.
I guess the last thing I would say is work on something you genuinely care about, because no one can predict the outcome. You have to enjoy the process. It’s like that old Buddhist saying, “There is no way to happiness; happiness is the way,” so you better enjoy every moment of it because there’s not necessarily a pot of gold at the end of the rainbow. You don’t know what’s there until you get there. It might be a pile of coal, right?
Kaitlin: I don’t think I can follow up, you know, a nice Buddhist quote. I think we have to end the interview there because that’s the highlight.
Naval: Got it. Thank you.
Kaitlin: Thank you so much. I really appreciate your time.