BACKING FLEDGLING BUSINESSES IS THRILLING BUT RISKY

Emma Simon looks at what it involves - Sunday Telegraph - 13 February 2005

Budding entrepreneurs are no doubt honing the details of their latest money-making ventures in the hope of appearing in the second series of Dragons' Den, the reality TV show that allows people to pitch for funding from a panel of "dragons" - successful businessmen and women who want to invest in new companies. Pop Idol meets the FT, if you like.

But what if you are interested in sitting on the other side of the fence - and fancy a turn in the dragon's seat? If you think you have the nous to spot a potentially lucrative business idea and sufficient capital to put your money where your mouth is, you may want to look at the pros and cons of becoming a "business angel".

The metaphor may sound more benign, but angel investors are essentially fulfilling the same role as the dragons on TV. They invest an often sizeable amount of cash in a start-up company in return for an equity stake. Some angels are more active than others, taking a hands-on role in the development of the company. Many are retired businessmen who can provide useful advice or contacts to help the new venture flourish. Others are happy just to stump up the cash. But all are looking to make substantial returns on their investment, either as a major shareholder in a business that is generating healthy profits or through the successful sale of the business at a later date.

Start-up companies typically look for angels once they have exhausted funding from friends, families and bank loans. In theory at least, money from angels helps them develop a small start-up business. If this is successful, these businesses may seek additional funds from venture capitalists at a later stage.

Investing in start-up companies is inherently risky. Widows and orphans should stop reading now. For every fledgling company that achieves even moderate success, many more will have gone to the wall without returning a bean to the people who backed them. Meanwhile, the chances of investing in the next Microsoft are microscopic.

The first hurdle for many angels is finding suitable companies in which to invest. Successful applicants on Dragons' Den have included a would-be truffle farmer, a maker of haute couture jewellery and a digital camera manufacturer - not the sort of business opportunities you're likely to hear about at the golf club.

This is where "angel networks" come into play. These networks are the dating agencies of the investment world, introducing cash-hungry start-ups to cash-rich investors. There are a number of regional networks. Soon they will be linked under the umbrella of the British Business Angels Association - an initiative backed by the Department of Trade and Industry.

The Great Eastern Investment Forum (GEIF), for example, is a Cambridge-based outfit that holds quarterly meetings where up to eight start-up companies pitch for funding to between 50 and 100 potential investors. The network has been running for 10 years.

Hugh Parnell, a director of GEIF, says: "We operate on similar lines to the Dragons' Den programme, but without the humiliation." At every meeting the selected companies each have 10 minutes in which to set out their business proposition. Interested investors can then grill them in more detail later at question and answer "break out" sessions. On average, about 50 per cent of the companies presenting will secure at least some of the funding they were looking for, according to Parnell.

Not all angels have as much spare cash as the dragons portrayed on TV. Although the firms in question are generally looking for a minimum of pounds 100,000 - often more - this is generally raised through a syndicate of angels. Parnell says some people have invested as little as pounds 5,000, although pounds 15,000 is a more typical sum. The largest investment raised through GEIF was for pounds 750,000, although this did not come from just one angel.

GEIF also runs its own "angel" fund of DTI money given to support new enterprises. In about a third of cases the money put up by angel investors will be matched with money from this fund.

Most networks charge angels an annual membership fee. GEIF charges pounds 170 a year, for example. This enables potential investors to attend four meetings a year and receive regular newsletters. Parnell says: "By paying this fee, investors know they have access to a range of potential investment opportunities that have already gone through an initial screening process." GEIF will see about 35 companies for every eight that are chosen to present to the angel investors.

But what about the thorny issue of returns? How much can angels expect to make from their investment and when will this be delivered? In a recent speech given to GEIF members, Jon Moulton, an experienced business angel and the head of Alchemy Partners, the private equity firm, revealed how his own portfolio of 50-odd private unquoted investments had performed. He describes only three as "financially spectacular". Most, while "not brilliant", are still ticking along; a few have gone bust.

His experience certainly strikes a chord with John Grout, a retired financial director, who describes himself as a "relative newcomer" to angel investing. Over the past three years he has amassed a portfolio of half a dozen investments, limiting the initial investment to no more than pounds 15,000. "I am hoping to build up a diversified portfolio, investing in different companies over different time frames," he says. "I would expect to see some providing returns on a five-year horizon, while others are far more long term. I am not expecting anything for at least 15 years." He says investors should remember that many of these companies will come back and ask the original angels for subsequent funding. He says: "Most of the companies I have invested in have asked for a second round of funding. In one case we were asked to put money in three times."

John had planned to build up a portfolio of 12 holdings by now. But he says it now looks like taking a lot longer - partly because of these subsequent claims on his money and partly because of the difficulty in finding suitable start-ups. He invests mainly in engineering, biotech and technology companies, he says. "I always think that the people who made the most money out of the gold rush were those manufacturing the shovels. I try to remember this when looking at companies seeking to make money from these new technologies."

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