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Why Angel Law - Issues in Funding Startup Enterprises
The Problem: Difficulties in Matching Money and Emerging Companies
Startup and emerging companies that require capital in the range of $250,000 to $5 Million have extremely limited options.
- VENTURE CAPITAL FUNDS do not like startup investments, generally they are very aggressive in valuation, and most tend to be limited to certain popular venues and industries.
- RESTRICTIVE SECURITIES LAWS have made it difficult for founders to raise significant funds from persons who are not closely affiliated with the issuer.
- SECURITIES BROKERS have little interest or incentive to represent issuers not selling registered and immediately tradable securities, and are often unwilling to undergo the due diligence procedures for offerings of less than $5 Million.
As a consequence, many deserving small companies have had no way to raise money except in limited amounts from close family and friends. The next step generally has been a Hobson's choice: take a bad deal, or even merger, offered by a "strategic partner", or take a bad deal offered by someone in the venture capital community.
The situation that has prevailed has also been disadvantageous to high net worth investors ("Angels") who are interested in direct investments in these early stage companies. Because the issuer has had no way to reach a large number of potential investors, it has been all but impossible for the Angel to locate substantial numbers of high quality deals.
Securities Law Developments
In the late 1990s a number of developments in the securities laws and regulations made it possible for companies to approach large numbers of potential investors without the cumbersome and expensive registration procedures of federal and state laws relative to "public offerings." The principal requirement of the relaxed laws was that the offering must be limited to wealthy ("accredited") investors, i.e., what we are calling Angels. Since the laws have tended away from number counting and methods of solicitation used to reach the ultimate purchasers of the securities, it became possible to direct an offering of securities to the tens of thousands of persons who meet the criteria for being classed as accredited investors.
Beyond The New Procedures
As might be expected, the mere availability of the new procedures did not solve the problem. It was still necessary for the mechanics of direct placement of securities to be developed. While hundreds of Angels might be interested in a particular type of venture, the venture usually does not know who they are and does not know how to find them. Likewise, Angels are not likely to venture into a new offering alone, and because the market was so long dominated by venture funds, there were few, if any, effective Angel organizations or even lists of Angels interested in particular investments.
While this situation has begun to change somewhat, with the creation of Angel investment clubs, organized Angel groups, and other loose-net Angel affiliations over the last few years, these organizations often invest alongside venture funds. Startups and emerging companies still have difficulty locating appropriate Angel investors on their own, Angels still have difficulty communicating their particular interests in investing directly to the entrepreneurs, and the best opportunities are still directed to the venture capital funds and strategic partner investors.
The collapse of the markets in late 2000 and throughout 2001 compounded these problems by eliminating many individuals from the national pool of prospective Angel investors or by making Angel investors more wary in committing to invest.
Solutions
The Angel Law Forum is one of what its sponsors hope ultimately will be many solutions to the problem. The Angel Law Forum hosts informal periodic meetings of businesses and Angels, designed to facilitate direct contact between Angels and companies seeking capital ("Ventures"). Since the Angel Law Forum gatherings were first held, startup and early-stage companies meeting potential investors at these events have raised over $100 million.
The Angel Law Forum is not a broker, law firm, or in any other way involved in the sale of securities. It is an introduction service intended to provide qualified ventures with a way to contact a large number of potential qualified investors who have expressed interest in early-stage investment, and it helps Angel investors get early access to information concerning emerging opportunities.
Recognizing that companion solutions are needed, the Angel Law Forum's sponsors have helped organize a new financial services firm, Quantum Private Assets, a licensed broker-dealer and NASD member firm specializing in funding early stage companies. Quantum is based in San Francisco and serves as a conduit for Angels to find high quality, well-managed companies in need of investment resources. Quantum works alongside the Angel Law Forum and a loose alliance of professional service providers to help startups and emerging growth companies prepare for and close financing transactions.
As we noted, this is a new approach to early stage capital formation. As such, it must be expected that the process will evolve as Ventures, Angels and the Forum sponsors gain experience. Obviously, we are at the tip of the iceberg but, with help from Angels and Ventures, the sponsors believe that the Angel Law Forum will become an increasingly useful tool for those with money to invest and those with ideas to sell.