It’s the middle of internet week! I’ve already seen 30+ demos, in addition to Meetup Co-Founder Scott Heiferman smashing an iPad on stage at the tech meetup last night (which was at NYU’ Skirball center). One theme that has been recurrent is that people are unaware of the structure of angel investments. So, I thought I’d give a brief overview of one common structure. Please note there is an excel file you can download at the bottom of the post. It includes detailed notes and may be helpful to have open as you go through the post.
Many seed stage internet businesses look to angels to help them kickstart their companies through growth capital, as well as expertise. It seems that many people are confused as to what a typical angel investment might “cost” them in equity. And, while “a convertible note with a 10% PIK and a 25% discount to the series A” (also known as the “plain vanilla” angel structure) may make sense to some people, I thought I’d break down how to interpret that in case there were any non finance geeks out there who were trying to understand what the terms of an angel investment actually mean.
The Basics
I think it’s easiest to use an example to explain this type of investment. So, Joe is the founder of Newco which is a website that does some sort of location/game based virtual good (insert other buzz words) service. Joe needs to raise $500,000 to hire a few developers and a sales person. Joe finds an angel investor who just happens to have a lot of experience in location/game based virtual good services. Joe’s investor, let’s call her Ms. Jenna, gives him $500,000 and they use the plain vanilla (read typical) angel structure.
Instead of putting a value on the company now, the investor, will get equity based off of the valuation used in Joe’s Series A round of financing (more on that later). Presumably, when Joe raises his Series A, he will have a few customers, some revenues, and a much better picture for how his company will actually operate. His company will therefore be more easily valued.
The PIK
PIK stands for paid in kind. Ms. Jenna is putting up $500,000, and expects Joe to pay her 10% in interest each year. But, Joe doesn’t have any cash as he is a pre-revenue startup. So, instead of paying in cash, Joe is going to take the value of the dollars he would pay Ms. Jenna, and add that to the principal of the investment.
In our example, in the first year, Joe will take the 10% interest payment (worth $500,000 x 10% = $50,000) and add that to the principal of the investment, which will now be $500,000 + $50,000 = $550,000. In the next year, Joe will be charged 10% on that new principal. His new interest payment is $550,000 x 10% = $55,000. And his new principal amount is $550,000 + $55,000 = $605,000. For those familiar, this is the same concept as a negatively amortizing loan. Instead of paying interest in cash, it is paid as principal, which is the same as saying it is paid in kind (PIK).
The Equity Part of the Equation
We are going to pretend that Joe had a rough go of it and doesn’t raise his series A for 5 years. In year 5, the principal value of Ms. Jenna’s investment is now $805,225 (please see attached excel to see the calculations, rows 19 and 20 – we just added the 10% interest in each of the 5 years). The series A investor gives Joe $1 million dollars at a $4 million post-money valuation meaning that they will get $1 mm/$4 mm = 25% of Newco’s equity. For the difference in pre vs post money valuations, please see the attached excel cell C14.
We said that the angel investment would be invested at a 25% discount to the series A. This means that instead of investing at a $4 million valuation, Ms. Jenna’s dollars get put to work at a $4,000,000 x (1-25%) = $3 million valuation. And, her $500,000 originally invested has grown to $805,225 due to the interest which has been paid in kind. So, her ownership in the company will be $805,225/$3,000,000 = 27%.
At the risk of complicating things, it is worth noting that Ms. Jenna’s original angel investment can also come with a valuation cap, meaning that there is a maximum value that her dollars can be put to work at. In the excel, I have put this at $10,000,000 so it doesn’t come into play. But, if Joe’s company was worth $20,000,000 in 5 years when he raised his series A, Ms. Jenna’s equity would be calculated using a valuation of $10,000,000, not the typical 25% discount we have used in our example. You can see how this benefits the angel investor in the case that they company does take off. Ms. Jenna will invest her money at a $10,000,000 valuation as opposed to a $ 15,000,000 valuation ($20,000,000 x (1-25%) = $15,000,000) which would give her a larger equity stake in the company.
End Result
Joe has now raised $1.5 million and is hopefully well on his way to a successful career at the helm of Newco. He has given up 25% to his series A investors, and 27% to his angel investor Ms. Jenna, and so retains 48% for himself and the rest of his team.
The attached excel sheet has all of these calculations and is set up in a way that you can play around with different assumptions. Please feel free to email me with any questions! phil (at) philstrazzulla (dot) com. Also, please note that this is meant to be an overview of one type of common angel structure and that there are definitely more out there. Enjoy!
Do you have a spam issue on this blog; I also am a blogger, and I was wondering your situation; we have created some nice practices
and we are looking to exchange techniques with others, please shoot me an email if interested.
I quite like reading an article that can make people
think. Also, thanks for allowing for me to comment!
bookmarked!!, I really like your website!
Excellent weblog here! Additionally your web site a lot up fast!
What host are you the use of? Can I am getting your affiliate
link on your host? I wish my website loaded up as quickly as yours
lol
Hi, yeah this piece of writing is really good and I have learned lot of things from it concerning blogging.
thanks.
Have you ever thought about publishing an e-book or guest
authoring on other websites? I have a blog based on the same topics
you discuss and would love to have you share some stories/information. I know my visitors would appreciate
your work. If you are even remotely interested, feel free to shoot me an email.
Hi, I do think this is an excellent website. I stumbledupon it 😉 I will come back yet again since I bookmarked it.
Money and freedom is the best way to change, may you be rich and continue to guide other people.
I just like the helpful info you supply to your
articles. I will bookmark your blog and take a look at once more here frequently.
I’m reasonably certain I will be informed a lot of new stuff right right here!
Good luck for the following!
ilyntai 4a48e5f205 https://wakelet.com/@achcurena146
Hello There. I discovered your weblog the use of msn. That is
a really smartly written article. I will be sure to bookmark it and
return to read more of your useful info. Thanks for the post.
I will certainly return.
nealwend 4a48e5f205 https://wakelet.com/@clijinlana537
We stumbled over here coming from a different page and thought I might as well check things
out. I like what I see so now i’m following you. Look forward to exploring your web page yet again.
It’s impressive that you are getting thoughts from this piece of writing as well
as from our argument made at this time.
nayverl 4a48e5f205 https://wakelet.com/@fonfortkowsmals782
It’s very straightforward to find out any topic on web as compared to
books, as I found this paragraph at this web site.
What’s up Dear, are you genuinely visiting this site daily, if so after that you will absolutely get fastidious knowledge.
I do consider all the concepts you have offered in your post.
They are very convincing and will definitely work.
Still, the posts are too brief for beginners.
May just you please lengthen them a little from subsequent time?
Thank you for the post.
henfre 4a48e5f205 https://wakelet.com/@otenopkan745
Hello there! I know this is kind of off topic but I was wondering which blog platform
are you using for this site? I’m getting tired
of WordPress because I’ve had problems with hackers and I’m looking at options for another platform.
I would be awesome if you could point me in the direction of a good
platform.
Hello, i read your blog from time to time and i
own a similar one and i was just wondering if you get a
lot of spam feedback? If so how do you protect against it, any
plugin or anything you can recommend? I get so much lately it’s driving me crazy so any support is very much appreciated.
saphell 4a48e5f205 https://wakelet.com/@guivilterscho735
Every weekend i used to pay a visit this website, because i wish for enjoyment, for the reason that this this site
conations truly nice funny information too.
Great site. Plenty of helpful information here. I am sending it to several pals ans additionally sharing in delicious.
And of course, thank you for your effort!
Hmm is anyone else experiencing problems with the images on this blog loading?
I’m trying to determine if its a problem on my end or if it’s the blog.
Any feedback would be greatly appreciated.
This text is invaluable. Where can I find out more?
Great blog here! Also your website loads up very fast! What web host
are you using? Can I get your affiliate link to your host?
I wish my site loaded up as fast as yours lol
Way cool! Some extremely valid points! I appreciate you writing this write-up
plus the rest of the website is really good.
Hi there, this weekend is fastidious for me, since this moment i am reading this
impressive educational piece of writing here at my house.
Does your website have a contact page? I’m having problems locating it but,
I’d like to send you an email. I’ve got some
creative ideas for your blog you might be interested in hearing.
Either way, great site and I look forward to seeing it develop over time.
I like the valuable information you provide
in your articles. I will bookmark your blog and check again here frequently.
I am quite certain I’ll learn many new stuff right here! Best of luck for the next!
It is appropriate time to make a few plans for
the longer term and it’s time to be happy.
I’ve read this submit and if I could I wish to recommend you some interesting things or tips.
Maybe you can write subsequent articles relating to this article.
I desire to read more things approximately it!
I’ll immediately seize your rss feed as I can not to find your email subscription link or e-newsletter
service. Do you have any? Please allow me realize so that I may subscribe.
Thanks.
This is the right site for everyone who hopes to
find out about this topic. You realize so much its almost tough to argue
with you (not that I actually would want to…HaHa).
You definitely put a brand new spin on a topic
that’s been written about for decades. Wonderful stuff, just excellent!
I’m not sure exactly why but this website is loading very slow for me.
Is anyone else having this issue or is it a
issue on my end? I’ll check back later and see if the problem still exists.
Howdy! Do you know if they make any plugins to assist with SEO?
I’m trying to get my blog to rank for some targeted
keywords but I’m not seeing very good gains. If you know of any please share.
Kudos!
It’s not my first time to pay a quick visit this web page,
i am browsing this web page dailly and obtain fastidious
information from here daily.
Its like you read my mind! You appear to know so much about this, like
you wrote the book in it or something. I think that you can do with a few pics
to drive the message home a little bit, but instead of that, this is fantastic blog.
A fantastic read. I’ll certainly be back.
Asking questions are in fact pleasant thing if you are not understanding
something totally, but this post presents good understanding even.
Amazing! This blog looks exactly like my old one!
It’s on a entirely different topic but it has pretty much the same layout and
design. Wonderful choice of colors!
Thanks to my father who shared with me about this web site, this web site is genuinely remarkable.
It’s an amazing article for all the web people; they will take
advantage from it I am sure.
I don’t even know how I stopped up right here, however I assumed this post used
to be great. I do not recognise who you are
but definitely you are going to a famous blogger should you are
not already. Cheers!
Incredible points. Outstanding arguments. Keep up the great effort.
Hello there! This article couldn’t be written any better! Looking through this post
reminds me of my previous roommate! He constantly kept preaching about
this. I am going to forward this post to him.
Pretty sure he’s going to have a good read. Thank you for
sharing!
It’s awesome to visit this website and reading the views of all friends regarding this paragraph, while I am also
keen of getting knowledge.
Hi there, just became aware of your blog through Google, and
found that it’s really informative. I am
going to watch out for brussels. I will be grateful if you continue this in future.
Many people will be benefited from your writing. Cheers!
Hi there, I read your blogs like every week. Your story-telling style is witty, keep doing what you’re doing!
Awesome post.
Hey there terrific blog! Does running a blog similar to this take
a lot of work? I’ve very little knowledge of computer
programming but I was hoping to start my own blog in the near future.
Anyway, should you have any ideas or techniques for
new blog owners please share. I know this is off topic nevertheless I simply wanted to ask.
Many thanks!
WOW just what I was searching for. Came here by searching for zoe-beauty.be