Angel investors that take a financial stake in pre-seed, seed, or emerging companies, often turn to accelerator funds as an alternative to direct investment.
Angel groups (investor collectives), that pool funds and management, have been an important organizational innovation which started in the early 1990s. The theory went that by pooling their efforts, investors were able to get access to better deal flow, evaluate and monitor companies better, and strike better deals than they would on their own. Now, business accelerators (organizations that provide capital and mentoring to early-stage companies) are in vogue and angels have been allocating their capital into accelerator funds.
First, and most important, investing in accelerator funds dramatically reduces the price that angels pay for their investments. Currently, the median valuation for a start-up by an angel group is $3.6 million. A typical accelerator investment averages $25,000 into these startups in return for 6% of equity. That’s a valuation of about $417,000. Typically, even after a 20% carried interest, the valuation of an angel group would be 7.3 times that of an accelerator. Therefore, an angel who invests with an angel group would have to believe the startup will have a 7x probability of a positive exit. That is unlikely.
Second, investing in accelerator funds increases the chances the angel will generate an acceptable return. Simulations indicate that angels need to build portfolios of 50 investments to have a greater than 90% odds of a 2x ROI. A typical angel, on their own, averages 7 investments.
Normally, an accelerator fund makes approximately 12 investments per year (about 5x the rate of the typical angel investor). Therefore, by investing in an accelerator fund, the angel has a much higher chance of achieving the diversification necessary to generate a worthwhile return.
Third, is time. Investing in accelerator funds significantly reduces the amount of time an angel must spend on analyzing each investment. Usually, an angel must spend time attending pitches, participating in the due diligence process, negotiating term sheets, and so on. As an accelerator investor the angel does none of this. The managing director of the accelerator undertakes these very time consuming tasks.
In summary, angels spend less time, invest at a lower price point, and get more diversification by investing in accelerator funds vs. joining an angel group. So, by default, the accelerator is a much better investment vehicle for the angle vs. direct participation.
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