AngelList Syndicates: Crowdsourcing the Limited Partner role

AngelList – an investing platform with the tagline “Where the world meets startups” – has historically been a platform where angel investors could review self-created profiles from aspiring entrepreneurs (think LinkedIn for startups).  If an angel investor liked what they saw, they could “match” with the entrepreneur and contribute initial seed funding to the startup.  When the AngelList platform was introduced it represented a seismic shift in seed investing as all of a sudden angel investors had dramatically increased deal flow opportunities. However, AngelList’s creation of Syndicates may represent an even greater change to the overall investing landscape.

Syndicates allow AngelList investors to co-invest with a “lead” angel investor in their investments.  In return, this lead investor receives a carry fee (usually 5%-30%) for any profit on the investment. Essentially, this new Syndicate structure allows an early stage investor to crowdsource their investment funds. The end result is that the role that Limited Partners (LPs) used to play in a traditional VC structure, is being replaced by crowdsourced funds, which allows an angel investor to make a much larger initial investment and allows an entrepreneur to raise funds from one angel-lead syndicate as opposed to many different initial angles. .  

 

Participation Incentivization

Investors on AngelList are incentivized to participate in the Syndicate model because they receive access to the investments, and potential returns, of some of the accomplished and historically-successful early-stage investors. If they believe enough in the investment wisdom of the lead-investor, then paying a small carry fee will be deemed fair and will not deter them from  contributing their funds toward the eventual investment decision of their Syndicate leader. Syndicate leaders are incentivized to participate in this model because all of a sudden they can make much higher value investments and they can earn a carry fee on additional money invested from their Syndicate members.

 

Challenges

There are a few inherent challenges to the Syndicate funding model.  For the entrepreneurs there is a clearly opportunity to receive funds more quickly, and possibly with less strings attached, than in a typical VC scenario, but there is a big outstanding question around whether a Syndicate can provide the type of guidance/operational support/networking capabilities that a traditional VC firm can.  If Syndicates are shown to fall short here, you may see the most promising startups pivoting strongly away from the Syndicate model, which would introduce a strong adverse selection bias. For lead-investors, they face a challenge very different from typical VC because a couple bad investments may cause them to lose their crowdsourced support.  This is problematic in the investing space because it is a hit-driven business with many expected losses, but a fickle set of backing-investors may make it hard on Syndicate leads to take the risks on the home-run businesses that they need to.

 

Value Creation/Value Capture

Especially in the tech space, the lead-time needed to get a company up and running is becoming shorter and shorter.  Therefore, the ability to quickly invest previously unavailable large sums of money has the potential to directly enhance the value creation offerings of tech-based startups. Since AngelList takes a small cut of profits made on investments on their site (this is in addition to the carry from lead-investors) it is critical that AngelList retains investments being made through their platform.  In the investing world before Syndicates, it was easy enough for angels to meet entrepreneurs through AngelList, but then invest outside of the platform.  However, now, if angel wanted to invest outside of the platform, they would be giving up the additional funds their Syndicate and the opportunity for carry.

 

Syndicate Case Study: flight.vc

One firm that has seen great potential in the AngelList Syndicate model is flight.vc.  This is a vc firm that makes exclusively Syndicate investments.  In fact, they currently have 23 different Syndicates with the backing of over 3,000 individuals contributing upwards of $21 million.  It is too early to see how successful their returns will be, but this is definitely a firm to keep our eyes on.

 

Sources

http://www.inc.com/nicholas-carlson/venture-capitalists-on-angellist-syndicates.html

http://www.feld.com/archives/2014/07/angellist-syndicate-feedback-experienced-entrepreneur.html

https://angel.co/syndicates

https://medium.com/@loukerner/the-rise-of-flight-vc-cce8fe939f5c#.vcxsszh1h

http://flight.vc/

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Student comments on AngelList Syndicates: Crowdsourcing the Limited Partner role

  1. Great post on AngelList! Just this past week, the SEC approved Title III of the JOBS Act, allowing equity crowdfunding for non-accredited investors. This rule change will inevitably increase the number of investors and transactions on crowdfunding platforms such as AngelList. I am curious to see how much of AngelList’s future growth will be fueled by non-accredited investors.

  2. KMY, you touched upon a number of important pros and cons of AngelList. Without doubt, venture capitalists whose business has been all about disrupting the status quo see their own industry being reshaped. As the crowdfunded venture capital matures, I expect several trends to emerge:

    • It will be fascinating to track returns of AngelList investors over time and compare their returns to that of the traditional VC industry. I believe that there might be a higher loss ratio on AngelList than in the traditional VC. On the investor side of the platform, the pool of inexperienced players will likely grow (especially given the recent changes regarding unaccredited investors), on the startup side of the platform, ideas that might not have received funding in the traditional model due to competition for capital from a limited group of VC, will be kept alive, but perhaps they should not.
    • In the environment where SEC has been investigating fee structures of funds (e.g., making money on transaction fees rather than from carry), AL syndicate model charging only carry is certainly attractive. AL might pose challenge to micro VCs who have higher operating costs, yet some of whom might not be all that different from AL syndicates.
    • The repeatability of success should still hold. Therefore, over time we might see that certain syndicates will be hard to access. I wouldn’t be surprised if some talented new investors use AL to build track record and eventually graduate to establishing an institutionalized fund. A larger, well-organized fund with appropriate resources offers a promise for meaningful value add, thus being able to attract better deal flow.
    • I think the traditional VC model will still hold, as at the end of the day it is still people’s business and face-to-face interaction is important.

    Crowdsourced VC is certainly a trend worth following!

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