From Crain's Cleveland: Startups Sometimes Turn to Angel Investors

Networks serve as 'a system of support for entrepreneurs'

By KIMBERLY BONVISSUTO
4:30 am, September 1, 2013

In 2009, startup StreamLink Software of Cleveland needed more money than friends and family could afford to give to drive forward the producer of software for managing boards of directors and the grant application process.

The same year, DecisionDesk, a Lakewood provider of applicant tracking software, needed mentoring and money to mature as a company.

Both ultimately turned to angel investors — a decision that's becoming increasingly common as entrepreneurs connect with more experienced business professionals through angel networks to grow their companies.

In Northeast Ohio, the ARCHAngel (Akron Regional CHange Angel) Network and North Coast Angel Fund in Mayfield Heights have financed nearly 115 companies since 2006.

Angel investing in Northeast Ohio has been ramping up in the last five years thanks to the Ohio Third Frontier, the state's technology-based economic development initiative, and to regional entrepreneurs looking to give back, according to Dominic M. Brault, managing director at Carleton McKenna & Co., a Cleveland investment banking firm.

Another driver is the nonprofit venture development organization JumpStart Inc., which makes seed investments in promising enterprises. JumpStart created a base of investment activity that has encouraged angels to put their money in local and regional companies, said Claiborne R. Rankin, manager of North Coast Angel Fund.

“Angel investing is a crucial form of capital for startups,” said Todd Federman, the fund's executive director.

The 33 companies financed through North Coast Angel Fund since 2007 have created more than 400 jobs at an average salary of $85,000 and more than $25 million in annual payroll, according to Mr. Federman.

Added Mr. Rankin, “What's been accomplished in Ohio is a real success, in terms of creating a system of support for entrepreneurs and a coordination system for investors.”

Lone wolves no more
Angel communities began formalizing into networks and organizations about 15 years ago, according to Michael G. Cain Sr., chairman of the Kansas-based Angel Resource Institute, a nonprofit dedicated to education, mentoring and research in the field of angel investing.

“People are learning that working as a group, you've got more horsepower and brainpower around the table than if you're going out as a lone wolf,” Mr. Cain said.

North Coast Angel Fund has 180 investors in two funds and invests an average of $250,000 to $500,000 in its companies. Mr. Federman and Mr. Rankin said the group has considered investing in about 1,200 companies in almost seven years, brought 85 companies through the due diligence process and invested in 33 of them, with another company recently approved.

Likewise, the ARCHAngels Network, a loose network of about 600 angel investors through the University of Akron Research Foundation, has financed 80 companies since 2006 that have attracted $300 million in follow-on money.

The foundation, which is charged with managing the University of Akron's intellectual property, hears entrepreneurs pitch their companies at membership meetings with the hope of securing money from interested angel investors, along with gaining financial analysis support, marketing support and legal advice.

“Our goal here is clearly to increase engagement, increase contributions (and) increase productivity of university research in technology commercialization,” said Barry Rosenbaum, a foundation senior fellow.

Angel groups aren't just at work in Northeast Ohio. The state also is home to Toledo's CoreNetwork and Ohio TechAngels in Columbus. In January, X Squared Angels, a Columbus-based angel network, formed to concentrate on women-owned businesses.

Zero to 60
Startups find that development of their businesses ramps up quickly upon accepting angel money.

John Knific, co-founder and CEO of DecisionDesk, and his partners, Eric Neuman and Marc Plotkin, were Case Western Reserve University classmates when their business model won the attention of local investors. The young company uses cloud-based software to enable clients to process high volumes of video applications by automating the submission and review process.

Of particular help was North Coast Angel Fund, which provided the founders with an early-stage crash course in how to raise money, build a pitch, plan out and achieve milestones and communicate with investors, Mr. Knific said.

“If you get the right angel in the deal, it can be very powerful,” he said, noting that DecisionDesk has raised $1.5 million in angel capital to date. “Angels provide access to a network, industry-specific insight and a vote of confidence. We went from zero to 60 very fast.”

Angel investors brought to StreamLink Software invaluable connections to mentors and other angels who helped define the company's mission and focus, said Adam Roth, president and CEO. The North Coast Angel Fund, he said, provided StreamLink with a sense of professionalism, added a formal board to the company and helped the founders understand their market and opportunities.

North Coast Angel Fund also helped StreamLink build out the company enough to make it attractive to other angel investors, Mr. Roth said.

StreamLink, which makes software that helps nonprofits and public sector clients manage their boards and the process of applying for and tracking the use of grant money, raised $1 million in its initial round of investments through the Great Lakes Innovation & Development Enterprise at Lorain County Community College, North Coast Angel Fund and individual angels.

Of course, that money doesn't come without some strings attached.

The minute a company takes someone else's money, that company is never the same, Mr. Knific said.

“You have shareholders, stakeholders in your business, and you have a fiduciary responsibility to them,” he said.

Mr. Roth agreed that the expectation levels climb for a business after accepting outside money.

“The disadvantage of angel investing is you have to manage multiple relationships and you have to have a system in place to manage those relationships,” Mr. Roth said, adding that those relationships often lead to unsolicited advice.

High-risk "village'
Both angels and entrepreneurs need to communicate and have an understanding of a relationship before entering into a deal, said Diana Kander, a senior fellow with the Missouri-based Ewing Marion Kauffman Foundation, which is devoted to entrepreneurship through grant awards and education.

Entrepreneurs need to realize that angels are not donors, Ms. Kander said, noting that most angel investors are looking to triple their money in three to seven years.

They also are seeking open lines of communication, said Scott M. Lewis, administrative partner with Meyers, Roman, Friedberg & Lewis in Woodmere. Entrepreneurs must recognize that even privately held companies need to communicate consistently with their stakeholders, even when the news is unfavorable.

“Particularly if there are working capital shortfalls being experienced or clearly on the horizon, the first written communication coming from the company in many months, if not longer, should not be a cash call notice for a K-1 reporting a substantial loss,” Mr. Lewis said, citing an IRS form for reporting a partner's share of a profit or loss.

Angels need to understand their investments are very high risk, and should not invest money they cannot afford to lose. Due diligence, Ms. Kander said, is something to be taken seriously.

“When buying a house, you do a home inspection. You need to do the equivalent on a business,” Ms. Kander said. “Never go with your gut. There might be fundamental structural issues you would never know about.”

Doug Weintraub, an active angel investor and serial entrepreneur, is a partner of Hatch LLC, a Cleveland-based group of angel investors. Mr. Weintraub said all the Hatch members have “been there, done that” and are interested in coaching, connections and capital.

The exciting part of being an angel investor, he said, is the opportunity to wear multiple hats.

“It's just nuts sometimes — in a given day you could be advising an investor, raising money as an entrepreneur or coaching. Any given day you don't know what it's going to be,” said Mr. Weintraub, who also is the outgoing chairman of JumpStart. “It takes a village to raise a child. The village is JumpStart and groups like ours. It takes all of these things to create this movement toward funding an idea and turning that idea into a successful exit.”

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