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November 2006 Presenters - Angel Panel

November 21, 2006

The GCVA Annual Angel Panel, held November 21, 2006, was a great way for those seeking angel funding to understand the process and hear stories of other companies who have successfully garnered angel capital. Panelists Suzanne Bergmeister, director of business strategy for Metacyte Business Lab in Louisville; Tony Shipley, chair of Queen City Angels in Cincinnati; and Craig Stickel, managing director of Science and Technology Campus Corporation in Columbus were moderated by Jim Cunningham, executive director of C-Cap Angel Capital Hub.

Jim opened the meeting by describing C-Cap's role in the process. "C-Cap is a non-profit group that assists Queen City Angels, providing educational activities and mentoring to entrepreneurs," he explained. Their goal is to get entrepreneurs "in the network," to educate them about the process and introduce them to the people they need to know to be successful in the industry. "Early stage investing is very much a contact sport," Jim laughed, "and you definitely need the network to succeed."

Tony Shipley, Chair, Queen City Angels, Cincinnati

Following this brief introduction, Jim turned the discussion over to the panel. Tony Shipley began by providing an overview of the process Queen City Angels (QCA) uses and walking through a successful portfolio company QCA has funded. He began by reaffirming QCA's relationship with C-Cap. "Once a plan arrives," he says, "Jim previews it and ensures it has all the necessary elements included. He then forwards it to QCA." A two-person screening committee vets the plan and presents an Executive Summary to the entire group at a regular meeting. If there is interest, Tony says they will ask the entrepreneur to come to the next meeting to present, or even call a special meeting if circumstances warrant. "From there, if enough of our people like it, we will do the due diligence, write a term sheet, negotiate and invest."

QCA has invested in 24 companies since their start in 2000. Nine of these are follow-on investments, 15 are new. To illustrate how the process works, Tony used one of the companies QCA invested in - a "model" company from all perspectives.

This company provides security products to banks and credit unions. They were impressive from the start, with a number of points in their Executive Summary hitting key hot buttons among the group. Tony describes them as clear and straightforward: "They clearly stated the business problems they would solve and their focus in terms even angels could understand." He explained that, if there is no industry expert for a particular company in the group, it can be difficult for the investors to understand the goals and value proposition of the company. It's extremely important for an entrepreneur to present the business in clear, concise, layman terms so, even if no one has experience in the industry, they can all understand the company immediately.

This company presented the market size and growth; the problems other companies have; customer dissatisfaction with current suppliers; lack of innovation in the industry; and their own very clear value proposition in simple, impactful terms. "They planned to grow and penetrate the market," Tony says. "They had a clear go to market strategy and discussed all the relevant aspects with a very believable roadmap."

One of the key parts of this roadmap for Tony and QCA was a strong management team. "They had 35 years of experience with complementary talents. They were an A team with an A idea." Tony explained that, given the choice, QCA will take an A team with a B idea over a B team with an A idea. "A lot of people think the idea is the most important part," he says. In reality, however, it's the opposite: "The management team is more important," feels Tony. "A great team can take a not-so-great idea and run with it."

He stressed this aspect again and again, saying that experience and coachability are two key aspects that make or break a deal. "If the managers are open to input, they have a better chance of success. We're there to help, to provide support in those early days."

QCA chose to invest in this company in 2004, and it has exceeded expectations to date. "They've moved from their home to a start-up facility, then to larger facility, and are now looking for more space again. Their customers are happy. They've rounded out their management team and they're now in position to receive future capital needs through a bank or internal funding." He says this is the result of a motivated management team with a realistic, easy to follow business plan.

Tony finished his presentation with some general suggestions for entrepreneurs looking for angel funding. First, he says, clearly define your business problem. Second, help investors clearly understand your business proposition and third, make sure your business plan connects all the dots. Demonstrate that you're willing to use mentors and coaches, and don't let passion get in the way of valuation needs. This is important since entrepreneurs can be overly enthusiastic about their "baby." Yet, Tony says, the market will ultimately determine valuation. Finally, be prepared for any meeting. Have a 30-second elevator speech, a 10-minute overview, and a full-blown presentation ready to give at any time. Be prepared for that quick meeting that turns into an extensive discussion, so you're always ready to answer any question, no matter how detailed.

Suzanne Bergmeister, Director of Business Strategy, Metacyte Business Lab LLC, Louisville

Suzanne spoke next, providing a different perspective. She started by describing her background as a bit different than the standard: "I always thought how great it would be if an entrepreneur could switch shoes with investors," she says. "The typical angel has done that - he usually starts our as a successful entrepreneur." However, her experience is the opposite. She started as an investor first in private equity and venture capital, then moved over to the entrepreneurial side. "My goal is to have an entrepreneurial success, then become an angel investor myself," she says.

Suzanne's company, Metacyte, is a life science lab whose business is "human capital." They look for scientists with promising research and intellectual property (the "raw material"), decide if it's commercializable, and work with the scientist to develop a start-up. "Investors are our customers," she explains, while Metacyte is more the "manufacturing" company. Suzanne says, "We negotiate a license with the university, work with the founding scientist and researchers, package the business so it's appealing to investors." Since many life sciences businesses are higher risk and take a longer time to reach payout, a patent portfolio and clear milestone timeline is extremely important. "Many life sciences companies are purchased in the middle of their trial period," she explains. "We are focused on creating a business model for commercialization of a life sciences company."

So far, they have been successful. In fact, Metacyte recently raised almost twice the amount of funding for an adult stem cell research company than they set out for. This company found a way of harvesting stem cells in a non-invasive manner from the nasal cavity. "The technology looks wonderful, the patent is good, this was a definitely go ahead for us," Suzanne said enthusiastically.

Metacyte initially approached the Kentucky Seed Capital Fund, who after reviewing what Suzanne calls the biggest milestone - Phase 1 Human Clinical Trials - agreed to fund over 50% of the round.

Metacyte then approached QCA, venture capitalists in Louisville, and the Bluegrass Angels in Lexington. "It's rare to get mostly yes's, but that's what happened," marveled Suzanne. "We know it's highly unusual, but we are oversubscribed at $930,000."

How did this unusual situation happen? Suzanne has some ideas. "First, this is a hard-core science that's been packaged so it's easy to understand for non-scientists," she explains. "This enabled potential investors to see the large market." The second reason is the partnership between the scientist and Metacyte: "A scientist who knew nothing about business had business experts available through us. It's once again an example of funding great management plus a great concept." Third, Suzanne feels the intellectual property approach Metacyte took was highly beneficial. She explains, "We put together a due diligence binder, with all the IP info necessary - copies of our patents, competitive patents, letters from various attorneys with opinions on the patent, and so on. This alleviated a lot of fears." Finally, a pre-clinical study done on rats, and presented powerfully through a video in presentations, boiled down the potential of the company. "The study showed how a rat with an induced spinal cord injury, whose front paw was crippled, could regain 85% functionality in that paw," Suzanne describes. "The response was, 'If [the technology] can do that in a rat, think of what it can do in humans?'"

Craig Stickel, Managing Director, Science and Technology Campus Corporation, Columbus

Craig manages a 100-member high-tech fund in Columbus that manages $3.5 million in capital. Their model is different than QCA's, as all members buy into the LLC for $25,000 a share. "Our sweet spot is pre- and early post revenue, meeting that gap between personal funding and validation funds, and venture capital," Craig describes. "We use a common formula: good people, big market, good idea."

However, their evaluation process is more rigid than other angel groups. They receive 50-60 plans per month and screen these down to 3-5 to go through the first step, an Investor Screening Committee. "This committee consists of the manager [Craig] and four to five members," he explains. "We take a cursory look and have the entrepreneurial team give a 10-minute pitch. If there is interest, it's presented to the group." After this, the membership votes on moving to due diligence. Two to three members will evaluate per a well-defined structure, and present their recommendations at another meeting. "Our vote is a simple majority of the group, based on the terms presented. We usually invest $100-150,000," Craig says. Their investments are almost always in the form of a Series A equity round. In addition, they almost always take a board seat: "Angels want to give back," says Craig, "and this is a good way to help the entrepreneurs move in the right direction."

As an example, Craig used a company called Midwest Micro Device that works in the semi-conductor industry. They have manufacturing capability for MEMS devices (micro electro mechanical systems). "There is tons of research in this area," Craig explains, "so we talked to several academic institutions regarding the technology." They found the company had a very promising future and had done things right: "They created a foundry at a reasonable cost of capital by using an abandoned silicone factory which they modified to produce their product." They had already attracted state money through an Innovation Ohio loan and "they used other people's money for meeting their capital requirements," according to Craig. "We were funding an operational shortfall between getting the factory ready and revenue," he says. "If things continue on the same trajectory, they'll be at break even by the end of '07."

While this was a big market with a good plan and reasonable capital needs, there were still issues to address. "They had a lack of funds due to their capital expenditure structure with issues around debt," Craig explains. "We were able to help by reformatting debt to equity. Also, this is a highly technical area and none of our members had the needed expertise. We turned to an OSU expert and others to help."

Craig also made a recommendation to entrepreneurs looking for funding: "We see a lot of deals that are a mismatch between the founder's idea of worth and the investors' idea, but the market ultimately determines value. The entire package of the deal - including what you'll get from the angel group in expertise - is what is important to evaluate, not just the valuation."

Question and Answer

Jim finished the discussion by reiterating what all three panelists had stressed: "As an entrepreneur, you need to convince investors that you have the people to make your company a success," he says. "Don't just focus on what a great idea it is - a great idea won't go anywhere without the right people behind it."

Question: If a company needs more funding than a group can provide, will the group take it to others for syndication, or does the entrepreneur?

Answer: According to Tony, most angels, if interested, will gauge how much capital is available and, if there is a shortfall, they will call others to see if they are interested. They will make the introductions necessary. This original angel group generally becomes the lead and submits the term sheet. Other groups have an opportunity to agree or not, but there is one term sheet for all at the end of the process.

He said most angel groups are members of the Angel Capital Association, which generated best practices for the industry. All members gravitate toward the use of best practices.

Craig added that, no matter what, the entrepreneur has to be in the lead. "We don't gang up and say you have to do it this way - it's your decision," he says.

Question: What is the amount of funding an angel group can provide?

Answer: According to Tony, "There are tons of individual angels, who invest in the tens to hundreds of thousands. The groups fill the void between individuals and venture capitalists, usually in the $500-$2.5 million range. When it gets in the higher range, syndication is usually used. And if a bigger round is needed later on, everyone wants proof you've presented and understood the milestones. Angel capital is a bridge [to future funding], not a pier."

Suzanne added that although they initially went after $500,000 for the example company, they knew they needed more. "With the extra funds, we contracted with an FDA regulatory agent, which will help us move forward more quickly and easily."

Tony says the technology Metacyte presented benefited all mankind, and they had a scientist "who could talk - he presented a compelling story that made it easy for us to decide to fund them."

Question: How do Louisville and Columbus angels get access to entrepreneurs?

Answer: Suzanne says Louisville has several organizations that help entrepreneurs get connected to investors, including their own venture club. However, they don't have an organized angel group like QCA.

Craig says Tech Columbus jump-starts central Ohio by providing networking opportunities. "We don't do a great job [in Columbus] yet, but we're getting there."

Question: If a company is going after a $500,000-$1 million Series A round, is it generally just one or two people running the company?

Answer: Suzanne feels this depends on your budget: "You can outsource certain activities, but you need someone who is passionate and can drive the company forward, a CEO."

Tony says it generally takes more than a person, it takes a team of people to bring the right skill set to a potential high-growth enterprise. He also says, "Angels want a good return, but they've been there and are looking to give back. Use your angel organization to plug some holes on a short-term basis."

Craig believes the core must be there. "Do they know their shortcomings, and can they begin to make connections to grow the business and team?"