There are several reasons for needing dry powder. You will be able to negotiate a better deal, and suffer less dilution in any subsequent investment rounds, if you are co-investing on the same terms as your new investors. The vast majority of entrepreneurs, and Angels, underestimate the amount of money they will need. If a company unexpectedly runs short of money, the very last thing you want is to try to raise the next round of financing when the company is in distress. If you have $2 million to invest, you should consider investing half that amount in 20 companies, or around $50,000 per investment on average. If you estimate that you will hold each company for five years, it means doing at least four deals per year. On the Other Hand... This doesn’t feel practical to me. While it is good advice and mathematically sound, an Angel with $2 million ready to invest will not likely have the discipline to pace the initial $1 million over five years. It is more likely that once they get exposed to decent deal flow, two things will happen: 1. They’ll start seeing very good opportunities and they will seduce themselves into more than four deals – if not in the first year, then almost certainly in the second. 2. Similarly, they will want to invest more than $50,000. This is especially true early in their Angel life when they have more powder available to invest. If opportunities are good and Angels convince themselves that they can do $50,000, the threshold to convince themselves to go to $75,000 or $100,000 is lower than the first $50,000. This is why many Angels get tapped out before exits start replenishing the keg. It’s difficult for Angels to have the discipline to stay within targets (if they have them). That’s because once they’ve convinced themselves a deal is good, and that (for the immediate moment) it’s the best deal around, it’s natural to wonder, if it’s good for $25,000–50,000, why not $75,000–100,000? Other influences that come into play when deciding on the amount to invest: • Interpersonal “chemistry” with the founder/team • All that’s left before closing the deal is a small amount • The Angel’s experience/knowledge of the industry • The nature of the product and market opportunity • The co-investors • Intellectual property • The concept is in a race to market • Being flush with cash (e.g., partial or full exit just happened, bonus was just paid) — Frank Erschen , Charter Member, Golden Triangle Angelnet
24 A Practical Guide to Angel Investing
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