Top 5 mistakes I've made as an angel investor

Angel investing is about making good decisions, since the wrong decision can lead to losing a lot of money. Having been angel investing for over four years now, I’ve made a lot of decision. Some good and some really bad. This blog post is my attempt at helping other investors avoid some of the pain that comes with those really bad decisions.

1. Too much money in a single deal

Almost every angel investor I know has made the mistake of putting too much money into one of their very first deals and I am not an exception. I got very excited about one of the very first deals I did and invested a bit over 30% of the money I had put aside for angel investing.

The error I made was that I only thought about how much money I would make if the company became huge. This is a very bad idea when considering that about 70% of all startups never return any money to their investors.

What I should have done, and what I do now, is budget an initial ticket size based on my total angel budget. I also allocate part of my budget to follow-on investments. That is, investments in companies where I have already invested¹.

Let’s look at some numbers. If I have $1 million to invest, I would aim to put half of it towards initial investments in 20 companies. That gives me a good base diversification. If one fails, that's 2.5% of my total budget. Not nearly as bad as losing 30%.

Now assume 10 of the companies actually gain meaningful traction. I then have half my budget left to invest in the next round. I like to do this once, which means I invest double the amount vs what I invested in the first round. You could also choose to save some money for the real breakout cases.

Doing follow-ons instead of investing a lot up front is a much smarter strategy. As long as you have pro rata rights you can always choose to invest more. But once the money is invested, you can’t reverse your decision.

2. Follow-on investments in companies that are not hitting their goals

A startup that keeps missing goals indicates a lack of Product Market Fit. This is bad because if the founders aren’t able to reach their goals regarding traction and/or revenue in the first 18 months (standard runway for pre-seed and seed) odds are they will in the next 6-12 months either, which means they will have an even harder time raising the next round.

Almost as much of a classic as putting too much money into a single deal, I’ve invested way too much money on follow-on rounds that I really should have passed on. These are the rounds typically called things like “extended seed” or bridge round. Unless the company has a good reason for raising a bridge round you are better off cutting your losses and moving on to the next deal.

Valid reasons² could be the founders gaining a new insight about the market and want to make a pivot or the venture capital market turning upside down, like it has this past year. Anything else needs to have a really good explanation to get me to invest again.

Software based companies are very simple to shut down and if the company clearly is not working out it’s better for both you and the founders to spend both time and money somewhere else. Remember, you want great outcomes! Anything else is to be seen as a distraction.

This might sound cold, but remember that the decision and the implementation of the decision are two separate things. You can pass on a round while showing empathy and supporting the founder as they are shutting down what they thought would be their legacy.

3. Investing in founders that are not passionate about the problem

This is a tricky one and one that can be difficult to spot, other than with the benefit of hindsight. But if the founders are not passionate about the problem they are solving, they probably won’t have the stamina needed to take it through the tough times that will inevitably come.

For me it went something like this. I met with a group of what I felt were great founders. First time founders, sure, but with the right background and complementing skills, who had built a working MVP. They and I both thought they had a unique insight and that was what I invested on. So far so good.

As it turned out they were more interested in building a startup than they were in solving the problem they were building the startup around. This led to the founders not having a strong enough vision, pivoting one too many times. The result was founders running out of both money and energy, followed by the decision to shut down the company (which by the way was the right decision).

This is the mistake that I have spent the most time thinking about, because it’s the one where the solution is the least obvious to me. What I’ve landed on is to update the vetting process that I use to decide which startups to invest in. I’ve specifically added a couple of questions to the script I use when speaking with founders to dig deeper into the founders motivations to start a startup.

4. Not thinking hard enough about how big the startup can become

As I wrote in a previous post [link], Angel Investing is about finding outliers. The one or two companies that grow to dominate whole industries. Think Tiktok, Uber, and Klarna. Most companies will of course never get there. But you need to be able to see a path to a $10 billion valuation, however slim the odds might be.

Sometimes I’ve ignored this (mostly due to falling in love with the founders), and the outcome is always the same. Mediocre growth, painful bridge rounds and an investment that takes too long to generate any form of return.

This can be difficult to parry but at the very least you should look at competitors in the space. If I had done this in one of my cases, I would have immediately found the four top competitors in the space and seen that they weren’t going anywhere.

When that happens it’s simply a matter of taking another look at the pitch deck to see if there is any unique insight that could make this company an exception. If you can’t find a unique insight, it’s better to just say no. And in case you are wondering, bolting on a social feed to an app does not count as a unique insight.

5. Turning down deals because of ego

Ego is the enemy. It wants to optimize for keeping face rather than making money, which is an extremely bad way of doing angel investing.

In 2020 I saw a group on #fintwit come together to build an app that solved a problem in a way that I hadn’t seen done before. I had already had some contact with one of the founders, so I reached out and asked if I could invest. The reply that I got was basically “Sorry, your ticket size is too small”, and I thought that was that.

Fast forward a year. A friend of mine, who is also an investor, shared a pitch deck. It was the same company that had turned me down. They were now raising a fairly large seed round and my friend asked me if I would like to be introduced to the CEO founder.

I politely declined, but inside I was furious. Of course I wasn’t going to invest! If my money wasn’t good enough for them then it sure as hell wasn’t going to be good enough for them now! This is of course really dumb. The company was growing like crazy, beating all projections and finding new revenue streams. But my ego wouldn’t let me see that.

If the goal is to make money you should instead have a strict process and look at each case as objectively as possible. This holds true both for companies that you’ve never seen before and when making follow-on investments in existing portfolio companies.

That can be easier said than done, so if you start feeling influenced by emotions, it really helps to have someone neutral to talk to. I have used my coaches and my girlfriend to help me think more rationally, and run a Slack group with angel investors where I can get a second opinion on deals. Just getting a second opinion has helped me immensely when I’ve started to get emotionally attached.

Wrap up

Separating decision from outcome is a very important skill to learn if you want to be a successful investor, regardless of if you invest in startups, gold or publicly traded companies. The way I do this is that I keep all my investments in a spreadsheet with links to the deal memos I write when I make my investments. This lets me go back to each deal with regular intervals to follow up on how well my decisions and projections match reality.

Getting a good outcome from a bad decision is one of the most dangerous things that could happen to an investor, since it will trick you into making the same decision again and again, until you realize that it was bad decision making, rather than bad luck, that made your investments go to zero.

A less obvious lesson is that decisions to invest stick with you for a very long time, whereas decisions not to invest can often be reversed. If there is one thing I’ve learned from the past four years it is that there is always another case and there is always another round. No reason to rush into deals.

Finding a group of people with different backgrounds and points of view to talk to about cases will help you make better decisions. I can’t recommend this highly enough. But if you don’t have any angel investors in your circle of friends, feel free to reach out to me via Twitter, LinkedIn, or email. I’m always open to talking to other investors!

Until next time!

/Viktor