A group of Philly investors came together in a forum during Tech Week in Philadelphia to address questions about their investment criteria, the implications of accepting their investment and the love-hate relationship with angel investors. They spanned all stages of investment from SRI Capital at the seed stage, Safeguard Scientifics at the Series A-C stage to the later stages with NewSpring Capital.
Doc Parghi, operating partner with SRI Capital, said his firm looks at a startup’s management team’s background and experience. The company also has to be flexible enough to pivot and adapt to change.
“We require our companies before we invest in them to have three customers. We call them customer validations. We are not concerned about revenue, but we do want three folks we can talk to who can prove out the offering. I think that’s something we are very disciplined on because at our stage [of investment] we really need customers that can do this validation,” said Parghi.
Luk agreed that trust is critical and management teams proving that they can be good stewards of the capital. He likes to invest in businesses that he can see himself working for and he noted that others at the firm share that view.
Justin Nadile, a vice president with NewSpring Capital, said the VC looks at companies’ track record with investors, among other criteria.
“What’s very important to us is someone who is willing to learn, listen and look at this as a partnership,”
Nadile said. “But we’ll never profess to know their business, their market, or their technology more than they do. If we did, we could be starting the same company. We want to be supplementing their existing abilities. Otherwise it’s not a partnership.”
Asked to offer an example of a deal that worked out (or didn’t), Luk recalled one health IT investment prospect that had started off well. But once the term sheet was signed and the due diligence began, the firm found that one member of the management team had misrepresented her roles. The titles she claimed on her resumé were inconsistent with what the company had found. But it wasn’t a simple matter of cutting her from the team because she was so core to the business, it didn’t make sense to invest in the company without her. So Safeguard declined to invest in that business, though the startup successfully raised money from other firms.
“One thing that gets lost sometimes is why do you want to take our money,” said David Luk, a principal at Safeguard. “I tell this to early stage entrepreneurs all the time. Are you sure you want or need venture capital? Because venture capital is the most expensive form of capital, aside from borrowing money from the guy down the street — that’s probably a little more expensive,” Luk joked.
One audience member questioned what’s limiting the Philadelphia startup ecosystem. Luk noted that the region needs to do a better job of retaining engineers early in their careers. Currently, Philadelphia is competing with the allure of the Bay area — the feeling that anything can happen because they’re surrounded by big companies and talent.
Pargi acknowledged that it’s important to improve Philadelphia’s ecosystem by leveraging institutions like the [University City] Science Center and Ben Franklin [Technology Partners].
“Also I believe there’s a lot of capital here waiting to be tapped, we just have to find a way to tap it,” he said.
Pargi explained that he is cofounder of Broad Street Angels — essentially the Union League’s investment group. He said the thesis is a membership with the means to invest in startups that lacks the knowledge to go about it. Five meetings later, it has funded two deals.
“We need more initiatives like that to get more tentacles in the ecosystem,” Pargi said.
In a particularly interesting exchange Louis Padulo, the president emeritus of the University City Science Center, asked the investment firms how they treated angel investors.
“I have seen it over and over again,” Padulo remarked. “Many of my friends became angels. Basically, angels get screwed. You guys try to clean up the cap table — you want to clean them out like they’re vermin. And it’s stupid to do that… if you think about the importance of the angel investor community…”
Parghi remarked that because SCI invests at the early stage, its firm often co-invests with angel investors. “We like to do it to round out our deals and we embrace the angel investment community and we need more of it.”
Nadile chimed in, too.
“We love angels. For us, we don’t clean up the cap table but we don’t view that as a negative so much…We view it as an opportunity to provide recurrence to angel investors. Since we are dealing primarily with later stage companies, if there are angels involved chances are they have been involved for 5-12 years… As part of our investment round, some portion of it does typically go towards liquidity in some form to earlier investors or shareholders of the business. …and [angel investors] get to see a return on their investment.”
“We’re trying to not create the cap table to be greedy for ourselves but to be greedy for the success of the company,” Luk said. “So if an angel investor comes in at a valuation that is higher than what was rational at the time and gets their valuation marked down a bit, it’s part of what’s necessary so we can all live together.”