What risks does a Business Angel face?

Author: Patrico Hunt

Investing as a “business angel” in technology startups can be an exciting journey to innovation and financial success.

In today's article, Patricio Hunt reflects on his experience making nearly 60 investments in the last 12 years, at a rate of about 5 per year.

From this reflection, a list of 5 key risks emerges that are important to consider before embarking on this adventure, together with a series of recommendations to mitigate them.

Risk of Losing All Invested Capital

Investing in early-stage technology startups carries the inherent risk of total capital loss, as many startups (probably 9 out of 10) fail to achieve profitability or a sustainable business model and go out of business.

Mitigation Strategy: There are several ways to mitigate this risk and my recommendation is to implement them all without exception:

  1. The first thing is to invest only what you can afford to lose. This promotes emotional detachment from investments, which allows us to have a clearer mind when making decisions;
  2. diversify the investment portfolio in different startups and industrial and/or technological sectors to distribute risk;
  3. invest in a group, never alone. The perspectives of other people, based on their diverse backgrounds and experiences, favor better-informed decision-making and therefore reduces the risk of losing everything;
  4. invest primarily in people, not in projects. In these very early stages, it is most likely that the starting assumptions will not hold up against market forces. A group of highly intelligent and energetic entrepreneurs will know how to turn the project around and pivot.

Reputation Conflict Due to a Misbehaving Entrepreneur

Partnering with an entrepreneur who behaves unethically or unprofessionally can damage your reputation in the business community. I experienced this problem firsthand twice, and I must say that the damage is significant and quite demoralizing, especially when the entrepreneur, through lies and manipulation, has the ability to turn other investors against you.

It should be borne in mind that in the entrepreneurial environment there are corroborated evidence which indicates that 49% of entrepreneurs suffer from mental health problems (depression, substance abuse, attention deficit syndrome, or bipolarity) and another 23% who are asymptomatic, belong to families with a history of suffering this type of problem.

Mitigation Strategy: It performs thorough due diligence on the entrepreneur's history, including their past businesses and personal conduct. Build a network of trusted advisors and other investors to gain perspectives and share experiences on potential investments.

Frustration with an Entrepreneur Who Doesn't Listen

Investing in a startup led by an entrepreneur who resists advice or feedback can be frustrating and potentially detrimental to business success.

Mitigation Strategy: Establish clear communication channels and define expectations for mentoring and guidance from the start. Consider structuring your investment to include advisory roles and seek regular updates on progress and challenges.

Emotional Attachment to an Investment

Being too emotionally invested in a startup can cloud judgment, leading to poor decision-making and difficulty accepting when it's time to take losses.

Mitigation Strategy: Maintain a professional distance and an objective perspective. Regularly review each investment against established performance indicators and be prepared to make difficult decisions based on data and rational analysis, not just emotional attachment.

Managing the negative side of honesty:

Maintaining your principles by being honest, especially when delivering difficult feedback or bad news, can be challenging if it means disappointing people or facing resistance. Often, entrepreneurs make a conscious and/or unconscious effort to remain optimistic in order to maintain the enthusiasm and motivation of the team in charge. This is good as long as it does not turn into something pathological. That's when the problems become, when entrepreneurs begin to believe their own lies.

An example that comes to the case to illustrate this is Theranos, where Avie Tevanian was disassociated from the Board in 2007 because of her skeptical view of the explanations that Elizabeth Homes gave to her concerns about the company's progress.

Mitigation Strategy: Develop a reputation by providing constructive and honest feedback from the start. It frames difficult conversations in terms of how challenges can be addressed and overcome. Make sure that feedback is always specific, practical and delivered with empathy.