NACO is proud to announce the release of the first NACO Academy publication A Practical Guide to Angel Investing: How to Achieve Good Returns. Written by Dr. Steven A. Gedeon, the Guidebook is a practical and comprehensive guide to early-stage fundi...
According to the largest study performed on investment returns for Angels in groups(Wiltbank & Boeker; Wiltbank), the average time spent in due diligence is around 20 hours to generate an average return of 2.6X.
• Spending 20–60 hours in due diligence increases returns to 5.9X • Spending more than 60 hours results in returns of 7.1X • Spending less than 20 hours in due diligence results in returns plummeting to 1.1X
What specific activities should you consider with your available 20–60 hours of due diligence? Quality of due diligence is more important than just the time. This is perhaps the most important activity in the investment process and can dramatically alter the course of the company and the nature of your relationship with the founders.You may bring up important insights or issues that require immediate attention. This can be a very stressful time for entrepreneurs who are struggling to drive company growth while responding to your requests for more analysis, scenarios, projections,documentation, meetings...
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3.1 The Due Diligence and Deal Negotiation Process
Most VCs tend to sign a term sheet before investing the extensive time and effort they devote to due diligence. In contrast, Angels will often, but not always, conduct negotiations and sign a term sheet during or near the end of the due diligence process.(That's why this chapter precedes Chapter 4 – Make Good Deals.)
Mike Cegelski explains the point at which he normally signs the term sheet during the process: "I start with a PowerPoint deck and a three-hour session with the company to have a general view. We then move into negotiation and due diligence, where we talk a lot about deal structure and options. Then we sign a term sheet. After that, the remaining due diligence is pretty simple – a few weeks to clean up background checks and get legal agreements."
The Angel Resource Institute's workshop on due diligence identifies the following steps:
1. Management presentation – not just an investor pitch, but a far more detailed presentation of their vision, business model and plans going forward 2. Create a due diligence plan – to divide up the work, designate the lead investor,set deadlines, define communication, and identify key issues and deal-killers 3. Site visit(s) – to understand the company culture and connect with employees 4. Management team analysis and reference checks 5. Product and market analysis – including customer interviews 6. Financial analysis – including evaluation of future financing needs 7. Negotiating the term sheet
Virtually all due diligence teams follow a comprehensive checklist to ensure they don't forget anything (see NACO Online Sample Documents for several good examples).However, as pointed out in Adding Value Through Due Diligence: "Don't waste people's time asking questions and demanding paperwork just to check off boxes on a checklist. You will confuse yourself and annoy the company!" (Kirk Hamilton)
