We can easily overlook the level of demand pull when we are assessing strategic value. Just because a product has a patent, deep complexity and an obvious competitive advantage does not mean that it can fly by itself into the market. In fact, very few products have the ability to establish market leadership out of the box, most have to be supported with established distribution channels or complementary products.

I had two occasions recently to review products which had clear market leadership. Each solved a difficult problem in their sectors and each had reasonably strong competitive advantages. They both had impressive testimonials from major corporate customers and clearly delivered good value for money. Both said they had a long list of prospects and that the reports back from their prospects indicated sales in the future, however, their closure rates were relatively slow.

Sales closing rates and the length of the sales cycle are great indicators of pulling power. A product which meets a strong and compelling need has a high closure rate and relatively short sales cycles. Also these products typically have strong referral rates and usually good viral marketing. Products which have a significant competitive advantage and also meet a compelling need can often push their way into a market, opening up new revenue channels and quickly capturing market share for the acquiring corporation. I call these high growth potential products.

Products which have significant competitive advantages but don’t satisfy the high compelling need test are low growth potential products. These products tend to struggle because clients and consumers put them lower down the list of need to have solutions. Perhaps, they fall into the category of ‘nice to have’ which explains why the conversion rates are so much lower.

As you prepare your company for exit and seek strategic value investments, you should focus on high growth potential products. The evidence which you need to produce for the strategic acquirer to show market traction and pulling power is usually easy to assemble and normally obvious.

However, there are opportunities for low growth potential products for a strategic sale but the technique for establishing strategic value is different. In the case of high growth potential products, market demand is established directly with the product itself. With low growth potential products, the market potential is established in relation to a set of existing products for which the new product provides complementary value.

We can see this situation occurring often in software applications where a new module can be sold back into an existing customer base and then add incremental value to new sales. However, the new product is not sufficiently strong to pull the other products into a new sale. In fact, this relationship accounted for much of the small software firm acquisitions throughout the 70’s and 80’s.

In the case of low growth potential products, we need to position them for sale into large existing customer bases where the selling effort is low and the customers are open to additional add-on products. The strategic buyer will pay a strategic premium because they can see an immediate short term method for recovering the acquisition cost.

High growth potential products which have the ability of driving new sales should be directed at the strategic acquirer which has the capability and capacity to launch the product into the market and support a rapid growth activity. High growth potential products can be sold back into existing customers but, importantly, they drive new sales.

The last thing we want as Angel investors is reluctance on the part of the Founder and/or the management team to pursue an exit, and yet we seem to put little effort into ensuring we all want the same outcome. Too many Angels focus on the near term issues without appreciating that even these decisions need to be seen in the context of the exit. Far too many Angels shy away from confronting the management team about exit preparation, seeing this as a confrontation issue rather than a collaborative activity. It’s time to put the exit front and center and ensure there is an alignment of interests in a good exit.

We all have our own mental models for how we deal with issues in growing and developing a business, but very few of us have the experience of multiple exits to guide us through an exit planning session. Unfortunately, we’re trapped by an old valuation paradigm which places a value on a venture based on its achieved and near term inherent profitability and thus inhibits our thinking about how to get the best exit value. Apart from the fact that this is fundamentally wrong, it leaves our focus on growing revenue and profit rather than identifying the best buyers and packaging the business to give us the best exit value.

Without a framework to guide the discussion and to undertake the exit planning, we’re left with a set of ad hoc experiences and half truths. Furthermore, you can’t rely on the investment bankers to give you the best advice. They’re often in for the quick transaction and fast buck.

We have a number of issues to deal with in planning an exit; due diligence, change of ownership, selecting the best buyers and ensuring we get the best price. Each of these activities will require careful planning, often changes in the business structure and activities, and a project plan with assigned tasks, timescales and costs to ensure we get the outcome we seek. Basically, a good exit does not happen by accident, it needs careful planning and an allocation of resources. Furthermore, you can’t depend on circumstances becoming favorable just around the time you wish to exit. You need to manage and create your own circumstances to give you the best outcome.

We often forget that our highest value comes when the buyer clearly sees they can exploit the acquisition for significant gain. It is what the buyer anticipates they can do with the business which will ultimately determine the exit value. We need to construct a business at the point of sale where we reduce risks to the buyer as well as improve their probability of success on post acquisition performance. It would be naïve of us to expect we can develop the best post-acquisition results without the active cooperation of our management team. Not only do we need them in the planning and construction of the business at point of sale, but we may well need them to be part of the post acquisition business which produces the results.
Our task as an Angel is to gain the active cooperation of the Founder and the management team in planning the sale and the post-acquisition potential. We want them to be active and enthusiastic participants in the process, and we should ensure that it is worth their while to do so. The alignment we seek is to have the management team as committed to the exit process as we are.  They need to see that their best personal outcome is achieved when a great exit is achieved for the Angels.

I’ve spent many years developing and documenting the exit process for high growth potential startups. This is set out in the free ebook ‘Ultimate Exits’. With this book comes a workbook ‘Ultimate Exits Workbook’, which you can use to develop an exit strategy with your management team. This workbook deals with the alignment of interests, due diligence preparation, identifying the potential buyers and preparing the business for the best post-acquisition performance. I encourage you to use this process to ensure exit preparation is at the top of your list for your investee reviews.

Last Part of a Continuing Series on How to Select an Angel Group

In my original Top 10 list of criteria for selecting an angel investor, there were two items that aren’t often discussed, but are worth scrutinizing during the fundraising process:

- Honesty and integrity
- Are they respectful of entrepreneurs

If you talk to founders and CEOs that have gone through early-stage fundraising, many will share their personal stories about dealing with as***le angels. In partial support of this, Frank Peters wrote a recent post on the Top 10 Lies Angels Tell that contains a few chards of truth. On several occasions I’ve observed angels (and not members of the Pasadena Angels) publicly berate entrepreneurs. Probably the most memorable was when a member of another angel group looked a founder square in the eyes and told them in an obnoxious manner they weren’t CEO material—a rather ironic comment, since this angel had probably spent their working life as a service provider and had never been in an operational role, and especially not one in a startup.

Given all the turmoil and upheaval that’s occurred in the Angel community over the past two years, one question that invariably perplexes me: How do as***le angels survive and why isn’t there a self-correcting mechanism that purges them from our ecosystem?  In addition to losing bad angels for economic reasons, it also seems reasonable that the best entrepreneurs would avoid working with them and would force/encourage these angels to ply their trade somewhere else.

According to the Angel Capital Association, approximately 225,000 people have made an angel investment in the last two years, which would somewhat qualify them as angel investors. I suspect the majority of these individuals are decent people. As with other professions—or life in general—there will always be some bad apples.

Based on my experiences as an angel investor over the past seven years, I have three theories about why this occurs:

1.    There’s a significant imbalance between early-stage capital and good fundable companies, which means it’s a buyer’s market for investors, and companies can’t be as discriminating. I’ve talked in past posts about the funnels for most institutionalized angel groups and VCs, and that only about 1% of all the companies that apply get funded. Since this metric was from better times, I suspect it’s now even lower in the current economic climate.

2.    Entrepreneurs hear the hype about particular angel investors and that they’ve done the most deals and/or they’ve been around the longest, and are completely blinded by it. In many of these instances, entrepreneurs have done little/no diligence on these angels and have tended to overlook their negative character traits.

3.    Money talks and entrepreneurs get blinded once the term sheets and money appear, and once again don’t do sufficient diligence on their investors.

In addition to understanding why they survive, it’s also important to understand what created the as***le angels in the first place. For the good angels it’s an opportunity to give back and they enjoy working with entrepreneurs. For the as***le angels, it’s often they’re wanna-be VCs and/or relish the opportunity to express themselves in ways they weren’t able to in their previous careers. Apparently they’ve seen some VCs behaving badly and figure acting this way will give them some VC cred. (note to these types: you’re not really a VC if it’s personal and friends & family money, as opposed to institutional—unless you happen to be Haim Saban).

Even if an angel is on their best behavior during the early stages, you should still do some diligence on their personalities and post-investment reputations. Another good barometer for predicting these behaviors can be found in your initial experiences with the admin staff-or gatekeepers—for an angel group, as these people frequently reflect the attitudes and corporate culture of the angels that employ them.

Given the continued tough financing climate this year, let’s hope you can avoid the as***le angels on your quest for funding.

Historically our angel investment criteria have always focused on the ability of a management team to prove they can deliver on a high growth business concept. Our return on investment has been tied to the entrepreneur’s ability to produce the revenue and profit growth needed to create enterprise value. Our exit has always been seen as some multiple of the net profit which the venture can generate, whether this be immediate past or near future, captured in an IPO or trade sale – but always through the efforts of the venture itself.

What we have failed to do is to see two different paths to value creation, one from high growth potential itself and the other through the execution of that potential. In fact, we would have walked away from many deals where the product or service itself was capable of generating high growth but the entrepreneurial team was judged inadequate to execute on the potential. Without the team, there will be no proof of concept, therefore no value creation and thus no chance of a good exit.

However, high growth potential itself has value in its own right separate from high growth execution. Basically, we just need to go find someone else who can execute on the potential. In the case of most high growth potential products and services, this would be a strategic trade sale. We should position these ventures for a trade sale to a large corporation which had the capacity and capability to readily exploit the underlying asset or capability and thus execute on the potential. To prepare the venture for this type of exit might be as simple as sorting out the IP. In other cases, we would have to establish some reference sites and collect some market data. What we don’t have to do is grow a reasonable size enterprise. Rather than walk away from the venture investment, we should see it as a chance for the entrepreneur and the investors to capture value through an early strategic trade sale.

An entrepreneurial team capable of high growth execution is rare. All too often we have undertaken an investment based on high growth potential hoping the team will be able to learn quickly and, with our knowledge and support, overcome any deficiencies in their experience. Our track record of failures would suggest that this model is somewhat suboptimal. We end up with most ventures either failing or delivering small returns. It is only the exceptional ones which result in the 10+ multiple of capital injected.

The other problem we face is that high growth execution, by its very nature, often requires additional rounds of funding. This usually dilutes the original investment, often at lower valuations, but also puts the venture at risk through funding delays or inability to raise additional funds.

We should, in the future, embark on a two pronged approach to investment. Of course, we still want to focus on high growth potential. However, instead of excluding those where the entrepreneurial team is less able to execute, we should fast track those to a strategic exit which can usually be readily achieved by putting a deal team around the venture and limiting the funding to exit activities. Those few ventures which are capable of high growth execution can then be treated very differently and a full growth plan developed with an IPO or longer term trade sale as the exit.

The advantage of this approach is that we will end up funding more ventures with many of them being smaller investments with low execution risk and short exit horizons. Our success rate on high growth execution ventures will improve as we limit investment to those which have both high growth potential and the ability to execute on that potential.

I’ll admit to having a bias towards exits and focus my review of a potential investment on the exit potential.  I do sometimes get impatient when the investment proposal has little or no information on the exit path. Even where an exit strategy is proposed, the descriptions demonstrate either limited information about what it will take to structure the exit or look like a last minute addition to the plan to ensure that that box is ticked.

Without exception, the normal business plan is built on a revenue and growth model where the substantive part of the plan deals with how the venture will develop market traction, acquire and support a growing customer base, develop strategic partnerships and so on. However, such a model drives you either towards an IPO, a very high hurdle which very few will make, or a financial exit (an EBIT multiple) which has relatively high risk, long timescales and, on average, a low ROI.

What I look for is high growth potential which will support a strategic value exit. These only occur in a small percentage of ventures but they stand out because they have a unique set of attributes. They have a product or service which satisfies a high compelling need, focus on very well identified and reachable but large niche market, demonstrate good scalability and have a strong competitive advantage when fully deployed by a large corporation. However, when I see the strategic exit possibility, it is rare that the entrepreneur or their board members/advisers have even considered the possibility.

Most founders and entrepreneurs have limited knowledge of strategic exits and very few know how to construct a robust strategic exit strategy. What this means is that while you see the possibility, you are confronted with a lengthy conventional growth business plan which usually requires a significant investment to develop it into a solid business suitable for a financial exit. While the conventional plan may be interesting, the strategic exit path will normally generate a significantly higher ROI, has considerably shorter investment timescales and usually a much reduced investment requirement.

Now comes the hard part – how do you shift the focus of the entrepreneur the highly detailed plan for growing their baby to constructing an entirely different plan where the strategic exit may occur in months but usually less than 2 years. The focus will switch from building out the business to building strategic value. If the buyer has the distribution channel, organization and funds to fully exploit the strategic asset or capability, they may not need your sales force, customers, distribution channel or management. Your resources will focus instead on creating additional IP and scalability, making contact with potential buyers and building the deal team.

In my experience few Angels have been down this path because few have experience of putting together a strategic exit as part of the investment evaluation. The ones who have this experience have mixed opinions on how to move the entrepreneur from a financial exit to a strategic exit. Some prefer to allow the entrepreneur to present their business proposition and then, through discussion, shift their focus to a strategic exit. Others prefer to have the entrepreneur understand and evaluate the possibility of  a strategic exit before the first presentation.

My preference is to allow the entrepreneur to consider the possibility before the first presentation so they are more open to a major change in direction. I achieve this by sending them a link to the ebook Raising Angel & Venture Capital Finance.

I ask them to read the book and revise their proposition in light of the exit possibilities. Since the ebook covers both financial and strategic exits, this gives them the opportunity to consider both exit paths. It has the additional advantage of showing them that the investment decision will depend on the exit strategy. Those who then take the strategic exit path are much more open to major shift in focus. The higher exit values in strategic exits also makes the discussion of valuation easier as there is potentially much more harvest money to spread around.

What we do know is that the focus on exit informs the business development strategy. If we work back from the exit, we can establish a very specific set of actions and milestones to be achieved to correctly position the business for the identified buyers. Funding can then be directed towards specific activities to ensure investment funds are only used for exit critical expenditures.

An informed entrepreneur who understands the nature of Angel investment and the critical part which the exit plays in the process is much easier to work with. With strategic exits this is critical to ensure that entrepreneurs and the investors are aligned on strategy, the use of the funds and timescales.

Anyone interested in learning more about strategic value investment and strategic exits should read the ebook Invest to Exit also available free.

I have frequently been heard to say to an entrepreneurial team ‘Don’t grow!’ This is normally received with a chorus of exclamations and some strong objections. It is only as I set out how their value is created through strategic value rather than growth that they see the logic of putting their efforts into creating more strategic value rather than simply growing the business. In fact, further growth can sometimes decrease value.

Our traditional model of business value creation is all based on the ‘proof of business concept’ paradigm. That is, value is created through generating ever higher levels of revenue and net profit. Of course, this is certainly true for the vast majority of businesses but it is seriously sub-optimal for strategic value ventures. Increasing value in a strategic value venture is achieved by increasing the value to the strategic buyer not in generating higher profits in the business.

In a strategic sale, we create value by providing a product or service which the buyer can exploit, usually over a large customer base or extensive distribution channel. What we are doing is plugging our product or process into their business concept rather than developing our own. A global corporation hardly needs us to show them how to generate more customers or support products through a distribution channel. What they are looking for are ways to exploit the infrastructure they already have.

However, the strategic buyer needs proof that the product or process can be readily exploited through their business. This evidence may vary from situation to situation but can normally be expected to encompass things like evidence that the product or process works, the competitive advantages are strong and sustainable, scalability is able to be achieved, sales will be profitable and so on.

The strategic buyer’s due diligence will focus on whether they can rapidly scale up operations around your product or process not whether you have been able to do so. This being the case, your level or sales or profit may be quite irrelevant to their assessment.

Once you have a proven product or process and can show that a limited number of customers want it, use it and are satisfied with the price and performance, you may have sufficient evidence to prove demand. A large corporation will soon establish whether their existing and prospective customers will buy it in large numbers. At this point, you will create greater exit value by concentrating on aspects of scalability and making the integration into the buyer’s business easier.

My last business, Atlanta based Distinction Software, was sold to Peoplesoft for 6 times revenue. Peoplesoft was really only interested in the software modules. They had over 2 thousand customers at the time of acquisition, many of whom would be targets customers for our products. They were not interested in our customer base of 20, especially as most did not use Peoplesoft applications. They terminated all our distributor arrangements and made most of our administration and senior executive staff redundant. It was the scalability of the product suite in their hands which was attractive to them not our small customer base or distribution arrangements.

If the buyer has to unwind parts of the business, dispose of segments of the operations and terminate distributor and supplier arrangements, this can cost them money and time. Any distraction from moving the business forward to exploiting the underlying asset or process is at the cost of the vendor.

In setting up a strategic sale, we need to work backwards from the exit to ensure we are doing those things which contribute to higher strategic value. If we have additional funds or resources, these should be directed towards increasing our strategic value rather than generating higher levels of revenue and profits for ourselves, especially if this has little or negative impact on our exit value.

Part IV of a Continuing Series on How to Select an Angel Group

Several months before Jason Calcanis’ crusade (or jihad—depending on your political affiliation) against for-profit angel groups, I wrote a post about evaluating angel groups and the criteria to use when seeking investment. For those that didn’t see the earlier post, the list included:

1.    Do they charge fees
2.    Do they actually have capital and a track record of investing their own personal funds
3.    How transparent is their organization and investment process
4.    How do they say ‘no’
5.    Honesty and integrity
6.    Rolodex and connections
7.    Advice
8.    Are they respectful of entrepreneurs
9.    Do they help entrepreneurs, regardless of whether or not they invest
10.    Do they support the local entrepreneurial community

Although pitching fees—or pay to play—is a good litmus test for weeding out disreputable angel groups, you’ll also find that for-profit angel groups typically have a poor track record with these other criteria.

Most angel groups have money, and one group’s money isn’t any greener than another’s. Beyond cash, the other ways an angel group adds value to a startup is through great advice and personal connections.

One of the easiest ways to assess an angel investor’s ability to provide advice and connections is to read their bios on their website. High-caliber Angels with a lot of experience at both large and small companies, tend to have strong Rolodexes and skills that can be applied to helping portfolio companies. When reviewing their experience, consider both their work history and the companies they’ve backed as investors.

You can also judge the caliber of the group through your initial experiences, as many Angels provide worthwhile advice and introductions to their networks in the early stages and prior to investing. If you’re further along with an angel group, consider doing more diligence on the group and its members by contacting CEOs of their portfolio companies.

When it comes to connections, one of the most important when evaluating an angel group are links to VCs. Although many of our portfolio companies have told us the Angel round is the last tranche of money they’ll need (and they even say it with a straight face), most startups will invariably require follow-on funds.

A couple of years ago, William Quigley of Clearstone Venture Partners wrote an appropriate blog post, Value of Certain Angel Investors:

As a VC, I divide angel investors into two buckets.  The first group includes angel investors who know the space they are investing in. Perhaps they previously started a company in the same industry or were part of a successful company targeting the same market.  As it happens, angel investors in this category usually know the VCs who invest in their space and can be a great help in introducing a start up to smart venture capital investors. Better still, these angels typically know the going terms for a start up in their market. Accordingly, they can help the entrepreneur get the best deal warranted given the progress of the business.

The second bucket of angel investors are those who have some spare cash to invest but don’t have any familiarity with the target market. These investors are generally not known by VCs active in the specific market the start up is pursuing. In most cases, they can’t help with follow on fund raising. Because they don’t know what the going VC terms are, they often set terms for their investment that make it harder to raise money in the next round.

VCs can’t know everything about an industry. So how do they get comfortable with a new business? They rely on smart people who are accomplished and well connected in that industry. If someone of that caliber happens to already be an angel in your business, raising venture capital just got a lot easier.

Given that Clearstone has invested in one of our portfolio companies—LeisureLink—that’s managed by two of our members, it’s a pretty good bet that the Pasadena Angels fall into the first bucket.

In the current environment, CEOs and entrepreneurs don’t always have a choice when it comes to selecting their investors. However, when you do, it’s important to pick an angel group that can deliver the intangibles, such as advice and network, along with the cash.

Far too many of my angel colleagues are fixated on patents as the source of sustainable competitive advantage. While these are often the source of competitive barriers they are by no means the only effective method for generating high growth. In fact, there are many situations where the patent itself provides little growth momentum.

We need to see a potential investment in a business in more holistic terms and especially we need to focus on the way in which the business interacts in the marketplace with its customers and competitors. If you want to drive high growth then you first need a combination of a well defined large niche market, a robust channel to market and a product or service which satisfies a compelling need. The next critical component is to have something which give you a strong competitive advantage. It is this combination which drives high growth. A patent alone, which provides some level of competitive advantage is somewhat meaningless without the other attributes.

Competitive advantage is anything that gives you an advantage against others attempting to satisfy the same need. But there are many points along the supply chain where you can gain such an advantage. You can control the point of purchase by ensuring yours is the only product offered. You might have an exclusive right to a geographical region for the only product which satisfies the need. If there is a unique component, ingredient or area of knowledge required to produce the solution, you might own or control the supply. Your objective is to own the customer solution and there are many ways in which that can be achieved of which patents are only one of many possibilities.

There are of course a number of more obvious barriers to entry including brands, copyright, licenses and patents. But being able to take advantage of significant economies of scale or learning curve effects might give you a cost advantage.

Patents are useful because they are an obvious source of competitive protection, but in themselves really don’t drive growth potential. If we focus too much on the patent element, we are in danger of missing the real growth drivers which are resident in the problem being solved and access to willing and easily addressable customers.

Given that most of the Angel exits are via a trade sale, our focus on competitive advantage and growth potential should be from the viewpoint of the buyer not the venture itself. It is the ability of the buyer to take advantage of the competitive advantage position which results in the higher exit values. This is especially relevant where the venture itself is not able to fully exploit the advantage. For example, a weak open market competitive position may change dramatically for an acquirer which can position the acquired product alongside a strong complementary product or inside a product portfolio. Similarly, a product which can be sold directly into an existing customer base may be very attractive to an acquirer even if it not the best stand alone product in the market.

In evaluating a venture, especially for a strategic value exit, we need to take a broad view of competitive advantage and look at the revenue possibilities of the acquisition from the buyer’s perspective given the buyer’s ability to exploit the underlying potential. In this regard, the ability of the buyer to rapidly deploy and scale the acquired asset or capability is of much more importance than the strength of any underlying patents.

When we’re evaluating a possible investment, it is easy to neglect how the strategic value premium will be determined and how this impacts on what we can expect as an exit value. Our initial focus is generally on target need, customer and competitive advantage but while these protect the business they don’t guarantee high growth rates. It is high growth rates in the hands of the buyer which will determine how large the strategic premium will be.

I recently evaluated a software company which ticked all the normal boxes. It satisfied a critical need, targeted a very addressable corporate market, had a proven integrated solution with considerable deep expertise in its functionality and a proven management team. No question that the business would be successful and they would capture a reasonable market share. However, the key to a high strategic value premium is in the ability for the buyer to rapidly scale the solution in the first two years after the acquisition.

I put myself into the shoes of the buyer and asked the question ‘how rapidly could I deploy the solution?’ Even if the acquirer had access to the prospective customers and the funds to ramp up the marketing, sales and support effort, I could not see how they could scale rapidly.

The problem in endemic to a lot of application software ventures. A highly technical solution requires the business to recruit and train very specialized sales staff, pre-sales consultants and implementation staff. This alone tends to inhibit growth rates. In this case, the solution was also customized which would slow down the sales and  implementation processes. Sales cycles in high value integrated applications are slow because of the evaluation and approval cycles and there is little the vendor can do to speed up the process.  At best, I could see the acquirer doubling the business each year in the first two years after the sale but it would be a stretch to grow faster. If that is the case, the strategic premium would be relatively low.

If the growth rate is limited by the length of the sales cycles and the rate of adoption, the business will increase in value slowly. Thus, it will take many years for an investment to achieve 5 times investment on exit. If the growth rate is constrained in the hands of the acquirer for similar reasons, the value to the buyer is not much greater than if the business were sold as a financial exit. The key to any strategic exit is that the buyer can rapidly exploit the business through their own organization. If that is not possible or is limited, the strategic premium will be small.

An outstanding strategic value investment demonstrates the capability of very rapid deployment within a short period after the sale. Not only do you want the compelling need, the highly targeted niche market and the strong competitive advantage but you want short sales cycles and very low marginal cost of sales. Standard products which can be sold through the internet or easily installed or distributed via high volume channels are what you look for.

I prefer to seek out investments where the acquirer can scale the business 20, 50 or 100 times after the sale. If the strategic premium is generated from revenue in the first two years after the sale, it is the rate of growth in this period which is critical to a high strategic value premium.

With any exit, we need to focus on what the buyer will do with the product or service being acquired. Just because something has a market leadership position does not of itself mean that it will generate a high strategic premium on exit.

Seeing last week’s Venture Capital Dispatch in the online Wall Street Journal, When Venture Capitalists Let One Slip Away, reminded me of Jim Armstrong’s (Clearstone Venture Partners) comment last year about false negatives. “You can afford to have a false positive; you can afford to invest in things and fail, but because the big ones are so rare, you cannot afford a false negative. You cannot afford to be looking the wrong way.”

Some VCs, like Bessemer and their Anti-Portfolio, list their best false negatives on their website. As Bessemer puts it, “Whatever the reason, we would like to honor these companies, whose phenomenal success inspires us in our ongoing endeavors to build growing businesses. Or, to put it another way: if we had invested in any of these companies, we might not still be working.”

If you think VCs and Angels have had some of the biggest investment oversights, here are some of the bigger and more amusing ones from outside the VC community:

“We don’t like their sound. Groups of guitars are on the way out…You really should stick to selling records in Liverpool. Electric guitars are now old hat. (Mike Smith, Decca A&R manager, turning down the Beatles in 1962)

“There is no reason anyone would want a computer in their home.” (Ken Olson, president of Digital Equipment Corp. in 1977)

“You ain’t goin’ nowhere son. You ought to go back to drivin’ a truck” (Jim Denny, manager of the Grand Ole Opry when he fired Elvis in 1954)

“You’d better learn secreatarial work or else get married” (Emmiline Snively, director of Blue Book Modeling Agency to Marilyn Monroe in 1955

“Rembrandt is not to be compared in the painting of character with our extraordinarily gifted English artist Mr. Rippingille.” (John Hunt, 19th-century art critic, on Rembrandt)

“You’ll sink, not like a lead balloon, but even faster, like a lead zeppelin.” (Keith Moon, drummer of the Who, when Led Zeppelin was forming)

“(His) compositions are deprived of beauty, of harmony, and of clarity of melody.” (German music critic in1737 about Johann Sebastian Bach)

“Far too noisy, my dear Mozart. Far too many notes.” (Emperor Ferdinand of Austria after a performance of Mozart’s Marriage of Figaro in 1786

These examples should give you a pretty good idea why Angels and VCs don’t typically invest in music, movies or other forms of content.