Angel Investors: What are they looking for in a bitcoin startup?

Thursday 30 January 2014

The phrase of 2013 was, “2014 will be the year of bitcoin” and with that in mind, it looks as if there could be a lot in store for digital currency over the coming 12 months.

2013 saw huge investments being ploughed into bitcoin ventures, one of the most notable being Andreessen Horrowitz’s $25 million investment into bitcoin wallet and merchant service provider, Coinbase. Coinbase attracted just over $600,000 in its initial seed funding and in total went on to receive $31 million in venture capital last year, $5 million of which came during its Series A funding round led by Union Square Ventures, at the time, the largest funding round for a bitcoin startup.

Jeremy Allaire’s Circle Internet Financial then surpassed it with $9 million worth of Series A funding and BitPay have so far raised almost $5 million in angel and venture capital funding after it was initially bootstrapped internally.

So what is it about bitcoin that makes a new bitcoin-related venture so appealing to investors? According to angel investor, Roger Ver, founder of Bitcoinstore.com and an investor in BitPay, “Bitcoin is going to transform the entire world's society by separating money and state.”

Angel investor, Konstantin Shpilevoy, CEO of investment and mining hardware firm Zero Limits Corp. is attracted by the prospect of his investment not losing value. “Bitcoin is the future of money and it will never become worthless,” he says.

For investor and entrepreneur, Trace Mayer, the improved security of the bitcoin network is also a major factor since the new ASICS mining software has come on line. “The hash rate exploded,” he says. “You take the 500 largest super computers combined, it’s less than 1/256 of the [bitcoin] network processing power.” He believes an attack such as from a combined super computer from the world’s governments “is no longer a risk.”

Mayer adds, “Accompanied with that is the FinCen guidance and the US Senate hearings, which I think have thawed the general public policy view towards bitcoin and that’s leading to a lot more capital coming in because they realise bitcoin is here and it’s here to stay.”

Building a business around bitcoin will clearly spark some interest but where do you begin and with so many startups springing up in the digital currency space, how do you stand above the rest and convince the folks with the money, that you are a sure bet?

First, let us make sure we know the difference between the angels and the venture capitalists (VCs). The primary difference being who the money belongs to. An angel investor is an individual, risking his or her own money in what they see as a potentially successful opportunity. Venture Capitalists belong to a company using other people’s money to buy equity in a business. Both are looking for a good return; the VCs will usually offer more but will also want more in return such as a higher percentage of equity and a seat on the board. Angel investors tend to offer less and tend to be more interested in those early stage startups that require initial, or seed funding.

Following the San Jose bitcoin conference in 2013, the first consortium of bitcoin angel investors was established in the form of BitAngels. By September of that year, they had over 240 members all offering various degrees of expertise, contacts, and of course, financial capital. With angels all over the world from Tokyo to Tel Aviv, London to Los Angeles, they are the world’s first distributed entrepreneur and investor group also reflecting the decentralised nature of bitcoin.

According to Executive Director, David Johnston, in an interview here, they will also look for businesses that follow the bitcoin model. “Startups that are based on open source, transparency, decentralization, that have a flat organization and are employee-owned are the perfect candidates for support from BitAngels,” he said.

For Ver, when looking at potential startups he says “It needs to make Bitcoin more useful for the masses.”

Mayer says it is more to do with “scratching his own itch.”

“If I’ve got a market need, those are the companies I want to invest in,” he told BitScan, citing BitPay and Armory, two companies he has supported, as prime examples. “I want to spend my bitcoins and [BitPay] help people spend their bitcoins. Armory, they help people store and secure their bitcoins, I like to know my bitcoins are safe and secure.” 

“Whenever somebody’s got a particular market need, assess the market place, see if there’s anybody that’s doing that and that’s where we’ve got opportunity.”

Shpilevoy agrees that market awareness is important. “Projects should use an innovative approach to meet a unique market demand, created by the end customers,” he says.

But even if your business is unique and there is demand for it, if the business model isn’t strong, you are unlikely to attract the sums you need. “An innovative idea behind the project and return on investment are primary factors,” states Shpilevoy.

Mayer echoes this point, saying, “I’m going to go where the money’s at. Like a lot of entrepreneurs, I’m always assessing the market, seeing where the risks and opportunities are, the weaknesses, what’s not being filled, where the arbitrage is, where people can provide services…”

One of the newer bitcoin-related startups, San Francisco based, Venture Scanner, established with the aim of helping entrepreneurs, investors, and corporations make sense of startup ecosystems. They too were incubated, by investment firm, Net Service Ventures, and work with startups to understand their business model and financing needs, while introducing investors to those startups and helping them to navigate the bitcoin startup space.

“The biggest categories of BTC-related companies receiving investments so far are exchanges and those players offering payment solutions,” says Nathan Pacer of Venture Scanner.

“These companies are the ones that have a clearly defined revenue model – taking fees off of transactions – whereas the other categories are still exploring monetization strategies.”

Payment platforms might have been the story of 2013, but looking ahead to this year, Venture Scanner sees the push will be towards institutional investors entering the space and trying to buy, sell, and hedge bitcoins. “We feel that startups that support these institutional investors – potentially through a rigorous or fast trading platform, the offering of derivative products such as futures, or APIs focused on large investor needs – will attract a lot of attention from angels and VCs,” says Pacer.

Mayer sees 2014 as a year of multi-signature implementations, “using multi-signature to automate dispute resolution, to make that much more efficient,” he tells us.

Innovation, usefulness, market awareness and potential for a good return are key factors but the value of human capital cannot be underestimated either. We are not just talking the skills a business owner brings to the table but the rapport with the investor concerned. If an angel investor likes you and the way you work, there is more chance he will support you and your project. Mayer says this was one of the reasons he was attracted to BitPay. “I really liked Stephen [Pair] and Tony [Gallippi]. I’d been watching them for a while. Back then there weren’t many people doing anything and they were doing something…”

A couple of years a go “just doing something” might have been enough, but with bitcoin gaining increasing attention and the ecosystem constantly growing, companies will need to look much more carefully at the architecture required to get the support they are after.

Bootstrapping as far as possible might be the way to go and Mayer sees this as a growing trend. “You can create something out of thin air by typing in developer’s code. You don’t need a VC’s money anymore,” he says. “I think there’s going to stay a lot of grass roots and bootstrapping to get things off the ground and that’s where you’re going to retain all your equity.”

 

By Louise Goss


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