“The easiest way to become a millionaire is to start off a billionaire and go into the airline business.”

– Richard Branson

Summary: Every investor uses social proof to filter dealflow; Ron Conway has a fund that uses social proof as the sole investment criterion. Angels should almost do more homework than a professional VC would—VCs invest other people’s money while angels invest their own. We should all be thankful that we live in a world in which VCs exist. Finally, the accelerating returns on innovation means that all of the value in the public markets will be shrunk and put in the hands of startups.

I’m not an investor. And maybe that’s a good thing. Because it means I don’t have an investment philosophy.

Naval has a personal investment philosophy that he uses for his own investments—it’s focused and it has nothing to do with social proof. But there is no AngelList investment philosophy. The site helps startups and investors connect and the rest is up to them.

On Social Proof

Almost every investor uses social proof to filter dealflow. They just call it a “personal intro” or a “referral”. In fact, it’s usually the first filter they apply.

If social proof is a good filter, is it also a good investment strategy? Can I make my entire investment decision based solely on social proof? Will I make money if I invest in a company just because Warren Buffet invested in it, as long as I get the same price as him?

As in all investment matters, the answer is “who knows”. When I share a startup on AngelList, I consider the company’s traction, product, team, and social proof—in that order. If you do a great job with an early item on that list, it doesn’t really matter how bad the later items look.

But some interesting people are pursuing the social proof strategy. Yuri Milner, Ron Conway, and David Lee created Start Fund to “blindly” invest in every Y Combinator startup. And several VC funds are set up to provide follow-on capital to startups backed by Sequoia, Benchmark, Khosla, and other tippity-top-tier venture funds.

On Angels

If you’re going to invest your own money in private companies, as an angel or otherwise, get educated. Read Mark Suster‘s series on angel investing. Listen to our (old and somewhat out of date) podcast on the topic.

Angels should almost do more homework than a professional VC would—VCs invest other people’s money but angels invest their own!

And don’t invest in a startup if you can’t lose all that money tomorrow, with a smile on your face. Frankly, I wouldn’t invest in anything if it didn’t meet that criterion (except money markets and very broad, low-fee index funds).

On VCs

We’ve gotten about half a dozen Series A’s and B’s funded on AngelList, and we have 400 happy VCs on the site. I think Marc Andreessen put it best, well before he became a VC:

“Why we should be thankful that we live in a world in which VCs exist, even if they yell at us during board meetings, assuming they’ll fund our companies at all:

“Imagine living in a world in which professional venture capital didn’t exist.

“There’s no question that fewer new high-potential companies would be funded, fewer new technologies would be brought to market, and fewer medical cures would be invented.”

On Startups

Startup valuations are up. That’s because capital is flowing into the system and, therefore, there is more demand. That’s a cyclical trend: the amount of available capital will go up and down and so will valuations.

But there are some secular trends that are driving up valuations.

First, many investors believe that the vast majority of returns come from a few new companies every year and, therefore, those companies attract a disproportionate amount of investor interest.

Second, startups are getting better at creating a market for their shares and unbundling capital, control, and advice. This is where AngelList can help.

Third, startups have become a (bit of a) science. Entrepreneurs are much smarter about the art of building companies than they were even five years ago.

Fourth, the accelerating returns on innovation means that all of the value in the public markets will be shrunk and put in the hands of startups. The NYSE alone has $14 trillion of value. NASDAQ has almost a trillion dollars of volume every day. Today’s startups are the heirs to that value.

Of course, today’s startups will be disrupted by more startups. And on and on, with shorter and shorter time cycles. But I don’t think big companies will hold onto this value. The principal-agent problem is too pervasive, among many other reasons that big companies are considered “dumb”.

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Topics AngelList · VC Industry

9 comments · Show

  • Pavan

    It’s interesting that Yuri Milner, Ron Conway, and David Lee blindly invested in every Y Combinator startup. That just made Y Combinator harder to get into, more competitive and more attractive for start up entrepreneurs to apply to. I wonder how many more start up applications Y Combinator received after news of what Yuri Milner, Ron Conway, and David Lee did.

  • Sal

    By social proof do you mean the social proof of having other people interested in investing? Or a substantial number of people using the website?
    I would think the latter is more important than the former, but what do i know!

  • Marshall Yount

    Great discussion on social proof and Angel List.

    You lost me late in the post with this comment:

    > But there are some secular trends that are driving up valuations irreversibly.

    “Irreversibly” sounds a bit like bubble talk (“real estate in California NEVER goes down”). I think your supporting arguments are partially correct, but have some weak spots.

    1. VCs will continue chasing hot deals like Facebook, Twitter, et al at “ridiculous” valuations as long as it continues to look like a good game. “The trend is your friend … until it isn’t.” I expect this trend to be dampened the first time someone takes a bath on SecondMarket shares. (General Atlantic, I’m looking at you)

    2. “Startups are better at creating a market for their shares.” Agree whole heartedly on this point.

    3. “Startups have become a bit of a science.” I agree there have been significant gains here. It will be interesting to see if this conclusion holds when cyclical funding inevitably weakens and the game of musical chairs starts. I suspect that many smart companies who have “figured it out” will still get caught up in the carnage.

    4. I’m not sure that I follow this point. Maybe you could elaborate in a future blog post?

  • Adrian Meli

    Thoughtful post, I had not thought of investments in the context of social proof but it makes a lot of sense to frame things that way. It seems like it makes more sense in the VC world than in the public equities world per your reference to Buffett. In VC investing, you have no liquidity anyway and the VC firm actually impacts the investment outcome and is a big sway factor. If you blindly followed public equity investors, you would not know until 3-4 months later if they had sold it or not based on new information or had purchased more. Buffett is obviously easier to follow than other investors because he effectively almost never sells but you would miss a lot of the return if a stock dropped and you would not know whether he bought more, etc. Anyway, it seems following smart VC firms is much more of a no-brainer than following people investing in other asset classes. – Adrian Meli

  • Eric Ingram

    Nivi,

    You mentioned “startups are getting better at creating a market for their shares and unbundling capital, control, and advice” —

    I’d love to hear what you think about the Sponsorship funding model, and perhaps you can comment on the VentureHacks sponsorship by Kauffman.

    It would seem the model does not fit in all or many startup categories, but in our category yes. I likened it to having a Nascar team sponsored by Tide.

    Thanks for the good advice — Eric

  • Satish

    Regarding social proof, what would be an interesting statistic to understand is how many deals that have been funded via angel list has had a lead investor come out of angel list.

    I’m wondering if this phenomenon of over valuations is being driven by a social proof mentality, where investments are made just because there’s already a lead investor. It’s easier for an individual to invest 25k in 40 startups rather than take the lead and write a 750k check on one, and more easier when Ron Conway or sequoia is involved.

    I am not sure if I agree a mere referral is social proof. I’m sure a lot more investors respond when the introductory email says “x has already invested” rather than when the email says “looking for their first investor”, as has been exemplified by some of the other posts here.

    All that said, I think angel list is great, and I hope to be able to reap the benefits it can provide me in this up cycle (hopefully in the near future!) given that it hugely simplifies the process!

  • Chris Hobbs

    Angel investing is generally a really fun way to lose money–like a vineyard. Investing based on social proof is one of the reasons that happens.

    Institutional VCs (even the micro-VCs) don’t do a lot of diligence on their deals–they don’t have the time. Instead they bet on teams and ideas, and double (or triple) down into the winners. If you don’t have the cash to do that, don’t play that game.

    Where angels can win is when they stick to what they know. Most angels cames about their money because they were good at something–focus on your strengths in selecting portfolio companies. Most VCs are not smarter than you–they just have more discipline, more money, and more deals. AngelList evens the playing field somewhat for deal access–but money and discipline are still your problem.

  • Bruce

    It’s great to be an investor while owning a major, world renown newspaper that can feature the domain to help it get traction. Newspapers are now fronts to startups as newspapers themselves are falling. If you don’t market the site, you are dead in the water. The dot com bubble was all about marketing. AOL got 1/2 the investment money of most startups in exchange for marketing that proved hardly effective. Yet AOL got enough money to buy Time. The dot com bubble was not about running a successful tech company as much as it was a business of making money off of money. When businesses couldn’t make any money the cards fell. Start-ups are like fodder to gain investment money, where the real money is made. Now where can my 20 million subscribers buy a digital camera for cheap!

  • Brandon Giam

    Nivi, Naval…just caught you on TWI Venture Cap, and there was a mentioned about foreign entrepreneurs submitting for AngelList, and Naval said “it would be more difficult or more challenging for a foregin entrepreneur”. My question is, is this because of geographical barriers? What if the team is willing to move to where the investor is located? How can a foreigner make raising money on AngelList possible?.

    Much respect for you both. Much thanks.