Angel Funding vs. Venture Capital vs. Private Equity Simply Explained

I think we should distinguish what is Venture Capital what is PE what is the Angel fund I keep joking the only person you're responsible when you're Angel Investing is your spouse right so there's no institutional responsibility it's your money mhm when I was doing research around starting Bloom the US had 300,000 registered Angels so I feel like 95% of them are like um part-time past time mhm so they have made money as entrepreneurs or whatever it may be or as professionals and they like to help out someone so it could be the colleagues friends children whoever and that's also Angel Investing um then they join networks they put a little bit about 5% of them become sort of professional Angels they actually think they can make money off this what is the Quantum which you would say is Angel like if I'm investing 10 lakh Rupees in a company it's sadly in India now people are raising 1 lakh through through various mechanisms I find it super dangerous so what is the upper limit of Angel I've seen people would one two crows one to two Crow yeah so let's say that is the peak that we would categorize as Angel Investing from 0er to one to two Crow I the characteristic of the person putting the money is more important mhm when we started Angel groups used to take 5 lakhs 10 lakhs now it's got so democratized that people are actually hunting tier three cities and getting one two lakhs in a Syndicate of 2 three CR it's good and bad you're diversifying somebody's Capital at that stage but I don't know what I don't think they know what the hell they're investing in so I have many friends who do a lot of Angel Investing like hundreds of companies tiny check sizes would we all say that the odds of making a return net net is least in Angel Investing you said easiest least least no not at all hardest I think 90% do pretty badly M uh from what I remember the the US stats back then 90% of Angel Investors lose money not lose maybe but the returns will be pathetic but isn't that the is isn't that a factor of the deal flow as in absolutely but I don't think we can get specific here if you were to add all the angels and all the deals I'm talking about reasons are that but I mean if they really don't know what they're getting into and they it's adverse election mhm today they'll come to Prashant Rajan and me if they're really that good and pick up a million dollars that's your best on why would you touch Angel money or why would she touch Angel money so I'm not talking about those one two exceptional Angels who have a distribution Network by virtual of Fame I'm talking about anybody investing one one lakh up to one 12 crores I'm adding all the deals they've done together no that's what the thing is I think as an angel investor the best odds is to invest some some in something where your value is not the money because if it's only money they'll go to VCS and raise but he's talking about a professional engine but you're talking about exception to the rule not 95% will be mediocre returns yeah 5% will do well of which I think 5% are legendary correct I mean I would even go further to say if your objective is to make returns yeah you should not be an angel investor yeah my perspective in all of this is to talk about making a return this is not about learning about the ecosystem you know we all do that like sometimes we play a certain game and lose a little bit of money and then we say it's learn about each other team building all of that right this is not one of those things yeah so I think if if your if your objective is to make returns being an angel investor unless you really know what you're doing and you're deeply networked and you you can add tremendous value is not a good idea but I'll qualify it right so because I don't want to make it look like Angel Investing in general see if you have a sectoral experience right uh let's say you are from the FMC F industry you understand retail very well you understand how Brands work very well you've been in uh H for 15 20 years right I think you will so so so I think it depends on who the angel is I'm not saying I'm not saying that if I am suchin Tendulkar and I know I'm suchin I should be playing cricket and I would do very well I'm saying if the city has 100 people in as the population of the city if all 100 play cricket what are the what are the odds of them doing well if you want to Angel invest right and you want to do it for returns as opposed to giving back or you just want to get to know entrepreneurs then I think to pant's point you should really figure out how will you add value right so in the in the in this in the case that you mentioned you know you you should be investing in consumer Brands where you can add a lot of value over time your reputation builds are you adding value to to the founder to the founder because he gets early early uh like like access and and a Kickstart which otherwise for him is I mean he he doesn't want to go to a institution fund like us day one right in many Cas like when we invest in in seed stage right we're always looking for a few Angels who can add value to our companies in fact last week we just invested in a consumer brand MH uh and we were looking for one or two angels who have experience in that sector who could you know are not conflicted who can add value so we will get two or three angels and so that is where you want to be right where you're those you know whatever I agree when when it comes to adding value I agree but blind Capital blind are least when the investment size is between 1 lakh to 1 CR kind of but that said they're very important for the ecosystem 100% they will take risk where institutions can't step in yet M somebody has to support these friends and family money runs out first round is friend family fools but basically that runs out and it's even smaller in Quantum mhm so if you want crazy risks somebody has to take those risks and sometimes Angels step in so how how big is the Indian Angel Market 6,000 of them 6,000 6,000 active Angel Investors I've heard even more now right I've heard some shockingly large numers more like 25,000 25,000 and us you said is 300,000 15 years ago 15 years ago looking at 2008 date long yeah and and in the US do you have have to be like an accredited investor to be to Angel invest here you don't two lakh is the Angel fund route think you need to minimum invest two lakhs but you can get even a guy with 10,000 rupees on the cap table I think right there is no such restriction there's no restriction no okay next venture capital yeah so Angel Investors you're investing your own Capital mhm in a very very early stage company usually you're just starting up you pre-launch whatever right venture capital is basically institutional Capital where these are organized fund managers in a firm so let's say P 15 or Exel or Bloom where you raise capital from others about what number would you start considering yourself a venture capital firm so I would say a growth fund would invest maybe up to 50 million so from a few crores per investment up to 50 million so fund size saying 50 million no no no I'm talking about per investment no I'm talking fund size no so fund sizes can vary from $20 million to I mean our last set of funds were 2.85 billion 20 million is the bottom level for million India what is it so I think in in India now micro VCS are as small as 5 to 10 okay but that's because the first time manager is Raising from individuals not from institutions so is actually raising a mega Angel round mhm and calling it a fund and is that through a cat one or two aif that's correct cat one cat one a 100 CR like you have a lot of micr funds that start at 100 CR before we go into this a little bit deeper what is the aif what is cat one cat 2 cat 3 who can take that like very quickly the government didn't know how to regulate all of this so in ' 96 they started something called domestic Venture Capital fund regulations everybody was classified under that whether you were private Equity Real Estate or venture capital and they realized that that was a crappy way to deal with the complexity of these many asset classes because now you're asking us to break it down the government hadn't figured that they need it to be broken down so 2012 they revised it and called these regulations aif regulations alternative investment fund regulations so basically now they can regulate us basis what kind of risk we take so cat one cannot invest in certain Securities like debt Etc public markets Cat 2 can and Cat 3 is only public markets so who is typically uh which capital is cat one and two private Equity is cat two how do they decide between one and two basis what securities you can buy so if you if you're only doing Equity investing MH and you don't touch private Equity investing and you do not touch uh the the public markets and debt Securities then you have you can be a cat one back to venture capital yeah so venture capital is so think of it as this is institutional Capital so it's organized teams it's not an individuals Capital so it could be as low as 5 to 10 million small F small fund could be 100 crores MH um you know large funds could be 25,000 cres 30,000 cres 50,000 crores uh in the US the large funds are I mean you know the largest fund Ever Raised was a vision fund which is100 billion from soft bank right uh although that was probably a hybrid Venture plus growth you know pseudo private Equity so the way simplest way to think about it is you know venture capital is organized institutional Capital that helps you get off the ground so it could be the for now individual company could be the two to three crores that you need to get your company off the ground to funding your next round so there's different stages seed we can get back to that seed series a series Bas you see up through a company that gets to a level of profitability and then either you know there's a mixed term will be interchanged between growth capital and private Equity we'll take on from there but private Equity really then is once you a it's established mature company so you're generating profit but venture capital in itself can you give us some examples of five most popular ones in India so I mean you know companies there are probably 10 15 very well established firms so Bloom uh companies that are sort of domestic a yeah yeah we're all we all venture so Axel Peak 15 light speed Nexus elevation Bloom Chate uh Kari Matrix Matrix and would you like to say a little bit about the fee structure in venture capital and the life cycle of venture capital of a typical so most most Venture Capital firms are 10 years with a 2-year extension seven or 10 10 I mean seven I think no point going below 10 it's very hard because you know that's why right because you're funding companies before they launch most cases they have a 2 threee extension option so think about a 10 plus you have an extension period where you can extend the fund uh the fees usually are 2% of the funds that you raise are used annually for management fees that's what you use to pay your teams and so on and so forth and there's a term called carry which is the percentage of the gains that the fund managers get to keep and that's 20% you this is that on closure or is that like that's on distribution MH so basically you have to exit a company right so the way you can exit a company there three ways you can exit you can take a company public MH you can sell to a strategic right so let's say Google comes and buys one of your companies or a a later stage fund can buy out your stake so those are the three ways you can exit uh a position and and would we largely say that venture has returned a better return than angel in the last decade I don't think we have data in India to show that but it's it's fair toolate it's fair to assum it's fair to assum when you said on distribution you get a carry what what happens if you're you know you you invested in 10 companies you're sitting on nine you don't know what the value is and on one you had like a multibagger now you're Distributing the profits of this can you take 20% of the profits it's classic what's called European waterfall American waterfall right so you don't get deal by deal it's very rare that happens in very exclusive funds which are doing large private Equity single transaction deals where you can actually take carry by the deal mhm here you are not entitled to anything until you returned not just the capital that you invested in totality but also the fees you consumed during that 10-year period you return that too so basically you take 100 bucks you only get to invest about 80 the other 20 is going in all sorts of expenses got it so you first return the 100 and then there's usually a threshold irr rate which is compounding from day one that for a fund like us emerging manager we have asked to give 8 to 10% as a threshold right we can catch up after that what mean what it means is I'm not denied my share share of those profits but I have to first pay back that much to the investors so 10 years down I've returned 180 bucks I've not seen a rupee of carry ah interesting right so to get 180 bucks off that 100 even if my top three companies get there it's probably taking 10 years and even after that I'll probably left be left with two three stars and I still haven't seen a single rupe of carry it takes that long so the incentives are aligned to kick your backside really hard to work really hard to get to that point before you can actually see any money got it now the second question you know you had said Dry powder earlier right as in the term was this is the term that's used ear the now there's this whole debate running right as how much of this dry powder do you have access to I mean how much is the money that's lying with you and how much is that you can call for so if seoa I mean or Peak 15 you have $2 billion of dry powder is that $2 billion sitting with with Peak 15 no it's Comm it's committed and you call for it you don't want to you don't want to call it all and then invest over many years because it impacts your IR the IR counter starts the minute the money is your oh so you okay so you never touch that money right it has better stays there right but what if the person backs up so Nathan the institutional investors once they commit they don't reputationally they have even to protect than we do another interesting question how What proportion of your limited partners where venture capital is getting their money from are institutions and what portion are family offices and stuff like that see in our case it's like uh 90% is institutions mostly our ours is 100 we don't have any family office we don't have any hni we don't have any Corp I would say 50 why is that different because you're raising money from India and they're bringing from outside they're still not considered good enough for all those so let's say with scale Venture becomes more of an Institutional inal yeah you raise you can't raise that kind of capital from small investors that said I remember having a chat with tiger as late as 20145 and they would still reserve a little for people who backed them in 1991 no they all have a small small they say you're a loyal investor I'll give you the right to keep invest sense the fund cycle is 10 to 12 years but but most term sheets are typically five to S years isn't it seven years from an exit requirement yeah but nobody you don't exercise that but you you will have some Powers right there is a there is a opportunity to exercise but but we don't because keep in mind you know this business is a power law business but that means you know it's that few companies that really return and we all know that you know it takes now some companies will right like growth stage investors right so if you're let's say investing 50 million so at Peak 15 we have three teams we have a seed team surge team Venture team and a growth team so the growth team can so you invest 30 40 million in a late Stage Company 2 three years later the company goes public So within 5 years you could you could you could I think the two elements I think this entrepreneurs misunderstand VCS intent is we'll never make money if you don't make money MH okay so incentives are aligned it's not like I can make the money run out with the money and you stuck there right broadly there is incentives to be aligned with you so nobody will kill a Golden Goose on a basis of a term that's written there however you don't want to misalign incentives and say oh you have 10 years because invariably entrepreneur is such a tough Journey that if I say you have 10 you'll take 15 right that's point one point two is you're underestimating the fact that my checks are written all the way from day Zer to year five so I'm writing follow on checks I'm writing fresh checks on the last day of year three right and my term life is fixed so I have to apply the same principle everywhere right so the last check just because he's the last check in the fund I can't say screw you I'm going to give you seven years whereas because you were the day one guy I'll give you 10 so you establish a set of standards that work broadly amongst all of us and so Axel doesn't have a separate set of terms than I do and vice versa and it doesn't matter whether I'm the first year of the fund or the third year of the and that clock sometimes get reset okay on the basis of a new round new rounds so it's really and these are typically close-ended right Venture Capital funds almost always okay uh would you like take it none of us are P here but uh uh you know just to take off from where Rajan was talking about I think what late stage Venture and and P I think there are a lot of similarities between these two but P funds are exclusively raised as P funds right so and uh typically what does p stand for private equity and by the way from a classification perspective sometimes it's confusing because this entire class is called P private Equity private in a spectrum of risk for scale is there a differentiation in scale between VC andp I think it's it's less about scale I think it's about time to exit uhhuh they like to come in closer to when there is visibility to an IPO event two three years or an exit event two three years I think their Horizons and their Windows of how long they want to hold is very different the very different meaning significantly shorter than VC shorter much much because they're coming in in a later they're coming in later their expectation on the maturity of the model and this product Market fit that he was talking about is much more night and day yeah yeah so so they really expect so you're saying P are more conservative historically than VCS correct CU they also deploy more invest more Capital so we had this number that VC AUM in India is 60 70 billion of which 90% is foreign and 10% is domestic the p number is about 200 billion in which 85% is foreign and 15% is domestic if you had to extrapolate and give a rate of return that P achieved versus VC achieved who has done better in the last decade I think the P industry has been around for slightly longer I think is that another way of saying they did better uh I think they because they've also been in multiple sectors which are not tech only top top quar there might be some outstanding funds out there which have probably better in terms of cash returns net net cash returns they're ahead of us they're ahead yeah in cash returns no it's it's also I mean from a vintage perspective they have just been in the ecosystem longer they've had ups and downs po 2008 they were a terrible asset class uh and then in the last decade where we have been growing but not returning cash because the exits haven't come a lot of people say that P has done most consistent they've been more consistent okay source of capital you said for VCS it is 90 % institution generally 90 or higher you're different because you're more domestic in nature uh where does peas Source mour are pretty similar I mean about the same institution yeah some domestic pees are over indexed on Indian family offices Etc yeah but yeah few but it's a little like the Venture space but if you go to a person who raises predominantly overseas it'll be entirely institutional because the check size are even bigger popular peas five which Indians have heard of um they would be uh I would say no forget the overseas ones even in India I think we have multi kedara chis Capital Chris have done exceptionally well and then there a lot of global names like them KKR wber I think we got a clear understanding of the difference between Angel VC and P hi I'm nikil Kut I'd love to know what you thought of the episode uh comment like And subscribe and thank you for watching

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Length: 21min 1sec (1261 seconds)

Published: Mon Nov 06 2023