How to Angel Invest, Part 1.html

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    <p>![[How_to_Angel_Invest.mp3]]</p>
    <p>
      <em
        >This is a preview of our
        <a href="http://spearhead.co/">Spearhead</a> podcast, where we discuss
        startups and angel investing.</em
      >
    </p>
    <p>
      <strong>Naval:</strong> Hey everybody, it’s
      <a href="http://twitter.com/naval">Naval</a> and
      <a href="http://twitter.com/nivi">Nivi</a>. We’re going to talk about
      something very different than what we’ve discussed in the past.
    </p>
    <p>
      Back in the day, we did
      <a href="https://venturehacks.com/">Venture Hacks</a>, which was all about
      the game theory of venture capital and helping entrepreneurs raise money.
      Later, we talked about “<a href="https://nav.al/how-to-get-rich"
        >How to Get Rich</a
      >,” which was general advice on wealth creation for the average person
      who’s starting a business. Now we’re going to talk about angel investing.
    </p>
    <p><strong>Advice for new angels in technology hubs</strong></p>
    <p>
      We expect this podcast to resonate most with people who are in a
      technology hub and have started investing but are not yet pros. So
      brand-new angels, VCs and founders who are dabbling in it.
    </p>
    <p>
      Let’s say you’re living in Silicon Valley—or you’re in Shanghai or
      Beijing, or you’re in Bangalore, or you’re in London, or you’re in New
      York—and you get access to a lot of interesting tech companies; you’re in
      the tech business and earned some extra money or raised some money. How do
      you become a good investor?
    </p>
    <p><strong>Where to learn the basics</strong></p>
    <p>
      This podcast assumes that you have some familiarity with investing. It’s
      not going to be a cold start. There are resources we can point you to for
      the cold start. Paul Graham wrote a piece called “<a
        href="http://www.paulgraham.com/angelinvesting.html"
        >How to be an Angel Investor</a
      >.” There’s “<a href="https://venturehacks.com/angel"
        >How to be an Angel Investor, Part 2</a
      >” on Venture Hacks. There’s a course called
      <a href="https://futureinvestor.co/">Future Investor</a>. You can look at
      all of those for the basics.
    </p>
    <p>
      We’re going to focus on more advanced topics in this conversation. We’re
      going to talk about things like how to figure out what a fair valuation
      is; what are the pitfalls of bridge rounds; how pro-ratas work; how can
      you squeeze into a round when there are VCs leading; when a co-investor is
      providing a valuable signal versus when they’re just talking their own
      book; how to size up markets and startups quickly; whether you should
      specialize in a single vertical or diversify into multiple verticals.
    </p>
    <p><strong>Open-sourcing what we teach at Spearhead</strong></p>
    <p>
      This podcast open-sources what we teach at
      <a href="https://spearhead.co/">Spearhead</a>, a fund we created that
      trains the next generation of angel investors. It gives founders
      checkbooks, provides mentorship and teaches them the skill of investing,
      which is something that will be valuable to them for their entire lives.
    </p>
    <h2>Strong Opinions, Loosely Held</h2>
    <p>
      <em
        >This is not investment advice; it’s just one unique approach to
        investing</em
      >
    </p>
    <p>
      <strong>Naval:</strong> Now, this is the Internet and this is America, so
      we have to give you some disclaimers. Angel investing is a great way to
      lose your money. There’s an old quip, “<a
        href="https://en.wikiquote.org/wiki/Richard_Branson"
        >How do you become a millionaire? Start as a billionaire and start
        investing.</a
      >” This is a good way to lose money if you don’t know what you’re doing,
      or if your timing is bad, or if you’re just plain unlucky.
    </p>
    <p><strong>This is not investment advice</strong></p>
    <p>
      <strong>Naval:</strong> This is not investment advice; but you may find
      this useful if you’re already in the profession or in the hobby of angel
      investing.
    </p>
    <p>
      <strong>Nivi:</strong> Like everybody else, our advice is going to be
      well-meaning but we’ll probably end up talking our own book in the
      process.
    </p>
    <p>
      Some of what we say will be speculative, but it’ll be stated as if it’s a
      fact. Some other things we say will be just plain wrong.
    </p>
    <p>
      <strong>Naval:</strong> Our advice may go out of date quickly because
      technology is changing rapidly, as is the investment ecosystem. A decade
      ago <a href="https://www.ycombinator.com/">Y Combinator</a> was brand new;
      <a href="http://angel.co/">AngelList</a> didn’t even exist; the
      <a href="https://firstround.com/">First Round Capital</a> platform wasn’t
      there; <a href="https://a16z.com/">Andreessen Horowitz</a> wasn’t there;
      you didn’t have a lot of late-stage investments by hedge funds; you still
      had companies going public earlier. So the market was very different.
    </p>
    <p><strong>This is just one unique approach to investing</strong></p>
    <p>
      <strong>Nivi:</strong> This is one unique approach to angel investing. The
      things we’re going to talk about might work for us from time to time, but
      other people might have similar or better results with completely
      different or opposite strategies.
    </p>
    <p>
      <strong>Naval:</strong> We’re very focused on early-stage technology
      startups in San Francisco and Silicon Valley. A lot of this will not
      translate to other locations. There are many important exceptions to
      everything we’re going to talk about.
    </p>
    <p>
      <strong>Nivi:</strong> We’ll also be discussing startups and funds that
      we’ve personally invested in and have a financial interest in.
    </p>
    <p><strong>We change our minds constantly</strong></p>
    <p>
      <strong>Naval:</strong> We’re also constantly changing our minds and
      learning. That’s what intelligent people do. We hold contradictory and
      opposing thoughts in our head at the same time. We have a multitude of
      opinions that often contradict each other.&nbsp;This is not math or
      science or equations, and we’re always changing our opinions. As Marc
      Andreessen says, “<a
        href="https://tim.blog/2018/01/01/the-tim-ferriss-show-transcripts-marc-andreessen/"
        >Strong opinions, loosely held.</a
      >”
    </p>
    <h2>Living in a Tech Hub Is Half the Battle</h2>
    <p><em>It’s a gold rush era in technology hubs like Silicon Valley</em></p>
    <p>
      <strong>Naval:</strong> We’re living through a unique time when, as
      Andreessen says,
      <a href="https://a16z.com/2011/08/20/why-software-is-eating-the-world/"
        >software is eating the world</a
      >. We’re undergoing a phase shift where technology is being adopted by
      everybody, not just knowledge workers.
    </p>
    <p>
      This transition has created a gold rush era in technology. If you’re in
      the tech industry and living in one of the tech hubs, you’re already
      halfway to being a good investor. That’s half the battle. You’re well
      positioned to angel invest.
    </p>
    <p>
      There are only a handful of these hubs. If you have to ask, then you
      probably aren’t in one. It’s usually obvious. There will be hundreds of
      startups, at least, including some with successful exits that made their
      investors rich.
    </p>
    <p>
      <strong
        >If you’re not in a tech hub, the odds are stacked against you</strong
      >
    </p>
    <p>
      If you’re in the tech industry but not in a tech hub, you should consider
      moving to one—unless there are strong lifestyle reasons keeping you away,
      such as family or quality of life, which is often higher outside of the
      technology hubs.
    </p>
    <p>
      You <em>can</em> do it remotely, but the odds are stacked against you. You
      won’t have the trust networks; you won’t see enough of the dealflow. In
      this case, it’s often better to work through a proxy, like investing in a
      trusted friend’s venture fund or going through
      <a href="https://angel.co/">AngelList</a> or coming in for
      <a href="https://www.ycombinator.com/demoday/">YC Demo Day</a>.
    </p>
    <p><strong>There are about two dozen tech hubs in the world</strong></p>
    <p>
      <strong>Nivi:</strong> Do you think this advice is just for people in
      Silicon Valley, or does this apply in New York? Does it apply in Seattle?
      Austin? China? Bengaluru?
    </p>
    <p>
      <strong>Naval:</strong> I think it applies in probably two dozen cities
      around the world. Some of these cities are emerging, which complicates
      this. Seattle and Austin are probably stable; you can probably find good
      deals there. But you need to have access to everything and realize that
      the city may only produce one or two great companies each year.
    </p>
    <p><strong>Silicon Valley is a more forgiving place to invest</strong></p>
    <p>
      Silicon Valley’s a little more forgiving: There are maybe 20 or 30 great
      companies created every year. You just need to invest in one of
      them—although you’ll have to find them in a much larger pool of companies.
    </p>
    <p>
      Places like Bengaluru, India, or even Kuala Lumpur, Malaysia, be may be
      up-and-coming cities, but timing is hard: Is <em>this</em> when the tech
      industry there breaks through? If you’re in Australia and invested in
      <a href="https://www.canva.com/">Canva</a> or
      <a href="https://www.atlassian.com/">Atlassian</a>, then great. But if
      not, there’s not as much of a pool to work with.
    </p>
    <p>
      At the same time, your returns potentially can be a lot higher outside of
      tech hubs. Because there’s less competition, the valuations tend to be
      lower because the risks are higher.
    </p>
    <p>
      You don’t want to be in a city with no history of producing good startups,
      where you only see one or two startups a year and you’re paying Silicon
      Valley prices because they’re keying off of valuations they saw at YC Demo
      Day.
    </p>
    <p>
      It’s much safer and easier to get started in San Francisco, New York,
      Beijing, Shanghai or Bengaluru. Pros can play in places like London,
      Austin, Seattle, Denver, Boulder and Chicago.
    </p>
    <p>
      Anything below that, and you better know what you’re doing. We have seen a
      phenomenon on AngelList: Angels invest locally in a city that is not
      producing good tech startups, only to surrender and start investing in Bay
      Area startups because they don’t see the quality or returns in other
      cities. The returns are so much higher in Silicon Valley.
    </p>
    <p>
      <strong
        >The best indicators of a startup hub are exits and later-stage
        investors</strong
      >
    </p>
    <p>
      <strong>Nivi:</strong> What’s the best indicator that a startup hub is
      working? Is it exits? Is it a thriving community of other angel investors?
    </p>
    <p><strong>Naval:</strong> Unfortunately, it’s exits.</p>
    <p>
      The typical way a hub develops is this: Founders start a company, the
      company does well, the founders and employees get rich in the IPO or
      acquisition—and then they start investing in their friends and co-workers.
      They feel comfortable doing this early investing because they made their
      money through tech startups. They want to put it back into tech startups.
    </p>
    <p>
      But there are a lot of false starts. Angel investors will pop up in an
      area and invest in a bunch of companies—but then those companies get
      stranded because there are too few Series A or Series B VCs there to
      invest in them. The VCs come in, pay low valuations and wipe out early
      investors by converting them to common and putting warrants on top.
    </p>
    <p>
      So funding markets, to some extent, develop in reverse compared to other
      markets. The least risky investments are mezzanine rounds right before the
      company goes public. Next are Series Ds and Series Cs. Series Bs are
      riskier than that, and Series A even riskier. The riskiest is angel
      investing, before the Series A.
    </p>
    <p>
      So, in a weird way, angel investing is the thing that should develop last
      in new hubs. But that’s not always the case. If a company can break out
      with just angel money, then later-stage money will find it no matter where
      it is—or the company can move to a mature hub with later-stage investors.
      But then, you have a big funding gap between the angel investment and the
      next investor, so the company has to get really far on just the angel
      investment.
    </p>
    <h2>You’re Living Inside the Gold Mine</h2>
    <p><em>There’s no better place to invest today than technology</em></p>
    <p>
      <strong>Naval:</strong> The returns in angel investing are interesting.
      There’s this meme that angel investors lose all their money and venture
      capital is a terrible business. It’s true if you aggregate VC and angel
      investments across the world. But if you stay focused in technology hubs,
      it’s largely not true.
    </p>
    <p>
      A competent angel investor in Silicon Valley who’s plugged into a good
      network, knows what they’re doing and has a broad portfolio might make
      somewhere between three to 10 times their money over a decade. That’s
      quite a return. Keep in mind, though, there’s a high amount of specific
      knowledge and labor that investors put into each of these investments.
    </p>
    <p><strong>There are tax benefits to angel investing</strong></p>
    <p>
      These gains are considered capital gains, which are usually taxed at lower
      rates than income. This is partially because it’s a secondary tax on
      corporate income; it’s already been taxed at the corporate level.
    </p>
    <p>
      There are also tax breaks for angel investors ranging from the qualified
      small business stock exemption in the United States to very favorable tax
      breaks in England and other countries.
    </p>
    <p>
      From a tax-advantaged basis, if you’re willing to tolerate high risk and
      illiquidity, it’s very hard to look at any other asset class where you can
      make as much of a raw return on your money as a patient, diversified,
      plugged-in angel investor.
    </p>
    <p>
      <strong>The less efficient the market, the better you will do</strong>
    </p>
    <p>
      One way to think about it is: The less efficient the market and the more
      wealth the underlying asset is creating, the better off you’re going to
      do. For example, art doesn’t really create that much wealth; it’s more of
      a tax haven and speculation instrument. The same with wine: The asset
      itself does not generate much wealth, but the underlying market is very
      inefficient; so you can make money more easily.
    </p>
    <p>
      Gambling actually destroys wealth. So it’s not a great asset class to play
      in, unless you own the casino, in which case you have an edge over
      everybody else.
    </p>
    <p><strong>Few people can play at angel investing</strong></p>
    <p>
      Angel investing is odd in that very few people can play in it. Very few
      people have the know-how, geographic access, capital, risk horizon and
      patience. But at the same time, the underlying assets are changing the
      world.
    </p>
    <p>
      I see a lot of people in Silicon Valley who could be good angel investors
      —they are in the tech industry and have access to dealflow—but instead
      spend their time on other things. They spend time thinking about
      macroeconomics:
      <em
        >What if the Fed cuts interest rates? What’s happening in the trade war
        with China?</em
      >
      Or they’re shorting stocks, investing in special economic zones or
      flipping real estate.
    </p>
    <p><strong>You should be doubling down on tech</strong></p>
    <p>
      I have a friend who’s a great VC and runs a rental business on the side. I
      scratch my head at that. You’re living inside the gold mine—people are
      digging up gold next to you. The returns in this industry are higher than
      anything else. You understand it so well. You have specific knowledge. But
      you have a contempt for investing more in tech that comes from your own
      familiarity with the industry.
    </p>
    <p>
      If you’re in the tech industry, you should be doubling down. I don’t know
      a better industry or better place on the planet to be investing, for
      today.
    </p>
    <h2>IPOs Are for the Last Investors in Line</h2>
    <p>
      <em
        >Financiers now come to Silicon Valley to invest in companies first</em
      >
    </p>
    <p>
      <strong>Naval:</strong> The tech industry is still underestimated. People
      used to think of
      <a
        href="https://www.google.com/search?client=safari&amp;rls=en&amp;q=sand+hill+rd&amp;ie=UTF-8&amp;oe=UTF-8"
        >Sand Hill Road</a
      >
      as a nice, little backwater compared to the gargantuan Wall Street. Now
      there’s an acknowledgment that Sand Hill Road is an important place, even
      though Wall Street still captures the headlines.
    </p>
    <p>
      <strong
        >If you’re investing in the IPO, you’re literally last in line</strong
      >
    </p>
    <p>
      It’s becoming increasingly apparent that Sand Hill Road produces the
      technology that generates much of the wealth in the U.S. The wealth
      originates here and spreads elsewhere. Wall Street financiers now come to
      Silicon Valley to invest in companies before they get to Wall Street.
    </p>
    <p>
      By the time a company goes public, you can bet anybody with connections,
      an appetite, investing skills and capital got a bite at it. So if you’re
      investing in a tech company’s IPO, you are literally last in line. That’s
      not to say you can’t make money—but the odds are lower because the fruit
      has been picked over many times.
    </p>
    <p>
      <strong>Nivi:</strong> The last bunch of financiers who were sitting in
      the right place at the right time—we call them Wall Street. This is where
      people used to get capital for their startups. Back then, there was no
      other market for fundraising until you had the metrics to go public.
    </p>
    <p>
      Silicon Valley is turning into the new Wall Street, except it’s not as
      formalized, organized and segmented. The JP Morgans and NASDAQs haven’t
      popped up.
    </p>
    <p><strong>A 401(k) plan is like investing in the DMV</strong></p>
    <p>
      <strong>Naval:</strong> This is going to fly in the face of conventional
      wisdom. The average person should be saving for their retirement. But I
      never set out to save anything; I reinvested almost everything.
    </p>
    <p>
      In economics, there’s the
      <a href="https://en.wikipedia.org/wiki/Saving_identity"
        >savings identity</a
      >, S=I, savings equals investment. If you contribute to a
      <a href="https://www.investopedia.com/terms/1/401kplan.asp">401(k)</a>,
      that money is getting reinvested in “safe” but unproductive parts of
      society, such as the government.
    </p>
    <p>
      You’re investing in the DMV and the Defense Department. Their returns have
      not been spectacular. It’s essentially just whatever money they can take
      at gunpoint from taxpayers and foreigners.
    </p>
    <p>
      If you’re in the tech industry, it’s generally a better bet to invest back
      in the industry—especially if you’re young and can get diversified.
    </p>
    <p>
      <strong
        >$50,000 invested in a smart entrepreneur will change their life</strong
      >
    </p>
    <p>
      Invest in the smartest, best and brightest people around you, rather than
      people in far-away lands with far-away motives who already have trillions
      of dollars of capital flowing into them and are not as motivated as your
      neighbors.
    </p>
    <p>
      Fifty thousand dollars in your IRA isn’t going to make a difference to the
      U.S. government when it gets put into a T-bill. But $50,000 invested in an
      entrepreneur down the street will change their life.
    </p>
    <p>
      If you can find 10 to 50 investments like that, one or two of them may pay
      off, assuming you listen to us and build skills along the way.
    </p>
    <p>
      <strong
        >I sleep well knowing my net worth is invested in the best
        talent</strong
      >
    </p>
    <p>
      Most of my net worth is illiquid and lying in startup companies. But I
      sleep well at night knowing that hundreds of teams of brilliant
      entrepreneurs are working hard to build things that could be massive and
      change the world.
    </p>
    <p>
      These teams include some of the best talent in the world: founders, coders
      and designers who studied at top schools. They’re leveraged with venture
      capital, products with no marginal cost of reproduction and the most
      modern methods of distribution.
    </p>
    <p>
      It just takes a few of these companies for the entire portfolio to balance
      out. If you invest in 100 companies and one of them produces a 1,000x
      return—which is not that unheard of—the other 99 investments could go to
      zero and you would still see an overall return of 10x.
    </p>
    <h2>Being a Founder Your Entire Life Is a Tough Road</h2>
    <p>
      <em
        >As the hits get bigger, it makes more sense to invest and a little less
        sense to start companies</em
      >
    </p>
    <p>
      <strong>Naval:</strong> Like other industries, the best way to make money
      in technology is to own a piece of a business. “<a
        href="https://nav.al/renting-time"
        >You’re not going to get rich renting out your time. You must own
        equity—a piece of a business—to gain your financial freedom.</a
      >”
    </p>
    <p><strong>Founder, employee or investor?</strong></p>
    <p>
      How do you gain substantial equity in a business? One of the classic
      models is to start your own company. There are downsides, though. For one,
      it’s highly stressful, grueling work. For another, your chances of success
      aren’t great; very few companies succeed. You may have to get back up at
      the plate and take a few rounds at bat.
    </p>
    <p>
      Another classic route is to get recognized as an extremely competent
      execution person, so you get the call when the next successful company’s
      scaling. You want your name on the list when the founders of the next Uber
      of Dropbox call up their favorite investors and say, “Hey, who are your 10
      best engineers that I can recruit right now?”&nbsp;
    </p>
    <p>
      Someone who’s done a great job at other companies can get a fairly large
      amount of equity to join a rocketship that’s already solved product-market
      fit.
    </p>
    <p>
      <strong>As the hits get bigger, it makes more sense to invest</strong>
    </p>
    <p>
      Finally, you can get rich as an investor. As the hits become bigger and
      bigger and the returns become more nonlinear, it makes more sense to play
      as an investor and a little less sense to play as a founder.
    </p>
    <p>
      This is because the upside is nonlinear. When you invest in a startup, you
      can make a 100x, 1000x, 5000x, 10,000x return—if you were in a Facebook
      seed round, for example. You’ll own a lot more of your own company, but
      you may only make a 10x or 100x return.
    </p>
    <p>
      The human brain is not wired to understand nonlinearities. The people who
      do—people like
      <a
        href="https://twitter.com/paulg?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Paul Graham</a
      >
      and
      <a
        href="https://www.google.com/search?client=safari&amp;rls=en&amp;q=peter+thiel&amp;ie=UTF-8&amp;oe=UTF-8"
        >Peter Thiel</a
      >—end up becoming billionaires as investors, rather than through companies
      they started themselves.
    </p>
    <p>
      Now, being a founder is a lot more fulfilling than investing. Many
      investors tell me they wish they were building something. Being a founder
      gives you a deeper sense of purpose. There is a sense of teamwork and
      really being involved.
    </p>
    <p>
      On the other hand, leading companies burns you out and ages you quickly.
      Being a founder your entire life is a very tough road. Most people do not
      have the constitution for it.
    </p>
    <p>
      <strong
        >Angel investing is something you can do until the day you die</strong
      >
    </p>
    <p>
      Angel investing is something you can do when you’re 50, 60, 70 years old.
      It’s something you can do part-time, if you’re partially retired or on
      leave with a new baby. It’s a way to make money when you can’t crank like
      you used to as an entrepreneur, whether you’re focusing on your family,
      have a health issue or are simply tired.
    </p>
    <p>
      <strong>Nivi:</strong> Your judgement and your access to capital and
      dealflow also go up as you get older. It takes a long time to learn, but
      investing is one of the few professions where you can improve until the
      day you die.
    </p>
    <p>
      <strong>Naval:</strong> Warren Buffet is one of the richest, self-made
      people on the planet because he’s been compounding capital for a long
      time. He started reading annual reports when he was 10, 11, 12 years old,
      and he’s still going strong. If he started later, he would be nowhere near
      the top 400 list on <em>Forbes</em>, because the magic of compounding
      wouldn’t have worked.
    </p>
    <p><strong>Every founder should learn angel investing</strong></p>
    <p>
      There’s a famous line, “<a
        href="https://en.wikiquote.org/wiki/Thomas_Henry_Huxley"
        >Try to learn something about everything and everything about
        something.</a
      >” In that sense, it’s great to be a founder and also do some investing.
    </p>
    <p>
      <strong>Nivi:</strong> Updating that quote for founders: Focus on your
      work and invest in your network.
    </p>
    <p>
      No investor would put all their eggs in one basket—why should you? The
      smart money isn’t trying to find the solution to product-market fit.
      Instead, it’s betting on a lot of reasonable solutions.
    </p>
    <h2>Investing Takes Capital, Judgment and Dealflow</h2>
    <p>
      <em
        >You need to raise money, develop judgment over time and gain access to
        the right deals</em
      >
    </p>
    <p>
      <strong>Naval:</strong> The three things it takes to get into investing
      are capital, judgment and dealflow.
    </p>
    <p>
      <strong
        >Capital is the hardest or easiest to get—depending on your
        circumstances</strong
      >
    </p>
    <p>
      To get capital, either you make your own money to invest, or you gain
      enough trust from other people to invest their capital.
    </p>
    <p>
      Sometimes you scratch your head and say, “How’s this person in the venture
      business?” Often, they have family money or married into money; or they
      managed money for somebody else; or they have a billionaire friend; or
      they had access to a large fund and that capital got them in the business.
    </p>
    <p>
      At <a href="http://www.spearhaead.co/">Spearhead</a> we train founders to
      be investors by giving them million-dollar checkbooks. Later on, we help
      them raise more money from limited partners. So that’s another way to get
      capital.
    </p>
    <p>
      Money raised from friends and family can be either the hardest or easiest
      money to raise, depending on your circumstances.
    </p>
    <p>
      <strong
        >Apply the same high bar to investments as you do to yourself</strong
      >
    </p>
    <p>
      Second is judgment. They say good judgment comes from experience, and
      experience comes from bad judgment. You build good judgment over time.
    </p>
    <p>
      Judgment means applying your highest standards and taste in the things you
      know the best.
    </p>
    <p>
      As a founder, you set a high bar for yourself: You only want to recruit
      the absolute best; you only want to do your best work; you’re constantly
      improving; you’re the worst critic of your business; every little thing
      that’s wrong with your product bothers you.
    </p>
    <p>
      Then you meet someone raising money, fall in love with their idea and
      ignore other things: the person doesn’t seem that smart; or it’s not
      someone that you’d work for or even hire; or their product is only
      half-baked; or they’re executing slowly.
    </p>
    <p>
      You look past all of that. You lower your judgment because you fantasize
      about all the things that could go right.
    </p>
    <p>
      It’s very important when you’re investing in other people that you keep a
      high bar and use sound judgment. You need to have taste.
    </p>
    <p>
      <strong>Good investors are more pessimistic than good founders</strong>
    </p>
    <p>
      Some of the best investors I know are incredibly difficult people. It’s
      hard to please them; they see the problems in everything. A good investor
      often is a lot more cynical and pessimistic than a good founder.
    </p>
    <p>
      A good founder must&nbsp; be a rational optimist; whereas a good investor
      can bounce maniacally between being optimistic enough to see the future
      and get into the deal, and being pessimistic enough to see the potential
      downsides and pass on nine out of the 10 deals they see.
    </p>
    <p>
      If you do more than one out of every 10 deals that you look at, you’re
      probably being too optimistic. If you stumble into great deals all the
      time, that says more about you than it does about your dealflow.
    </p>
    <p>
      There are exceptions, of course. You might have a unique advantage to your
      network: if you’re sitting in the latest
      <a href="https://www.ycombinator.com/">YC</a> batch and see everything
      early; or if you run the
      <a href="https://sen.stanford.edu/">Stanford Entrepreneurship Network</a>
      and are picking from the crop getting funded by VCs, for example.
    </p>
    <p>
      <strong
        >Everybody has dealflow—the challenge is getting in the good
        ones</strong
      >
    </p>
    <p>
      The last piece is dealflow, which also includes access. This is an area
      we’re going to focus on: How do you get dealflow? How do you get good
      access?
    </p>
    <p>
      Dealflow and access are not the same thing. You can get dealflow by going
      on <a href="http://angel.co/">AngelList</a>; by sitting at
      <a href="https://www.ycombinator.com/">Y Combinator</a> Demo Day; by going
      to any technology conference; even by watching “<a
        href="https://en.wikipedia.org/wiki/Shark_Tank"
        >Shark Tank</a
      >”—but that doesn’t mean you have access to those deals. It doesn’t mean
      that you have the ability to invest in those deals when you want, on the
      terms that you want.
    </p>
    <p>
      When you get cut out of hot deals, that’s a sign you’re going to perform
      poorly as an angel investor. You need to do whatever it takes to up your
      access.
    </p>
    <h2>Don’t Let Deals Pass on You</h2>
    <p>M_ost returns come from a few deals—don’t let them pass on you_</p>
    <p>
      <strong>Nivi:</strong> There are so many sources of dealflow out there,
      from friends and incubators to <a href="https://angel.co/">AngelList</a>,
      <a href="https://fundersclub.com/">FundersClub</a> and
      <a href="https://republic.co/">Republic</a>. Why is it so important to get
      into the deals you want to get in to? What happens if you don’t?
    </p>
    <p><strong>The majority of returns come from a few deals</strong></p>
    <p>
      <strong>Naval:</strong> One out of 100 or 1000 companies account for the
      majority of the returns every year.
    </p>
    <p>
      If you look at just about any successful angel investor’s portfolio, the
      majority of returns come from one deal. And when you take out the top
      deal, the majority of the remaining returns come from the second-largest
      deal. It’s extremely nonlinear.
    </p>
    <p>
      If you removed the top two or three deals out of just about any fund’s
      portfolio, you would probably have a negative performing fund, instead of
      a 4x to 10x fund.
    </p>
    <p><strong>Getting cut out of deals is a sign you won’t do well</strong></p>
    <p>
      It’s all about
      <a href="https://en.wikipedia.org/wiki/Adverse_selection"
        >adverse selection</a
      >. When you get cut out of a deal, that’s an indication that the deal may
      be a winner. Instead of a one-in-100 chance of becoming big, the chances
      are probably one-in-five or better.
    </p>
    <p>
      This is a common scenario: You meet a company that’s raising capital, and
      while you’re taking to time decide, a top-branded investor rolls in and
      writes a big check; next thing you know, everybody piles in because
      there’s tons of signal; and now the entrepreneur says, “Sorry, the round’s
      closed,” or, “I only have $10,000 left for you.” This is when your brand
      makes a difference.
    </p>
    <p>
      I started AngelList partially because I was cut out of some very big deals
      early on that, to this day, I have qualms over. These would have been
      career-defining deals that would have made me a lot money. But my brand
      simply wasn’t strong enough.
    </p>
    <p>
      Even though you want to be
      <a
        href="https://disruptionobserver.wordpress.com/2016/07/03/non-consensus-and-right-an-essay-on-investing/"
        >non-consensus right</a
      >, there comes a point when consensus has value: when the
      <a href="https://en.wikipedia.org/wiki/Sequoia_Capital">Sequoias</a> of
      the world show up; when the statistics become more baked; when the
      founders are well known; when there’s more information on the table. Also,
      when Sequoia invests, it can create a self-fulfilling prophecy by removing
      some future financing risk and allowing the company to stand out when it’s
      recruiting or going for PR.
    </p>
    <p>
      <strong>Nivi:</strong> Dealflow and access are the most important things
      to work on as an investor. Your judgment doesn’t have to be that great,
      because the returns follow a
      <a
        href="https://blakemasters.com/post/21869934240/peter-thiels-cs183-startup-class-7-notes-essay"
        >power law</a
      >. And you can always get capital if you have good dealflow and access.
    </p>
    <p>
      It’s okay to pass on investments—you just don’t want them to pass on you.
      You don’t want to hear, “I will come to you if I don’t get money from
      Sequoia.”
    </p>
    <p>
      <strong>Paying two-and-twenty to a good angel investor is a steal</strong>
    </p>
    <p>
      <strong>Naval:</strong> This is why it’s often better to back an angel
      investor and pay their management fee and carry, rather than going out on
      your own. In angel investing, it’s a steal.
    </p>
    <p>
      The old
      <a href="https://www.investopedia.com/terms/t/two_and_twenty.asp"
        >two-and-twenty</a
      >
      model was put in place by
      <a href="https://en.wikipedia.org/wiki/Kohlberg_Kravis_Roberts">KKR</a>, a
      private equity firm managing billions of dollars. Today, an angel who’s
      managing a just a few million dollars will charge you the same
      two-and-twenty, even though their labor as a proportion of the invested
      capital is far higher.Go to
      <a href="https://www.ycombinator.com/">YC</a> and ask them to invest your
      money for two-and-twenty at the same time they put in their own money, and
      they’ll laugh you out of the room.
    </p>
    <h2>You Need a Brand to Get into Hot Deals</h2>
    <p>
      <em
        >A brand is an authentic reputation you have with founders and
        investors</em
      >
    </p>
    <p>
      <strong>Nivi:</strong> To get into good deals, you must give startups a
      reason to pick <em>you</em> over other investors. You need a brand.
      Typically, this means adding value to the startup in some unique way.
      Let’s talk about 101 different ways to build a brand.
    </p>
    <p>
      <strong>Naval:</strong> This is the meat of it, the heart of it. We’ll get
      into how you develop judgment and the ins and outs of raising capital. All
      of that is secondary.
    </p>
    <p>
      The single most important thing is having the ability to get into a deal
      that you want to get in to—that’s access. The way you get access is by
      building a brand.
    </p>
    <p>
      A brand is an authentic reputation you have with founders and investors
      that tells people around the table, “Let’s invite this person to invest in
      our round, even though it’s scarce and everybody wants in now that the
      signals are there.”
    </p>
    <p>So how do you build a brand?</p>
    <p>
      <strong>Investing in winners is the best way to build a brand</strong>
    </p>
    <p>
      The classic brands in the venture business developed reputations for
      making great investments.
      <a href="https://www.sequoiacap.com/">Sequoia</a> was built this way.
      <a href="https://a16z.com/">Andreessen</a> was partially built this way,
      where you pay more for deals in later rounds. You associate yourself with
      the company’s brand, and then you use that to get into earlier, hotter
      deals.
    </p>
    <p>
      It’s a
      <a href="https://en.wikipedia.org/wiki/Tautology_(logic)">tautology</a>:
      Invest in the winning companies, and you’ll develop a brand that lets you
      invest in winning companies. But that’s circular; it doesn’t help you
      much.
    </p>
    <p><strong>You can build a brand through content</strong></p>
    <p>
      Another way to build a brand is to provide something new that’s
      pro-founder. This could be a stance: Andreessen Horowitz is famous for its
      founder-friendly stance; they want to see the founders run the company.
    </p>
    <p>
      It could be content. I built a brand through Twitter.
      <a
        href="https://twitter.com/eladgil?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Elad Gil</a
      >
      developed his brand partly by writing the
      <a href="http://growth.eladgil.com/"><em>High Growth Handbook</em></a
      >. <a href="https://twitter.com/reidhoffman?lang=en">Reid Hoffman</a> also
      wrote
      <a href="https://www.amazon.com/Reid-Hoffman/e/B005H8KWQM">books</a>,
      though he also has many other reasons to have a good brand.
    </p>
    <p>
      You can build a brand through blogging. When he was getting started,
      <a href="https://twitter.com/paulg">Paul Graham</a> wrote amazing pieces
      that attracted people to <a href="https://www.ycombinator.com/">YC</a> and
      <a href="https://news.ycombinator.com/">Hacker News</a>.
      <a href="https://twitter.com/fredwilson">Fred Wilson</a> still maintains
      the most popular blog in venture capital at
      <a href="https://avc.com/">AVC</a>.
      <a href="https://twitter.com/bfeld">Brad Feld</a> laid out the mechanics
      of VC investing—allowing him to run a fund out of Boulder, which is
      unusual.
    </p>
    <p>
      Back in the day, David Hornik, Andrew Anker and I started
      <a href="https://www.ventureblog.com/">VentureBlog</a>, one of the first
      venture-related blogs. We should have stuck with it.
    </p>
    <p>
      Many investors built great brands with a very founder-friendly stance and
      by providing content, networks, software, platforms or access for
      entrepreneurs that did not exist before.
    </p>
    <h2>You Can’t Build a Brand by Aping Someone Else</h2>
    <p>
      <em
        >The airwaves are too crowded for undifferentiated content and
        distribution</em
      >
    </p>
    <p>
      <strong>Naval:</strong> As we discussed, the first way to build a brand is
      being a good investor to begin with. A second way is creating content that
      helps entrepreneurs. A third way is building infrastructure or platforms
      that help entrepreneurs.
    </p>
    <p>
      Paul Graham can get into deals because of
      <a href="https://www.ycombinator.com/">Y Combinator</a>. Nivi and I often
      can get into deals because we started
      <a href="https://angel.co/">AngelList</a>.
      <a
        href="https://twitter.com/rrhoover?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Ryan Hoover</a
      >
      can get into deals because he started
      <a href="https://www.producthunt.com/">Product Hunt</a>. Platforms created
      by <a href="https://firstround.com/">First Round Capital</a> and
      <a href="https://a16z.com/">Andreessen Horowitz</a> help thom win deals
      against other VCs.
    </p>
    <p>
      You can also start a conference.
      <a
        href="https://twitter.com/jasonlk?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Jason Lemkin</a
      >
      created the <a href="https://www.saastrannual.com/">SaaStr</a> conference;
      <a
        href="https://twitter.com/timoreilly?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Tim O’Reilly</a
      >
      at <a href="http://oatv.com/">OATV</a> publishes content and hosts
      conferences.
    </p>
    <p>
      <a href="https://twitter.com/stevenlurie?lang=en">Steven Lurie</a> is
      great at recruiting, so he started
      <a href="https://angel.co/company/team-builder-ventures"
        >Team Builder Ventures</a
      >. He put his value right in his brand name. Companies know what he
      offers; they know why they should give him a piece of the round and how
      he’s going to help them.
    </p>
    <p>
      <strong
        >You’re not going to build a brand simply because you want to</strong
      >
    </p>
    <p>
      There are nuances, though. A VC will say, “We need to build a brand;
      therefore we need to have a blog. Let’s hire a content writer and launch a
      blog.” Or, “Man, I need to up my Twitter game. I’ll get on Twitter and
      start telling entrepreneurs about my investment criteria.”
    </p>
    <p>
      You’re not going to build a brand simply because you want to.&nbsp;
      Rather, a brand is an authentic expression of who you are. So whatever
      unique insight you have, express it in the most authentic way possible.
    </p>
    <p>
      If you’re good at Twitter, get on Twitter. If you’re good at blogging,
      blog. If you’re good at writing books, write books. If you’re good at
      speaking, speak at conferences or create a podcast.
    </p>
    <p>
      But you’re not going to be successful by aping somebody else; it must be
      authentic to you.
    </p>
    <p>
      Also, the media airwaves are now crowded, so you need top-quality content
      and distribution.
    </p>
    <p>
      Even though this podcast is an amateur effort, we cut things into
      snippets, clean up the voices and create transcripts and highlights. We’re
      at the leading edge of the curve.
    </p>
    <p>
      Sure, other people can copy us and catch up—but by then we’ll be somewhere
      else. We may be off writing a book, doing a road show, running an
      incubator or building another software platform. We stay ahead of the
      competition because we’re always tinkering at the edge.
    </p>
    <h2>There’s Very Little Innovation in Venture Capital</h2>
    <p>
      <em
        >You have to be willing to do something that hasn’t been done before</em
      >
    </p>
    <p>
      <strong>Naval:</strong> Whatever your brand is, it has to be clearly
      articulated; it has to be messaged. It has to be authentic to who you are.
      It should be differentiated from what everybody else is offering, and it
      should resonate with entrepreneurs. The worst strategy is taking a lot of
      coffee meetings or saying, “I’m a good, passive, hands-off person. I won’t
      bother you, and I’m always available to help.” It’s too generic.
    </p>
    <p>
      <strong
        >You can build a brand through your advisors and limited
        partners</strong
      >
    </p>
    <p>
      If many of the investors and advisors to your fund are computer science
      professors at major universities, then entrepreneurs will want you as an
      investor because you have access to people who can bring grad students,
      help with technology diligence, or solve hard algorithmic problems.
    </p>
    <p>
      You may come from the real estate industry, and all the real estate tech
      startups want you because you have a deep understanding of the industry,
      partners and contacts in the industry, and your own properties.
    </p>
    <p><strong>You can build software for startups</strong></p>
    <p>
      <strong>Nivi:</strong> You could be the world’s expert at helping a
      startup raise its next round. You can build software for startups like
      <a href="https://angel.co/">AngelList</a>. There’s still 100 different
      things in the world of software for startups that haven’t been done.
    </p>
    <p>
      You can be an expert at raising money from international investors, in
      China or Brazil. You can break into a new market by backing scientists and
      technologists in a new market. You can be the world’s expert at scaling.
      You could build open-source tools for startups.
    </p>
    <p>
      <strong>Naval:</strong> There’s extremely little innovation in the venture
      capital business. It’s quite easy to stand out. You have to be willing to
      do something that other people haven’t done before. In other words, you
      have to be willing to take on accountability and risk being wrong.
    </p>
    <p><strong>You can buy common stock instead of preferred</strong></p>
    <p>
      <strong>Nivi:</strong> Do you think someone will try to build a brand
      around buying common stock from entrepreneurs, instead of preferred stock?
    </p>
    <p>
      <strong>Naval:</strong> People have done that a little bit.
      <a href="https://a16z.com/">Andreessen Horowitz</a> started to do that;
      they became registered investment advisors so they can do secondaries. You
      could argue that’s a core part of
      <a href="https://www.ycombinator.com/">YC</a>’s brand. They buy at a low
      valuation in the first round, but they used to
      <a href="https://blog.ycombinator.com/new-standard-deal/">buy common</a>;
      so they were completely in the same boat as you.
    </p>
    <p>
      There’s no branded firm—or angel investor writing large checks—that is
      buying common. I think it’s a clever strategy and something that we may
      yet see happen. It does have the problem where the company can shut down
      and keep your money.
    </p>
    <p>
      But there are clever ways around that. You could say, “I’m buying
      preferred stock, but after two years it converts to common stock.” When
      they burn through your cash and raise somebody else’s cash, you’re no
      longer sitting on top of them in a liquidation preference overhang. But at
      the same time, your money’s already been spent, so it’s not like they can
      shut down the company and run off with your money.
    </p>
    <h2>My Original Brand Was in Growth Hacking</h2>
    <p>
      <em
        >I pitched growth hacking to Twitter; they passed on it—but they let me
        invest</em
      >
    </p>
    <p>
      <strong>Naval:</strong> Strangely enough, my brand started out in growth
      hacking. I co-built a Facebook app that got 20 million installs pretty
      quickly, and I used that as my calling card with entrepreneurs. This was
      in the early days before
      <a href="https://twitter.com/andrewchen">Andrew Chen</a> blew it open for
      the world.
    </p>
    <p>
      A friend told me about Twitter. Back then, it was still text-message based
      and very much a toy. It was the pre-app. I tried it and liked the product.
      I tracked down
      <a href="https://twitter.com/ev?lang=en">Evan Williams</a> to ask about
      investing.
    </p>
    <p>
      Ev had just given a bunch of money back to investors for a failed
      podcasting venture called
      <a href="https://en.wikipedia.org/wiki/Odeo">Odeo</a>. He’d kept Twitter,
      the one thing out of that studio that looked interesting.
    </p>
    <p>
      At that point his round was done and he had a little bit of allocation
      left.&nbsp; He more-or-less asked, “Why should I let you invest?” I got on
      a whiteboard for half an hour and laid out what little I knew about growth
      hacking, while he and his deputy watched.
    </p>
    <p>
      At the end he said, “This sounds great. We’re not going to do any of it
      because it’s against our ethos.” I respected him for that. But he was
      impressed enough that I cared and I’d thought about it, that I got a
      chance to invest in Twitter. That was my first major angel investment that
      worked out.
    </p>
    <p>
      <strong>Ryan Hoover and Patri Friedman have interesting brands</strong>
    </p>
    <p>
      <strong>Nivi:</strong> Are there any new angel investors who have done a
      good job building a brand?
    </p>
    <p>
      <strong>Naval:</strong> I don’t know if they necessarily built brands to
      invest, but I think a few developed brands through their natural
      activities that will give them the ability to invest. The rest of
      it—judgment, capital and so on—is still up to them.
    </p>
    <p>
      <a
        href="https://twitter.com/rrhoover?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Ryan Hoover</a
      >
      has a great brand. His Twitter game is among the best I’ve seen; he builds
      community on Twitter simply as a side effect of breathing. He’s going to
      have a good brand as an angel investor, especially with consumer
      companies.
    </p>
    <p>
      <a
        href="https://twitter.com/patrissimo?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Patri Friedman</a
      >
      also has a strong brand. He’s investing in startup countries and sovereign
      individual projects. It’s a distinctive enough thesis and angle that all
      of the libertarians and free-state types will flock to him. He’s the first
      to put a stake in the ground and say, “I’m going to fund these kinds of
      activities,” which means he’ll get to see all of the limited dealflow in
      that space.
    </p>
    <p>
      At the same time, there are lots of other projects, especially in crypto,
      that will be naturally inclined to let him invest. They aren’t necessarily
      about starting a free state but overlap in some way. The people starting
      those companies are sympathetic to free-state projects and are themselves
      sovereign individuals. These are the people who signed petitions to free
      <a href="https://en.wikipedia.org/wiki/Ross_Ulbricht">Ross Ulbricht</a>
      and
      <a href="https://en.wikipedia.org/wiki/Julian_Assange">Julian Assange</a
      >—and I’m one of them, by the way.
    </p>
    <h2>Don’t Build a Brand in a Narrow Vertical</h2>
    <p>
      <em>If the market never shows up or shows up late, your brand is shot</em>
    </p>
    <p>
      <strong>Nivi:</strong> You don’t want to build a brand around a specific
      market thesis, right?
    </p>
    <p>
      <strong>Naval:</strong> You don’t want to build a brand around the
      transition from X technology to Y technology—because when that transition
      is complete, so is your brand. You also don’t want too narrow of a brand
      or a brand in a space that doesn’t materialize. If you have a cleantech
      brand that’s focused entirely on solar and solar doesn’t arrive on
      schedule, then your entire area of expertise is shot.
    </p>
    <p><strong>Top VC firms rarely specialize</strong></p>
    <p>
      When you’re starting out, there’s pressure to specialize because of your
      expertise and network and because you may want to raise capital. But if
      you look at the top VC firms, they’re rarely specialists; they’re usually
      generalists. Even when they specialize, they specialize in something like
      “being weird.” Take
      <a href="https://foundersfund.com/">Founders Fund</a> for example: They do
      a lot of deep-tech deals and weird deals, but they don’t specialize
      further than that. They don’t say, “We’re
      <a
        href="https://www.google.com/search?client=safari&amp;rls=en&amp;q=synthetic+biology&amp;ie=UTF-8&amp;oe=UTF-8"
        >synbio</a
      >
      only.” Or, “We’re AI and machine learning only.” You have to resist that
      urge, because very often these trends don’t materialize.
    </p>
    <p>
      <strong
        >Mistimed or unrealized markets cost investors a lot of money</strong
      >
    </p>
    <p>
      I’m old enough to remember when cleantech was a wave that cost
      <a href="https://www.kleinerperkins.com/people/">Kleiner Perkins</a> a lot
      of money and Java was a wave that cost investors a lot of money—because
      cleantech took longer than expected and Java never turned out to be a
      massive market.
    </p>
    <p>
      With cleantech you could argue that getting into Tesla or SpaceX forgave
      everything. But it also means that you missed everything if you didn’t get
      in those deals; if you weren’t in the
      <a href="https://twitter.com/elonmusk">Elon Musk</a> mafia.
    </p>
    <p>
      You don’t want to be too narrow. At the same time, it’s hard to stand out
      if you’re too broad. Then you’re back to, “I’m a good person who does
      coffee. Let me invest.”
    </p>
    <p>
      It’s best to build a brand around your unique capabilities, platforms and
      assets, but not around verticals.
    </p>
    <h2>The Best Deals Come from Your Network</h2>
    <p>
      <em>Branch out from your network after you’ve built your reputation</em>
    </p>
    <p>
      <strong>Naval:</strong> The best deals tend to come from your
      network—people you’ve trusted for a long time, especially early on.
    </p>
    <p>
      It’s notoriously difficult to invest in one of
      <a
        href="https://twitter.com/elonmusk?ref_src=twsrc%255Egoogle%257Ctwcamp%255Eserp%257Ctwgr%255Eauthor"
        >Elon Musk</a
      >’s companies. Even in high-priced rounds, it’s nearly impossible to get
      into a <a href="https://www.spacex.com/">SpaceX</a> or a
      <a href="https://neuralink.com/">Neuralink.</a> All the people Elon has
      made money with in the past swoop in, get first rights and take up the
      full allocation.
    </p>
    <p>
      If you’re getting invited to one of Elon’s rounds and you’ve never met him
      or made money with him, you almost have to wonder if he’s run out of
      friends.
    </p>
    <p>
      The urge to hunt for deals actually will <em>lower</em> your returns. Some
      of the best angel investors make early wins by investing in people in
      their close network, in spaces they know well.
    </p>
    <p><strong>Branch out after you’ve exhausted your network</strong></p>
    <p>
      It only makes sense to branch out when your network is exhausted. But now
      you also have a reputation and more capital—because you made some money
      and have been successfully investing in your network. Now you have
      reputation, capital and know-how.
    </p>
    <p>
      Without those, it’s dangerous to start investing in spaces you don’t know,
      people you don’t know, and, most dangerously, deals you’re invited to by
      strangers. Because you can bet that if they’re inviting a stranger,
      they’ve already exhausted their network of close allies and comrades.
    </p>
    <h2>Be a Shadow Co-Founder</h2>
    <p>Create your own dealflow by helping companies get started</p>
    <p>
      <strong>Nivi:</strong> Do you think there’s an opportunity to build a
      brand investing at the pre-seed stage before—or simultaneous
      with—accelerators?
    </p>
    <p>
      <strong>Naval:</strong> Accelerators give advice on how to start a company
      at scale.&nbsp; They don’t give you that much money, but they give you
      important know-how: how to put your company together, recruit and rev your
      idea; when it’s ready for investors; how to approach the first customers
      and measure customer growth; how to get your MVP out there.
    </p>
    <p>
      Accelerators are training wheels until you’re ready to go raise money. An
      angel investor can do this—they just have to put in the time. And,
      actually, it’s the best place to play because the valuations at the seed
      stage are where Series A rounds used to be.
    </p>
    <p><strong>Be a shadow co-founder to create your own dealflow</strong></p>
    <p>
      The best way to get good valuations and dealflow is to create it yourself:
      Ally yourself with entrepreneurs and become their shadow business
      co-founder.
    </p>
    <p>
      When technical entrepreneurs start out, they often give up half or
      two-thirds of their company to a seller, who helps put the company
      together and raises the money.
    </p>
    <p>
      You can help founders put their companies together. You can put in the
      first bit of money. In return, you can might be able to get common equity
      or, at least, favorable investment terms. Later, you can help recruit a
      seller for 5% or 10% of the company, as opposed to 50%.
    </p>
    <p>
      <strong>Nivi:</strong> If you’re investing at the pre-seed stage, you can
      back great teams, set the terms that you want and negotiate pro-rata
      rights.
    </p>
    <p><strong>Get valuable pro-rata rights by investing pre-seed</strong></p>
    <p>
      <strong>Naval:</strong>
      <a href="https://feld.com/archives/2004/09/what-does-pro-rata-mean.html"
        >Pro-rata rights</a
      >
      are the ability to invest in later rounds.
    </p>
    <p>
      Let’s say you own 5% of a company through your original investment. Your
      pro-rata right gives you the right to provide 5% of the new capital in
      future rounds.
    </p>
    <p>
      Even though you may already own a lot and may not care about the dilution,
      the
      <a
        href="https://www.quora.com/What-is-the-difference-between-IRR-and-cash-on-cash-when-it-comes-to-returns"
        >cash-on-cash</a
      >
      returns for later investments tend to be much better. You might be able to
      put $30 million in the pro rata, instead of your initial $3,000.
    </p>
    <p>
      Once the company’s more proven, limited partners and big funds will fight
      for pro-rata rounds. They will pay you carry and management fees to invest
      in that pro rata. And you’re not waiting 10 years for liquidity on that
      investment. In later rounds, the company might be just two years away from
      liquidity.
    </p>
    <p>
      So pro ratas can be quite valuable.They also keep you plugged into the
      company. You keep a closer relationship with the management team; they
      have to let you know what’s going on. And if there’s a down round or a
      <a href="https://www.investopedia.com/terms/w/washoutround.asp"
        >washout round</a
      >, your senior stock may protect some of your holdings.
    </p>
    <h2>Be Non-Consensus Right</h2>
    <p><em>Work from first principles and make up your own mind</em></p>
    <p>
      <strong>Naval:</strong> Most of what we say on this podcast is consensus
      knowledge, or wisdom. Experienced VCs will say, “Duh. Of course, that’s
      obvious.” But it’s not designed for them.
    </p>
    <p><strong>Be non-consensus right</strong></p>
    <p>
      At the same time, the real money in this business is made by being
      <a
        href="https://a16z.com/2014/07/21/a-dozen-things-ive-learned-from-marc-andreessen/"
        ><em>non-consensus</em></a
      >
      and right: being correct when everybody else disbelieves. This happens all
      the time. For every deal that
      <a href="https://www.sequoiacap.com/">Sequoia</a> does, it’s possible that
      <a href="http://www.benchmark.com/">Benchmark</a>,
      <a href="https://a16z.com/">Andreessen</a> or somebody else passed on it.
      For every deal that Andreessen does, maybe Sequoia didn’t want to pay as
      much, so they passed on it.
    </p>
    <p>
      There’s a large universe of investment-grade deals that even the top VCs
      and angels don’t agree on. Many of these go on to be successful. And then
      there are the consensus deals that all the top VCs agree on and try to
      pile into—and sometimes those end up being flameouts.
    </p>
    <p>
      <strong>Don’t learn how to invest from the</strong>
      <strong><em>commentariat</em></strong>
    </p>
    <p>
      Don’t learn angel investing from journalists and the average commentator
      on Facebook, <a href="https://news.ycombinator.com/">Hacker News</a> or
      Twitter. These people may be well meaning, but they don’t know what
      they’re talking about.
    </p>
    <p>
      Everyone piles onto
      <a href="https://en.wikipedia.org/wiki/Theranos">Theranos</a> as an
      example of Silicon Valley excess. The reality is Theranos wasn’t backed by
      any good Valley investors; it raised from out-of-market investors for good
      reasons. The media built up its founder to be the next Steve Jobs because
      they were looking for a heroine. The media built her up, and the media
      took her down. To any sophisticated investor, that deal smelled bad from a
      mile away.
    </p>
    <p>
      The media’s been hating on Mark Zuckerberg and Facebook since the start.
      And yet, here it is, a company worth several hundred billion dollars and
      everyone surrounding it is fabulously wealthy. What Facebook does for
      society is a different conversation, but the fact that it’s a successful
      business is undeniable. That journalists have called for its death all
      along is also hard to deny.
    </p>
    <p><strong>The larger the herd, the lower the returns</strong></p>
    <p>
      To be successful in this business, you have to make up your own mind. You
      have to work as much as possible from
      <a href="https://fs.blog/2018/04/first-principles/">first principles</a>.
      You have to ignore the herd. The larger the herd you listen to, the worse
      your returns will be. If you go with the consensus and average thinking,
      you will get average returns—and average returns right now are 1% in
      treasury bills.
    </p>
    <h2>Founders Backing Founders</h2>
    <p>
      <em
        >Investing keeps you sharp—and plugged into what the best founders are
        doing</em
      >
    </p>
    <p>
      <strong>Naval:</strong> One great reason to angel invest is that it keeps
      you sharp. It’s an incredible way to get educated and stay up to speed in
      technology. Great founders will seek you out and spend an hour telling you
      what they spent the last year learning.
    </p>
    <p>
      Investing also exposes you to the different ways you can start a company.
      You’re doing a C Corp, but somebody else is doing an LLC. You raised money
      from angels, but somebody else went straight to VCs. You did the
      two-founder model, but others did five founders and someone else did the
      one-founder model.
    </p>
    <p><strong>Founders want to be backed by other founders</strong></p>
    <p>
      A lot of the best founders end up dabbling in other people’s companies as
      advisors or investors because they want to be good at everything. They’re
      building the foundation for a skyscraper, and they’re going to be very
      careful laying down those initial beams and bricks. The best way to figure
      that out is to talk to other smart people with skin in the game.
    </p>
    <p>
      The best founders also want to be backed by other founders. They want to
      know the people they’re taking money from have first-hand experience.
      Especially on the angel side, being a founder often will help you get into
      a deal; whereas a pure financial investor may not.
    </p>
    <p>
      Founders have unique networks and deep expertise. They may also have a
      unique advantage with dealflow from an incubator they went through; by
      being branded as a successful founder; being a domain expert; or having
      advised successful companies.
    </p>
    <p><strong>Investing aligns interests</strong></p>
    <p>
      Investing also is a way to give back. Many founders have a story about how
      someone took a chance on them early on, or about their first big break.
      Now you get to give other people <em>their</em> big break. You get to
      create the change you want to see in the world by supporting it
      financially.
    </p>
    <p>
      Investing also helps align you with others. If you’re the kind of person
      who’s often driven by envy—which, let’s face it, many of us suffer
      from—one great thing to do is to align your interests. Now, all of a
      sudden, you’re backing somebody and you want to see them win.
    </p>
    <p><strong>Advisors have adverse selection</strong></p>
    <p>
      Another good reason to invest is to teach—what better way to learn than by
      teaching? You can also do it as an advisor. But as an advisor, you tend to
      own a lot less.
    </p>
    <p>
      There’s adverse selection to being an advisor: Very often the best
      entrepreneurs don’t need or take advice. Sometimes it can work out,
      because of strong relationships and expertise. But just stamping your name
      onto a company that barely knows you is not going to make you much, and
      it’s not going to do much for them either. Investment is often a cleaner
      way to do it.
    </p>
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