“You can’t find all great cases yourself – that is why you need syndication” 

– Riku Asikainen ​, Angel Investor

Reasons for angels to syndicate

  • Share the risk 
  • Get a syndicate with know-how from different sectors 
  • Get more different perspectives on the case 
  • Learn from experienced investors 
  • Access to new markets
  • Cover the whole funding round, easier to cover bigger rounds 
  • Test the founders ability to fundraise from several investors
  • When angels share deals in a network everyone benefits from the transparency and from the opportunity to get in on a deal
  • More liquidity and “staying power” than individual investors
  • It´s fun!

​What is a lead investor and why do you need one? 

A lead investor serves several purposes and the role can vary from case to case. However, the clearer roles there are in the syndicate, the easier it is to effectively close the round. Especially very early stage startups might not have been fundraising earlier and might be lost in the game when negotiating a round.  The lead investor is useful both for the other investors and for the startup entrepreneurs as this person is the leading force that binds the syndicate together. The lead investor represents the syndicate towards the entrepreneurs and chairs the investor meeting, driving the negotiations forward. There are of course cases where this role is shared or the entrepreneur drives the discussion, but having a lead investor will bring clear benefits. 

​How to compensate the lead investor? 

A lead investor can be crucial for a successful funding round, but doing the job requires both time, skill and a serious effort. Therefore, talking about lead investor compensation is important. It makes perfect sense for everyone to be paid for their work. Any form of payment also gives the management the right to require work related outcomes form the investors. FiBAN chairman emeritus and EBAN vice chairman Riku Asikainen sees four options for compensating a lead investor: 

Board Compensation

As the deal lead often takes position in the startup board, this work can be compensated. In Finland the compensation could be €500-1000/ meeting. 
Challenge:
Early stage startups don’t have money to pay and investors don’t really need petty cash either. 

Options

Options are commonly used in the US. A typical model would be to give 0,5-1% to the chair of board and 0,25-0,5% to a board member per annum. Board member options should have a vesting period, for example 3 year vesting period with a 1 year cliff so that after one year the person gets a monthly part. If the board member leaves before the first year he/she gets nothing. 
Challenge: 
Taxation can be troublesome, especially in Finland. Performance based vesting is an option but very difficult to measure in early stage deals. It is crucial that the founders are aligned to give options to board members.  

‘Founder Stock’

3-5%  stock on equal terms with the founders is given to the lead investor before the funding round and given back if funding round is not closed as agreed. This works well in the very first external funding round. In practice this kind of promise and other models where the lead investor is compensated with stock is usually bound to the lead investor making an investment in cash as well. In practice it means a discount in the price per share for the lead investor compared to the other investors in the same round. If the discount is reasonable (i.e. the amount of shares given for being a lead investor are not too many in proportion to the shares bought, there’s no negative tax effect).
Challenge:
Works best in early stage deals. Also, if more than 3-4% is given to the lead he/she becomes a founder, and this is to be avoided.

Lead Investor Carry

​This is a VC way of compensation that most likely needs a legal structure to work and is thus a tad more complicated to do 
Challenge:
Constructing a legal framework for this to work in might be expensive and is therefore suited better for later stage deals.

Founder stock works in early deals

Asikainen proposes founder stock as one of the best ways of compensation for lead investor effort if the company is at a very early stage and taking in the first funding round. After external investment is taken in, this model becomes redundant and other options should be considered. After the first round options might be suitable as there are more data points to consider. From a early stage startup perspective, founder stock is easier than paying for board compensation. The founder stock  will be diluted, but the lead investor hasn’t paid anything for it, it is almost like a sweat equity investment.  However, whatever the structure of the funding round the founders need to have a significant ownership so that it makes sense for them to continue working for the company. 

“You have to be careful not to be too greedy as an investor or advisor!”

– Riku Asikainen, Angel Investor 

The biggest challenge in compensating a lead investor with founder stock is how to communicate this pre-investment part to other syndicate members. In any investment and syndication discussion transparency and communication is the key. The lead investor needs to be open about the compensation and then be in the investment round with the same terms as the rest of the syndicate. The point is that the whole syndicate needs to trust the lead and benefit from his/her work – A syndicate should be run democratically. 

It is important to keep in mind here that the whole syndication concept works best in a network like FiBAN, EstBAN, or LatBAN; where members communicate and share deals among each other within the angel network. To build this trust also helps the whole startup ecosystem and the entrepreneurs. ​

This is a piece written by Helleke Heikkinen, Deal Flow Manager at FiBAN.
The content is based on discussions during the EstBAN’s Angel Camp in Pärnu (30-31.8) where angel investors from Finland, Estonia, and Latvia met up to discuss and share best practices in angel investing. The hot topics on the agenda covered syndication, cross-border investment, and lead investor compensation.