I have invested several times in some of these companies, at different stages of their life cycle.
Similarly to any other risk allocation decision, I try to hedge against company-specific risks (i.e. non Beta) by diversifying, which may bring my returns closer to market returns, nevertheless, I am happy forego potential upside in exchange for avoiding excessive concentration of my risk while missing on some opportunities, i.e. abandoning the chance to play the soothsayer.
When it comes down to deciding on the right ticket size, I operate based on the following allocation criteria:
- Are the results there? Why is this time different? How has the startup performed since the last round?. Can it scale up? If it is not growing, I would most likely pass – founders are generally great story tellers.
- What would I need to invest to keep my pro-rata? The current number of shares in proportion to the issued shares and voting rights.
- Risks – Do I have an edge? (informational; analytical or behavioral).
Other allocation rules that I follow:
- I try to limit my overall allocation to startups, i.e. including follow up rounds, to less than 10% of my net worth.
- The aggregate initial investment in startups is limited to 5% of my net worth.
- For the first time in investment in any startup, not more than 1% of my net worth – this is kind of the Jason Calacanis‘ approach, if you have 50k to invest, do 30 x 1k investments and keep 20k for follow up in 2-3 of the better performing startups.
- Ensure that I already have or know that I will have within less than six months of the date of investment, at least the same amount that I would invest, for follow up rounds.
We’re going to try to trim our weeds and water our flowers. Most of all, we’re not going to think too much about our weeds. We’re going to be watering our flowers.David Gardner