SEC scrutinizes angel groups

The Securities and Exchange Commission has been investigating angel groups out of concern that they may be operating as unregistered broker-dealers, according to one angel investor.

SEC spokesman John Heine declined to comment, but Steve Murchie, president of the Denver Keiretsu Forum, said the agency has “investigated every angel group they know of.”

The entire Keiretsu Forum—which claims on its website to be “the world’s largest angel investor network,” with 750 members in 18 chapters on three continents—got a “no-action” letter from the SEC last year, meaning that the group had not, in the SEC’s opinion, violated any federal securities laws.

Not all angel groups are being looked at, however.

John Dilts, who left the Keiretsu Forum three years ago to found Maverick Angels in Southern California, said his group has not heard from the SEC.

“We do not act as broker dealers on investment opportunities that pitch to our group and we do not take success fees on fundings by our members,” he wrote in an e-mail message. “We are simply a club and our members invest directly in transactions they negotiate for themselves. We also take the extra step of making sure all of our members…confirm they are ‘Accredited Investors’ as defined under the SEC rules.”

Marianne Hudson, executive director of the Angel Capital Association, a trade association in Kansas that serves about 200 angel groups and affiliates, said SEC investigations haven’t been much of an issue for her members, either.

“Maybe it’s happened once or twice, but they’ve never taken any action,” she said.

However, Murchie said SEC scrutiny adds to the pressure on angel groups to find a workable business model, particularly as individual angel investors pull back after they look at what the global financial crisis has done to their portfolios.

Last month, in a letter obtained by PE Week online affiliate, Murchie said he planned to shut down the Denver chapter of Keiretsu because membership had dropped from a high of 35 to just 10 investors, a size that was neither financially sustainable nor “likely to drive investment volume at a pace that is fair to entrepreneurs.”

In an interview, he said he needs at least 50 investors to make it and the group had become, for him, a 20-to-40-hour-a-week unpaid job. Keiretsu charges membership fees to investors and presentation fees to entrepreneurs and needs enough income to “operate professionally,” he added.

Keiretsu founder Randy Williams has since said that he will try to avoid shutting down the Denver chapter and is sending Pacific Northwest chapter President Todd Dean to talk to the Denver members. He said other Keiretsu chapters are growing

Last week, 50 people attended a meeting in Denver with Dean, who will become the interim leader until the Denver group can get a new president.

Denver’s Keiretsu chapter is the third angel group that’s tried and failed to make it in that area, Murchie said. Investors and entrepreneurs in Colorado aren’t as geographically concentrated as they are in the San Francisco Bay Area, and “people were attracted to the Keiretsu Forum because they could syndicate out to other chapters and weren’t limited to the local deal flow,” he said.

“Likewise, when our opportunities were looking for more money than could be funded here locally, we could put them in a pipeline out on the West Coast or New York or wherever,” Murchie added.

However, the recession contributed to the group’s possible demise. Keiretsu also relies on sponsors to support the group, and local law firms, among others, pulled back from Keiretsu this year, in some cases because they were laying people off, in a situation that Murchie called “the perfect storm.”

Last year, Murchie said, he proposed alternate fee structures for the Denver Keiretsu Forum. One option would be to charge entrepreneurs based on the stage of their companies, with early stage startups paying nothing.

Another would be to stop charging entrepreneurs and allow investors to take success fees—except they would be capped to allow the SEC to see the group as neutral and not require them to register as broker-dealers. A similar fee structure is allowed in Europe.

But Keiretsu had just gotten cleared by the SEC and didn’t want to risk any more attention, he said.

Meanwhile, as angel groups struggle with the effects of the recession, more entrepreneurs are trying to start companies, and Murchie said he’s seeing way too many that come to the Keiretsu Forum after they’ve tapped out their credit cards and are on the brink of failure, desperate for capital, which lowers their chance of raising it.

“VCs now do later stage investments…and angels are going later, especially as they organize more. They’re more cautious,” he said. “Then how do you get startup funding?”

Another development affecting angel networks lately are the attacks made by Jason Calacanis, a Los Angeles-based investor and entrepreneur, who has started a new angel investment network called the Open Angel Forum. Calacanis has been waging a campaign against various angel networks, such as the Keiretsu Forum, Maverick Angels and AlwaysOn, for charging startup entrepreneurs to present to angel investors.

Although the angel networks are doing their best to ignore him and his media-savvy effort, Calacanis launched the OAF last month and has signed up such angel investors as Kevin Rose, co-founder of social-bookmarking website Digg; William Woodward, founder and managing director of Anthem Venture Partners; Sky Dayton, founder of EarthLink Network Inc.; and Matt Coffin, president and founder of