New Ventures are hard to succeed; but it may be even harder to start. Getting from conceiving a business idea to a successful and viable business one needs time and considerable funds. Oftentimes, a new entrepreneur will seek financial support from investors. And, any investment that happens out of these efforts may well be what we call Angel Investment. But, what is actually an Angel Investor? And how does all this work?
What is an Angel Investor?
An Angel Investor is typically a private investor that offers pre-seed or seed funding, to see new startup ventures into fruition. In exchange, they will typically receive some ownership equity in the company they’re funding.
Because of these two types of funding, they’re the first investors and the primary source of funding. This essentially means that they’ve got enough skin in the game to keep motivated and keep helping a startup until it becomes viable. And, they do it primarily by offering their knowledge, experience and network. All that support fosters innovation, on the startup’s side. And that, in turn, typically translates into economic growth.
Angel investments are high-risk investments. As such, they rarely represent more than 10% of an Angel Investor’s portfolio. But, all in all, they’re far less “invasive” forms of investment than others. And, that’s why entrepreneurs find Angel Investments more appealing than other types of funding.
How Angel Investing works
Suppose a new entrepreneur comes up with an idea they want to turn into a business. There are a few different ways they can fund their endeavor. If they need to go to an Angel Investor to help them get started, they might already need to have already set up the business; or they might not. In all sincerity, it actually depends on how the investor evaluates the idea and how much they come to believe in it.
Oftentimes, Angel Investments happen after the initial funding. However, Angel Investors will typically not have to deal with other investors, since the initial funding normally comes from the entrepreneurs themselves. Or, perhaps, from the co-founders, altogether. But, since new funds are not all that easy to come by, the co-founders will usually get started with what they have and roll out a minimal product, before they go out hunting for additional funds. This way of thinking is actually quite useful in the long term, since whatever small team makes the product is already building a mindset of frugality and creativity. And that’s the best way for them to become resilient, as a business, down the road.
Angel Investments are usually required to help a business go through the growth stage; normally, at an early stage of development. If the startup needs larger funds than what an Angel Investor can bring in one seating, there could either be a follow-on investment or other, more advanced solutions to future funding.
How the process works
At first, a startup can get in touch with Angel Investors at congresses, conventions, business forums, the chamber of commerce or various investment firms. They can pitch their idea and, if the Angel Investor is interested, they will conduct due diligence to the newly found company. The steps might slightly vary depending on the investor’s experience.
After a verbal agreement has been reached, the two parties will draw up a term sheet or similar contract. This will help everyone understand how the investment will be rolled out and what equities will be given to who. It will also define the rights, safety nets and control parameters, also including a provision for an exit strategy. Once this process is completed, investment funds are finally released and ready to use.
Why consider an Angel Investment?
Angel Investments are probably the less aggressive type of investment an entrepreneur can find. Since most Angel Investments only involve equity deals, the entrepreneur won’t need to pay the investor back if the venture fails. And, working with an Angel Investor is actually quite straightforward. Let’s see why:
What is a typical Angel Investor?
There are a few different types of Angel Investors. And, these vary from family and friends to organized groups. Of course, according to the SEC, an accredited investor is one with a net worth of at least $1M in business assets, or has earned $200k in income for the last two years. But, let’s see what other types of Angel Investors there are:
The 3Fs
This is an abbreviation for Friends, Family and “Fools”. While this last term is rather unfortunate, it’s used to emphasize the high-risk nature of such investments. Now, these are typically people that are close to the entrepreneur and believe in them and in their ideas. Of course, they will probably still expect to make some money out of this in the long term. Otherwise, it wouldn’t be called an investment, but a loan.
High Net Worth individuals
People that generally have $10M or more in assets are considered high net worth individuals. As a rule of thumb, an investor will invest no more than 5% of their assets in high-risk investments. That means, they can allocate up to $0.5M to such endeavors. In return for equity, of course.
Angel Groups
Angel Investors often become a part of a group. This does two things for them. It increases their potential investment level and it reduces their risk, since they share it with the entire group. Typically, they will contribute funds to the group and a fund manager will meticulously evaluate and carefully select the investments to be made.
Crowdfunding
Crowdfunding has been known to SMEs for quite a few years now. Entrepreneurs will run a campaign and raise their funds with the help of large groups of individuals. This process may be significantly slower, as individual investments may be quite small ranging from $10 to $100. The campaign will usually come with a closing date, after which the funding round is considered complete and the funds are released to the company, to begin production.
The advantages of working with an Angel Investor
Angel investors are incredibly more flexible than VC investors, since they invest their own money; while VC investors are professionals who invest on behalf of other people — the limited partners. That said, there are some key advantages to working with an Angel Investor, as opposed to, say, a Limited Partner.
Less paperwork
Working with a bank or a pension fund would require investment filings with the SEC and, potentially, other regulatory agencies of the state. Especially if a company in their growth stage decides to hold an IPO as a funding round. Angel Investments do not require all this paperwork and extra administrative workload.
Follow-on funding
When Angel Investors fund a company, they’re typically in it for the long run. Follow-on investments to the same companies are not uncommon. In fact, they’re virtually part of the rule.
Know-how and experience
Angel Investors are usually entrepreneurs, themselves. Oftentimes, they are serial entrepreneurs, which means they have succeeded in more than one venture. They can offer a level of business knowledge and experience that is of tremendous value to the newly found company. Learning from their experience and mistakes is an exceptional motivator and an excellent way to expedite progress.
The risks of Angel investments
As long as the viability of a product or business remains unproven, investments are considered high-risk. Global statistics show that 8 to 9 startups out of 10 will fail. Angel Investors will, consequently, lose their entire investment to these companies.
To deal with that level of risk, investors will frequently invest in multiple companies from different industries. That’s what we call “portfolio diversification”. This tactic helps reduce the risk. In essence, 1 or 2 successful companies will offset the cost of the failed ventures. Potentially, also bringing in some profit, altogether.
Angel Investments can be quite rewarding, but they take time. The numbers show that it can take 7 to 12 years to realize an exit strategy. That’s why investors only allocate liquid assets they won’t be needing in the near future.
Does the business stage matter?
As in most things in business, timing is of the utmost importance. Depending on the idea and concept around a new startup business, the stage may matter. For example, while conducting due diligence, if the investor discovers a great market opportunity, or if there is a relatively fresh and ongoing trend of funding in the specific industry, the chances of the investment happening, even if no product exists yet, greatly increase. If, on the other hand, the idea speaks of yet another solution to an already solved problem, the business stage may be quite important. That is, since commoditization increases the risk of failure or immediately translates to a lower multiplier of returns for the investor.
Differences of Angel investments with Venture capital
Both Angel Investments and Venture Capital are used to fund startups — mostly — at some point in their life. And, both approaches aim for some kind of equity in these startups.
However, Venture Capital usually offers substantially larger funds to work with. And, given the different needs that occur at different stages of a company, Angel Investments happen much earlier than Venture Capital investments. By that same token, an Angel Investment offers considerably smaller funds than a Venture Capital investment. And that’s normal, especially if one takes the risk reduction into account, as growth happens.
Due to the size of a Venture Capital investment, a Venture Capitalist will most likely require a seat at the board of directors. They will actively set goals and become operationally involved in the entire endeavor from that point on. Angel Investors don’t always do that; or they don’t do it as strictly. And that offers additional flexibility to the co-founders.
How an Angel Investment will work for you, at Starttech
At Starttech, we build Ventures. And we do our own Angel investing, which includes pre-seed and seed funding. This allows us — and you — for a really low-noise environment to let you work on your product. And, it’s actually a part of our Venture Building program.
To lower the noise even further, we offer shared services in operations and administration, on:
- Finance
- Legal
- Human Resources
- Operations & Business administration
- IT (does NOT include your technology)
- Business development
- Design
- Marketing
- Networking/Go-to-market
These services help expedite the process from concept to growth, by avoiding common pitfalls and implementing some of the best practices in the market. We sit right next to the driver, offering our knowledge and experience, every step of the way, to help find your customers. We are your co-founders.
Funding is gradually released, on a monthly basis. But it’s not necessarily a set amount. If the progress makes sense, we can readjust the spending to leverage what works. If the progress is insufficient, we may need to cut back until it does. That’s all part of our efforts towards capital efficiency, using the MVIF; a Lean Startup approach.
Each quarter, we re-evaluate the needs and the progress, making adjustments to accommodate for additional human or other resources, as needed, to reach the required momentum. And then, annually, we will decide if we should persist or drop the effort — which is rare, but it happens, on occasion.
At the end of the day, while our journey from concept to growth may take a few years, generally speaking, that’s all there typically is to it!
TL;DR
There are quite a few different options for a new entrepreneur to help them get started on their new idea or venture. An Angel Investment is probably the least intrusive option out there, with the least amount of paperwork and administrative workload. And, it also comes with advantages, like insights into our knowledge and experience and, why not, some follow-on funding, if all goes well.
Together with our Venture Building program, it’s the most viable and easy option for a startup to get started and be on its way to success, with capital efficiency and resilience. And, while it takes time to see the fruits of your labor, it still remains the most straightforward approach to building your idea into a healthy business.
We know, because we’ve done it repeatedly, with Abzorba Games, Epignosis and Yodeck. So, why don’t we build something together? Your funding is here!