When trying to get your business off the ground, having a mentor or a “North Star” to help guide and support you through the ups and downs can be invaluable. That’s where angel investors play a decisive role, providing not just wisdom, guidance, tips and support, but the all-important capital you need to kick-start your journey. Recent estimates credit angel investors with pumping around $25 billion into small businesses each year, helping to grow more than 70,000 startups.
What exactly is an angel investor?
An angel investor is a private investor with a high net worth, who gives small startups or entrepreneurs the financial backing they need to get their businesses off the ground. The financing could be in the form of a one-time lump sum or via an ongoing injection of funds. Sometimes it’s in exchange for ownership equity in the company.
An angel investor doesn’t need to be accredited by the Securities Exchange Commission (SEC), but many are. If they are accredited, it means they’re required to have a net worth of $1 million and an annual income of $200,000 (or $300,000 jointly with a spouse).
What are the backgrounds of angel investors?
Chances are, angel investors understand the plight of small business owners and entrepreneurs more than anyone. A comprehensive new study found that 55% of angel investors are themselves a founder or CEO of a startup. Not surprisingly, those angel investors with entrepreneurial backgrounds tend to have more success (41.7% positive exits) than those who don’t (34.7%).
In addition to providing funds, angel investors also provide valuable experience and resources to startups, often filling advisory roles, board seats and management roles, as well as giving mission-critical mentoring and acting as lead investors. The most common industries they invest in are technology (51%), financial services (39%), healthcare (31%), consumer goods & services (21%) and education (18%).
How are angel investors different from other types of investors?
Banks vs. angel investors
While you could obtain a business loan from a bank, they’re generally not too keen on taking risks. That means you’ll probably have to jump through a lot of hoops to get a loan, like an excellent credit rating, a flawless business plan and other criteria.
Angel investors, on the other hand, are often entrepreneurs themselves, and they know firsthand how startups work. Many feel like they have a “nose” for business and can spot a great idea, despite your creditworthiness. For those reasons, they may be more comfortable with taking risks.
Another big difference: if you get a bank loan and the business fails, you still have to pay it back. The angel investor is taking the risk with you; if you lose money, they lose money. If you do decide to go the bank route:
- Choose a bank you have a relationship with already. This familiarity could help you get better terms (e.g. lower rates and fees) as well as a higher level of personalised customer service.
- Look into loans backed by the Small Business Administration (SBA). SBA loans have flexible terms, low rates and they guarantee up to 85% of loans of $150,000 or less, and 75% of loans of more than $150,000. That sweetens the pot for banks who may not otherwise lend you money.
Peer-to-peer (P2P) lending vs. angel investors
Also known as marketplace lending, P2P lending consists of an online platform that connects startups or small-business owners with investors. The site isn’t doing the lending; it’s merely the facilitator. Many startups prefer using this online method, which allows you to quickly find loans in just a few clicks, without making a trip to the bank. Other benefits include competitive rates, easy application process and quicker results.
In fact, P2P lending is among the fastest-growing segment in the financial lending market, projected to reach $150 billion by 2025. Some popular P2P websites include:
- Funding Circle
- Prosper Marketplace
- CircleBack Lending
Venture capitalists (VCs) vs. angel investors
While angel investors put up their own money, VCs work at venture capital firms and invest other people’s money (held in a fund). If you’re a business that needs a substantial infusion of cash fast, this may be for you. But once you get it, be warned: VCs expect your business to make that money multiply quickly.
While you don’t have to pay back the money (like with a traditional loan), you’ll likely give up equity in your company. Plus, VCs expect a steeper and quicker return on their investment, which usually means VCs are better for businesses looking ahead to an acquisition or an IPO in the near future. If you plan on running your company for the long haul, VCs aren’t for you.
Personal investors vs. angel investors
Securing money for your business through friends or family may seem to be a quick, easy route. After all, you don’t need to have perfect credit, nor do you need to give up equity in your business. But mixing business with pleasure can wreak havoc on your personal life.
Another downside to personal investors is they don’t bring to the table the experience, mentoring and connections that angel investors do. If you do go this route, however, treat it like a business deal. Have everyone sign the proper documents, clearly stating the repayment or partnership terms.
How to choose an angel investor
If you’ve considered all your options and ready to choose an angel investor, how do you go about it? Here are some tips:
- Go to entrepreneur-focused events and network with people.
- Look for relevant speakers and publications.
- Be active in your community. Good mentors are often discoverable.
When you do find an angel investor, make sure that he or she is a good fit for you and your company. Here are some questions to ask yourself before deciding:
- Is this someone who has in-depth knowledge about my industry?
- Do they have a successful track record growing a startup from start to finish?
- Do I connect with them personally and share their values?
- Can this mentor help me grow not only as a new business owner but also as a person?
- What other influential people, like distributors or advertisers, can they introduce me to?
- How can they help with business strategy and planning?
- Can they help build or refine my business plan to circumvent known issues?
- Will they provide insight on how to and when to best scale my business?
- Does their previous experience help them identify the right candidates to hire?
Having the money you need to get your business or idea off the ground is a critical step in making your dream a reality. Perhaps even more important is having an experienced mentor and entrepreneur to guide you to long-term success. That’s where angel investors can play a crucial role.