What Is An Angel Investor?

When it comes to the world of business, it takes money to make money. However, having the money, to begin with, is one of the largest hurdles for startup businesses to overcome. While most small business owners borrow money from family and friends, other business ideas just need more money than what friends and family can provide.

In cases like this, business owners have a few different choices. They can go to a bank, which traditionally will not invest much into a new business as there is no track record to secure their confidence they will get paid back. The other option is to go with a capital investment firm or to seek out angel investors. Let’s focus on the latter and talk about what Angel Investing is and how it plays a role in businesses growing and becoming successful.

Angel Investing 101

First of all, let’s define what an Angel Investor is an individual who makes investments in startups that have a solid business plan and that have the potential to grow quickly. In the past, only accredited investors, meaning people that have more than $200k in annual income over the last two years, or who had $1 million of investable assets were eligible to become an angel investor. An example of an Angel investor that meets this criterion would be someone like Hari Ravichandran.

However, this has changed. According to Title III of the JOBS Act, nonaccredited investors whose income or assets are below the listed limits above can now participate in angel investing through different crowdfunding platforms.

Now that anyone can essentially be an angel investor if they so choose, it’s important for the investor to ask the right questions of startup businesses to make sure they have a full understanding of the vision of the company and to have confidence in their business plan. Understanding what that business is up against when it comes to competition and roadblocks is also something important to understand to make sure an angel investment is worth it or not.

How Does It Work?

In most cases, a startup borrows money from a bank that needs to be paid back in a certain amount of time. The key difference between traditional lending and that of angel investing is that when an angel investor gives startup money, there is no debt created and there is no money that needs to be repaid. Instead, the angel investor gets an equity share of ownership into the company. The amount of equity given is different based on every angel investment, as well as the size of the investment given.

The main ways that angel investments happen are in the following ways:

  • Friends and Family Round – In many startup environments, there is usually a round of funding where friends and family can provide funding. Angel investors will list these individuals as non-accredited investors on the subscription agreement.
  • Angel Groups – This is a very common way angel investors operate as the group of angel investors all take a cut of the ownership depending on how much of their pooled money is used to invest.
  • Syndication – The biggest difference between this and the angel group is that one person is leading the investment pick. Syndicates are typically very experienced angel investors who have a good track record of making good investment picks. The syndicate leader typically receives a commission of 20% based on the success of the business. The biggest advantage here is that the risk is much less as the syndicate’s reputation is on the line and can quickly lose their position as a syndicate if too many deals go bad and don’t turn a profit quickly.

Risk And Reward

As is the case with any investment, risk and reward are the two main factors that come into play. When an investor wins, the reward far outweighs the risk, but there is always a risk. The risk entails economic environments and sways, natural disasters, pandemics, etc. Some of these risks are unforeseeable, which is why it is important for any investor to understand that risk always exists. However, many risks can be acknowledged and avoided with savvy business practices, a solid business plan, and efficient processes. Choosing a startup that exemplifies these things is very important as it can give the investor confidence that the business will be able to work through different challenges and adapt to changing economic circumstances as they come up.

Experience in the industry you are investing in is huge. If you’ve ever watched an episode of Shark Tank, it’s clear that the investors pick businesses they understand. The reason for this is that they have confidence their experience will help them to ensure the new startup has the guidance and network it needs in order to increase its chances of success.

Share this post:

Leave a Comment