How Angel Investors Work
Who is an Angel Investor?
Angel investors are a group of investors that invest in entrepreneurs and small scale startup businesses at the early stage of their formation. Angel investors are also known as private investors or informal investors. These investors are individuals with a high net worth, who have the ability to invest their personal wealth in new ventures. Their contribution is not limited to financial capital but also to industry knowledge and expertise since they are typically former employees who have held senior management positions in reputable organizations or successful entrepreneurs. Further new businesses can also benefit from the networking contacts that angel investors possess.
Main Objectives of Business Angels
- To earn a high Return on Investment (ROI)
- To contribute with business knowledge and expertise to the new venture
- To gain personal satisfaction by sharing knowledge and helping out a startup business grow
How Angel Investors Work
It is vital to have a lucrative business plan to approach a business angel and to obtain their interest in investing in your business. It is very unlikely that a business angel will be willing to invest in a ‘business idea’. They will be more interested in investing in a business that is already started through some form of capital (personal funding of the founders\ loan capital) in order to provide expert knowledge to assist in further developing the business. If a startup business is interested in considering gaining access to funds through a business angel, they should present a sound business plan with clear strategic goals for the near future, preferably for the next 3-4 years. The Business Plan should be 30 pages maximum, including financial projections. Other information can also be added as appendices. The Business Plan is required in order to construct a project proposal which is investor ready.
The key areas that should be reflected in the business plan are,
- The financial forecasts and budgets for the next 3-4 years
- Other forms of finance acquired/ planned to acquire in the future other than the funds from business angels and the repayment options
- Key roles and responsibilities of the team members
While a Business Plan is a key document in terms of providing insights as to how the business will expand, develop and scale as well as a tool to attract investment, it is unusual that a business angel will read a full Business Plan. Therefore, one page summary of the key points in the Business Plan needs to be produced and it is this which is distributed to potential investors/angels.
In addition, the founders of the company should be,
- Focused on generating cash flows
- Have a good understanding of the market conditions that affect the operations of the business
- Be open to new ideas and value the knowledge of others
- Be sufficiently courageous to face business failure and have the ability to recover fast
- Result oriented
- Have a strong team with the skills required to grow
Obtaining Finance from an Angel Investor
Following the initial negotiations, it typically takes at least 3-6 months (can take further time in some cases) for the actual cash payment to take place. The financing process requires dealing with and signing legal documents and can be time and resource consuming. The return on investment for the provided capital may generally range between 20%-30% of profits.
Ongoing Relationship with an Angel Investor
The founders/entrepreneurs should be enthusiastic about establishing a healthy relationship with the business angels. Since the investment is not secured, it is very important to make the business angel sufficiently comfortable with the actions and decisions made by the managing personnel. Some angel investors will require an equity stake in the business while others perform a similar role to a non-executive director in a public company, who provides an advisory role.
Terminating the Relationship with an Angel Investor
Once the business is well established and is expanding, the angel investors will withdraw himself/herself from the business. The minimum or maximum period of time that the business angel is to be involved with the business may be decided at the beginning of the agreement. On the other hand, any unforeseen circumstances such as a dispute between the founders and the business angel may also lead to a termination of the original funding arrangement.