What is an Angel Investor?
We explain everything you need to know about this valuable source of funding.
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August 12, 2019
7 min read
Whether you’re looking for seed investors to get your business off the ground or you need to raise money to expand your business (and your profit), angel investors are worth looking into. But how do they work? And how are you supposed to get one?
That’s what we’re here to explain. So if you want your business to be touched by an angel investor, read on to learn how you can make that happen.
Angel investors 101
Angel investors are individuals who invest in startups and young businesses by providing funding in exchange for equity (ownership shares) in the business. Technically speaking, angel investors must be accredited investors, but increasingly, you’ll see business owners’ investing family and friends described as angel investors—even if they don’t meet the wealth requirements.
The U.S. Securities and Exchange Commission defines accredited investors as individuals or couples with either a net worth of $1 million or consistent income over a certain amount ($200,000 for individuals and $300,000 for couples).1
Not all angel investors work individually, though. There are plenty of investor groups, or angel networks, out there formed by investors who pool their resources to invest in companies.
Some angel investors and angel networks have specific funding interests. For example, Hivers and Strivers is an angel group that invests in the business ventures of US military academy graduates. Likewise, you might find investor groups that fund businesses with founders from minority groups.
How does angel financing work?
As we said, angel investors make a startup investment in exchange for equity. So how much money can you expect to get? Well, the numbers can range from tens of thousands to (rarely) millions. But according to the U.S. Small Business Administration (SBA), the average investment from an angel investor is $330,000—not a bad chunk of change.2
Exciting as that sounds, we want to be clear that angel investors are not just throwing money at your business and hoping you do well. Angel investing is a type of equity financing. So while getting money is great, don’t forget that you’re giving up business equity to get it. How much equity will depend on your specific investment angel and the deal you make with them, but we’ve seen anywhere between 10% and 40%.
Despite the buzz, there probably aren’t as many angel investors as you think. No one knows exactly how many there are, but estimates suggest it’s somewhere around 300,000.3 Angel investors and venture capitalists combined account for just 2% of business financing.4
What the angel investor does with that equity will also depend on the individual, but it’s pretty common for angel investors to get heavily involved with the businesses they fund.
You’ll see lots of active angel investors who see their investment as an opportunity to provide not just money but also advice, mentorship, and networking opportunities. That means you can benefit from the entrepreneurial experience of a seasoned investor, but it also means that you’re giving up at least a little control.
So is the trade-off worth it?
The pros and cons of angel investors
Honestly, there’s a lot to like about angel investors.
Like the fact that they provide financing to startups that haven’t been around long. Getting startup business loans can be difficult since banks don’t want to risk lending to brand-new businesses. Angel investors are more likely to take a risk on young, up-and-coming companies (and young entrepreneurs).
It’s the same with cash flow. If you want to get the best small-business loans, your business will need to have a history of profit and healthy cash flow. But angel investors care more about where your business is going—they may not care if you haven’t had $250,000 in profit for the past two years.
Aside from providing financing to startups that otherwise can’t get money, angel investors provide those mentorship and networking opportunities we talked about above.
Venture capitalists tend to invest in more mature businesses than angel investors do. They also invest higher amounts, but they expect higher returns—and usually bigger stakes in the company (like a seat on the board of directors).
And of course, one of the best benefits of getting money from angel investors is that you don’t have to pay anything back. The money is yours to use for the business.
Which brings us to the big con: losing equity in your business. Again, angel investors can request anywhere from 10% to 40% in your business. With any luck, that will never be a problem because you and your angel investor will get along so well and agree on the direction the business is going. But there is a possibility that your angel investor will use their equity to push the business in a direction you don’t like.
- May fund newer and unproven businesses
- Provides mentorship and networking opportunities
- Doesn’t require repayment
- Requires giving up company equity
- Can be challenging to find an investor
Now you know the pros and cons of angel financing. Still interested? Then let’s talk about how to get in on this source of funding.
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How to get an angel investor
First, make sure your business is a good candidate for angel investing. Angels tend to look for a high return on investment, so if you want to open just one boutique clothing shop and never expand, don’t be surprised when investors pass on your pitch. But if you’ve got a business that will explode—if you can just get the right funding—then you’re exactly what an angel investor wants.
So come with a good pitch. As part of this, make sure to create a business plan that shows business projections with how you plan to achieve your goals. Likewise, you should include information about the market opportunity for your business—what niche are you filling, and who will buy your services or products? Go ahead: prove you’ve got the entrepreneurship to succeed.
Angel investors understand that risk is part of the deal, but that doesn’t mean they want to take needless risks—so make sure your business plan includes an exit strategy. If things go south, how does everyone get out without going broke?
Once you’ve got a good pitch ready, you can find angel investors. There are online directories, like AngelList, but don’t forget to look locally too. Your local Chamber of Commerce may have great leads on investors looking to invest money in local businesses. And if you have a flair for the dramatic, you can even try to get on Shark Tank. There are plenty of ways to find angel investors to pitch to.
However you find your investor, make sure they’re a good fit. While it’s tempting to accept funding from any investor who will give you money, you want to be sure that their vision of your partnership and the company aligns with your own. Otherwise, giving up that equity will be a problem.
But if they like your pitch and you like their style, then congrats! You’ve found yourself an angel investor.
Other funding options
If angel investing isn’t right for your business, you have plenty of other small-business funding options.
For example, if you want another type of funding that doesn’t require you to repay a loan, you can look into grants. Grants will give you free money for your business, making them a super appealing option for most businesses. The downside? Grants require lengthy applications, and they’re highly competitive. Plus, the funds may be earmarked for specific uses. Even so, grants are a great option for free cash.
Then there’s crowdfunding. There are plenty of sites that offer crowdfunding for startups (though Kickstarter is our favorite). You pitch your idea to the world, and if people like it, they’ll help fund your project (usually in exchange for some kind of reward). If your product clicks with people, it can be a boon for your business. But with so many companies competing for attention, you’ll have to invest plenty of time into making your pitch.
And of course, there are loans. Unlike angel investors, grants, and crowdfunding, loans require you to actually repay the money you get, which makes it a less appealing option. But loans are a tried-and-true way of funding and expanding businesses, and you have tons of loan options. So while it may not be your first choice, there are plenty of reasons to get a startup business loan. For the record, we’ve found Lendio to be the best lender for most businesses.
The takeaway
A wealthy angel investor can be a great way of securing your business’s financial future—if you have what it takes to find them, pitch to them, and secure their investment. Sure, you’ll have to give up some company equity, but you’ll receive money and mentorship in return.
Not a bad trade-off, we think.
Have you raised money by getting an angel investor? We want to hear about it. Tell us about your experience in the comments below!
Disclaimers
At Business.org, our research is meant to offer general product and service recommendations. We don’t guarantee that our suggestions will work best for each individual or business, so consider your unique needs when choosing products and services.
Sources
- Investor.gov, “Updated Investor Bulletin: Accredited Investors”
- U.S. Small Business Administration, “Small Business Finance Frequently Asked Questions”
- Angel Capital Association, “FAQs for Angels & Entrepreneurs”
- U.S. Small Business Administration, “Small Business Finance Frequently Asked Questions”
