What are the pros and cons of angel investors?
Angel investors have come to be a very big part of the startup ecosystem. They can be highly desirable connections for startup entrepreneurs seeking funding. Many hyper-successful entrepreneurs end up becoming angel investors themselves.
However, before you go rushing in to create a pitch deck for them, stalk them and ask for money for your startup business, it’s smart to know what the pros and cons of angel investors are.
The Ultimate Guide To Pitch Decks
What Are Angel Investors?
Angel investors are typically individuals who simply have the money to help fund startup businesses. They can be professional investors. Though they may also simply be professionals who have the cash and are excited about putting their capital into this asset class and helping others get their new ventures off the ground.
This can include university alumni, doctors, lawyers, CEOs, high income earning tech workers, and other entrepreneurs. Including those who have recently had successful exits of their own.
While angel investors often work alone, they have also increasingly been teaming up as angel groups to spread risk, benefit from the efficiency and gain access to deal flow.
The Pros Of Angel Investors For Startup Fundraising
Angels are one of the first stops on the way to the big money
After raising your friends and family round, angel investors are typically your next round before moving onto VC and strategic startup capital.
You’re unlikely to leap right to venture capital funds. It does happen. Though angels write certain sized checks, based on early stages.
This is the money you need to seriously get started, build out your team, prove your concept and hone your business model. All before you are ready to put real liquidity in to scoop up the market and go really fast.
Easier To Raise Money From
The good news is that angel investors can be relatively easy to raise money from.
Angels are more willing to take risks than other types of investors, like big funds and banks. In one sense they have to at this stage. They also understand that investing so early has the potential to create the biggest gains and wins. Not all will pan out. Though the wins can more than make up for the losses.
It’s not unusual for angels to fund you simply based on your business plan and who you are as the founding team. This is even easier if you have a personal relationship already established with them.
Angels Are Easier To Work With
Not only can angel investors be less demanding when it comes to pitching, but getting from a yes to money in the bank can be a lot easier too. You may not have to jump through all the due diligence hoops and processes and hundreds of people involved that you will deal with later on.
If you ever have to pivot or things are going wrong, angels may be more understanding and easier to work with too. On the DealMakers Podcast, I’ve even interviewed founders who have failed on their first startup, and still got their angels to reinvest in a new venture or allowed them to roll the money over into a new project.
Introductions To The Next Level
Experienced angel investors will already have a network of more sophisticated investors. They should know the private equity, VC partners and strategics who may want to fund your next round.
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They can make those warm introductions and recommendations during the startup fundraising process. That can make it a lot easier when you need that bigger check at your next round.
The Cons Of Angel Investors For Startup Fundraising
One of the real cons and limitations of angels is the check sizes they write. Individually, they are probably not going to write you that $2M check. They may not have the funds to participate in the next round. You may solve this by working with angel groups. Or you will have to piece together funds and manage a larger number of investors.
Besides Mark Cuban and the rest of the cast of Shark Tank, most angel investors are not well known. They are not highly visible. Unless you personally know them already, it can take some serious work to hunt them down. Or you are investing a lot into joining crowdfunding platforms and tapping their lists of active investors.
Giving Up Equity & Control
Bringing in money from angels is done in exchange for giving up equity and control. The earlier you raise, often the large percentage you are giving up. The longer you can afford to bootstrap, the less you will give up and on better terms for you.
Not As Experienced Or Organized
Many angels are not professional investors or startup experts. They are excited about participating. They may be happy to fund you and take some equity. They just might not have experience in taking a new startup through to being worth billions and an exit. They may not know how to best prepare for the next round or an IPO. This is where having an M&A advisor and pro fundraising consultant will make all the difference.
When it comes to the pros and cons of angel investors, they may not have an organized due diligence process. Which can be a pro or a con. They may not always vote your way in the future if they don’t understand your decisions from experience.
Remember that storytelling plays a key role in fundraising and you will need capital to scale things up. This is being able to capture the essence of the business in 15 to 20 slides. For a winning deck, take a look at the template created by Silicon Valley legend, Peter Thiel (see it here) that I recently covered. Thiel was the first angel investor in Facebook with a $500K check that turned into more than $1 billion in cash.
Remember to unlock the pitch deck template that is being used by founders around the world to raise millions below.
I also go more in detail on the pros and cons of angel investors in the video below which I believe you may find interesting.
FULL TRANSCRIPTION OF THE VIDEO:
Hello, everyone. This is Alejandro Cremades, and today we’re going to be talking about the pros and cons of angel investors. Let’s face it. Angel investors are going to be one of the critical figures that you’re going to go after when it comes down to really needing capital to getting that cash infusion so that you can continue to build and scale your business. Now, there are pros, and there are cons on getting money from angel investors. In this video today, we’re going to be covering what are all those pros, and what are all those cons? So, with that being said, let’s get into it.
Angel investors, in a sense, what they are is individuals that are in a position of maybe like a senior leadership role, or maybe they’re a successful entrepreneur that already did an exit in the past, and they have the money to invest in early-stage companies. Those are the people that ultimately invest anywhere between 5-10% of their portfolio into risky investments, which are startups. Essentially, the term angel investor came back in the day from those investors that were financing Broadway shows. They were not a good investment back then, and that’s why they were called angels because that was money that they were giving, and typically, the returns were not that great.
In this case, it’s not an angel investor, that individual that you see on LinkedIn with the “Angel Investor” title. Those are going to be the ones that are going to make you work a lot for just $5,000 in terms of an investment. The angel investors, at the end of the day, are those that are CEOs, that are senior executives with a great salary, and they’re going to be investing in you because they like your segment, because they understand it, because they are inspired by your story, or because they are inspired by you. That’s why those angel investors make those investments.
They either do the investments directly, or they make the investments via angel groups, which are associations or entities where all those angels come together, and they invest essentially either all as a group, via perhaps as a special-purpose vehicle, which is like an LLC, or perhaps via funds. Now, you see many of those angel groups investing via a fund.
In terms of the cons of the angel investors, they’re always going to be that first stop for startups. That’s going to be the first money that comes in after the friends and family round, the people that love you, and that money that you’re going to be using over the course of your seed financing cycle in order to get to the Series A, which is the next round, where you have for the first time venture capital firms and other institutional investors investing in your business.
Now, the beauty here of angel investors is that they are a very nice segue in order to get to those institutionals, and they can also be very helpful specifically if they know your space, and if they can make perhaps introductions around potential other investors, around distribution and business development deals, and things of this nature where essentially it really helps you to move things forward and to achieve your milestones faster and better versus if you were to do it on your own.
Next is that it’s really easy to raise money from angel investors if you were to compare to perhaps institutional investors. The good thing here about angel investors is that they’re investing their own money. We’re talking about smaller checks. We’re talking about checks that range anywhere between, let’s say, $5,000, the smaller checks, all the way to up even $50,000 if it’s angel investors. Now, if it’s “super” angel investors, people that have more money like successfully exited entrepreneurs that have sold their business, those have up to even $4 million that they can put into companies, and they typically do that via family offices. But, typically, the check ranges between $50,000 to $100,000 for these investors if we look at the median average. But everything starts, really, at $5,000. Those are the smaller check sizes.
In essence, the good news here about the angels is that it’s going to help you to get to where you want to go and get those introductions to the people that you need. And since they’re investing their own money, there’s not going to be heavy due diligence, going through different rounds of meeting with advisors of that VC, or things like that, because you’re essentially dealing with individuals. That’s the good thing about angel investors in which it is an easier and faster investment and less due diligence versus if you were going to go, let’s say at a later round to an institutional where there are different ways and different processes that they need to have in place in order for them to make an investment in your business.
The next thing is that angels are really easy to work with. At the very early stage when you’re at a seed-stage financing cycle, basically, what you’re going to see is that you’re going to be iterating the product, the service, and trying to get it to product/market fit, which is when it fits with the market, it covers that gap that is there, and then the product starts flying off the shelves. That’s really where you want to get it, but at this point, you’re testing a lot.
The problem is if you were to get an institutional investor like a venture capital firm, and you need to do a pivot, basically, it’s going to be a turn-off for them. They’re potentially not going to make another investment in your next round of financing, and that sends a negative signal to the market because other people are going to be like, “Hold on. This investor has the money; they’re not investing in this business, so there could be something wrong with the business, and we’re absolutely not investing.”
The good thing about an angel investor is that they’re the complete opposite. If something is not working, they’re going to roll up their sleeves, they’re going to help you in searching and finding that product/market fit and getting it to the next level or the next financing cycle, which is going to be the Series A in this type of lifecycle of a business, and when those capital firms would come in. At that point, you have the business model figured out.
So, that’s the good part about the angel investors is that they’re easy to work with. They’re going to be more understanding, and they’re going to have more patience when it comes to understanding how to get to your customers and give them what they need.
In terms of the disadvantages of the angel investors is that we’re talking about small check sizes. Again, going back to what I was saying earlier, it’s going to be on the smaller scale, so versus a venture capital firm that is going to give you anywhere between $2 million and let’s say $10 million if you were to do a Series A. On a seed round where you’re going for angel investors, what we’re looking at is anywhere between $5,000 to maybe like $100,000 on average. Obviously, you have the exception where it goes over $100,000, but you’re going to see anything of $100,000 and under.
So, with that being said, you’re going to need a lot of angel investors if you want to raise a big amount. For that reason, your cap table may become a little bit of a mess, so you want to be very careful with that, and if it comes to that point, one thing that you could use is a special-purpose vehicle where you group all the investors into one single entity and add one managing member that would represent all those investors.
And if you need to do another round of financing or an acquisition, rather than chasing all those dozens of investors, you only go after the managing member. Again, those SPVs, you can group them up to 99 individuals. So, it’s a fantastic way to keep your own cap table and the way that you’re recording who is investing in what and how you’re chasing for signatures to make it clean and organized.
The next thing that you want to keep in mind here in terms of the cons is that it’s very hard to find them. As I was mentioning, the angel investor, the best ones, they’re not going to be on LinkedIn with that title of “Angel Investors.” Those are going to be individuals that essentially you’re going to have to be introduced by someone else, that maybe someone is going to tell you about that maybe you may be able to find something online via websites like PitchBook or CrunchBase, but it’s very difficult to find them if you were to compare that with, for example, the venture capital firms where they really like to be on the press, where they want to announce the companies that they’re investing in.
Another tool that you could use for finding angels is AngelList. AngelList is a great universe that they’ve created there where they group all these investors into one single place. Now, the tough thing about AngelList is that it’s very difficult to be able to connect with people that you don’t know, so it’s more about signaling and people that you have in common versus being able to reach out cold and things like that.
Maybe a place where you can start is CrunchBase, where some of your direct and indirect competitors have been receiving the money. In many instances, CrunchBase provides investors. So what you will want to do here is grab founders of portfolio companies meaning that they have received money from those investors and ultimately ask those founders for an introduction to that specific angel investor that you want to target.
The other disadvantage is giving up equity and control. Obviously, here, you’re going to be raising on an idea for the most part. You’re going to be raising on possibilities. You’re going to be raising on the future. In many instances, those investors are going to ask for significant amounts of equity upfront.
The problem here, which is something that you don’t encounter as you continue to go forward is that on future rounds of financing, you already have something more tangible that the investor can look, that the investor can feel, and essentially, it’s going to be more based on historicals where the business is already up and running.
You have to be prepared to give a significant amount of equity, but again, you need to keep in mind the rule of thumb, and that is that it doesn’t matter. The financing cycle that you’re in, you’re never going to dilute yourself by more than 20% to 25%. Otherwise, it’s going to be very difficult for you to have a good exit, yourself as a founder, not as a company itself because you need to think what’s going to be your founder exit down the line, and for that, you need to really understand what that may look like today if you were to look into the future and reverse-back engineer the process to where you are today.
The next disadvantage is that angel investors are not as experienced, sophisticated, or organized as the venture capital firms would be or any other institutional investor. Again, those angel investors are investing for fun. They’re investing on the side. They’re investing a small percentage of their own money, and for that reason, they’re not professionals, meaning full-time at it for the most part.
These are not going to be people that are going to be on top of it. They’re not going to be providing that level of sophistication that maybe a venture firm is going to bring where they bring a network, and so forth. In some instances, I think that you could balance that disadvantage by maybe getting an angel investor that is a successful entrepreneur, that in the past has built a business that is similar to yours where they bring their own networks. But for the most part, what you can expect here is that angel investors are not going to bring that level of value that perhaps you may be getting from a venture capital firm.
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