What is angel investing and can a regular investor become one? A typical angel investor is someone with a significant amount of money who can put up that crucial capital that a startup needs. Hence the word angel. Usually, startups raise capital from angel investors during the very first stages of their founding. Companies can use money from an angel investor to:
- Get the company off the ground during the early phases
- Purchase more inventory they can use to fill orders
- Purchase equipment they might need to run the company
- Hire more staff
Today, thanks to technology and vast startup opportunities, anybody can become an angel investor. So the meaning of the word has slightly changed, and anybody who invests in startups on their own and not as part of a venture partnership can call themselves an angel investor.
Like any other investment opportunity, an angel investor wants to see a return on their investment. Usually, investors put up some capital in exchange for a percentage of equity or, in other words, ownership in the company. Then eventually, after the company grows, they sell their share for a profit. An angel investor might also provide their expertise to the founders or leaders of the company to guide the business in the right direction.
How angel investors find potential startups?
Many companies are interested in recruiting angel investors; however, they usually have to pitch the company to the investor first. Then, they have to clearly explain why they want the money and what they will use it for. Sometimes, they might have an exact dollar amount in mind. In other cases, they might ask the investor for some input. Finally, there is a negotiation between the angel investor and the company before agreeing to the terms. Countless books teach how to make a perfect pitch, but at the end of the day, it comes down to how good your business is at its potential and some luck in finding the right investors.
Meetups are a great way to find startup founders.
Meetups are the quickest way for potential angel investors to meet with startups. Although this option is reserved for more seasoned investors, it is a great way to get started. Investing is all about acquiring enough information to make an intelligent capital allocation decision. If you want to become an investor in startups, you need to start acquiring information. You can’t learn this from the books. You have to show up and talk to people. See what is currently trending in the startup world, what people are working on. Talk to other investors.
The best thing, these Meetups are free but are invaluable. So grab a friend, go to Meetup.com. Then, in the search bar, type in: “Startup” and your city.
You don’t have to be in San Francisco, although being in a bigger city helps. You will be surprised how many of these meetings happen in smaller towns.
The Pros and Cons of Angel Investing
Before becoming an angel investor, it is important to take a look at the pros and cons. A few of the biggest benefits of becoming an angel investor include:
- There is a potential to make a lot of money, from thousands of dollars to millions. It might be possible to generate massive returns that might not be found anywhere else. It is rare, but it is possible.
- Typical angel investors can also influence a company. An angel investor could make a significant investment in the company and use their expertise to guide the company in the right direction.
- Becoming an angel investor is also an opportunity to diversify a portfolio. Most people think about stocks, bonds, and mutual funds when it comes to diversification; however, becoming part-owner of a company can add an entirely new element to the portfolio, opening up new opportunities.
There are, of course, some drawbacks:
- Becoming an angel investor is incredibly risky. While angel investors could enjoy significant returns, there is also a chance that an angel investor could lose some or all of their money. Startups fail all the time and with them goes all the invested capital. Remember, you are not providing debt service. You are buying a piece of a startup, and with that, you assume all the risk of a partial business owner.
- It requires a lot of research to find startups that will be successful. Not every company will hit a home run, and it can take a long time to find the diamond in the rough.
- Traditional angel investing is an incredibly complex endeavor, from lawyers and term sheets to board meetings and all the ups and downs of investing in a newly formed company.
Every company is different, and every investor has a different area of expertise. So the best way is to invest in startups that narrowly focus on something you have deep knowledge about.
What Should You Look For in an Investment Opportunity?
If you are looking for a company to invest in, you need to know what questions to ask and what to look for. After all, you could be putting up a significant amount of money. You want to maximize your chances of this money coming back with a Facebook-sized return. Also you need to think about this process as you would a stock investment. You want to know about margins, revenues, costs, and historical trends. You might also want to do some market research to learn more about the sector. There are several factors you need to keep in mind. These include:
- How much money does the company spend making its products or services? What is the overhead expense of a single unit? For example, if the company makes microchips, how much does it cost them to make this product?
- How long has the company been in business? Since that time, how have the costs and revenue changed? How much did the company spend in its first year? Ongoing earnings potential? Fixed costs? How much does the company think it is going to bring in and so on?
- Does the company see its costs increasing in the near future? If so, why?
- Does the company have too many people? Are the overhead expenses taking a major bite out of its profit margins? What would happen if the company laid off some of these people?
- Who are the major competitors in the industry? What are some of the competitors doing? Why do people choose the products or services from this company instead of the competitors?
- How much cash does the company have? What does it plan to do with this cash? How much debt does the company have?
These are just a few of the questions that an investor needs to ask before deciding to invest in a company. It is essential to look at revenue trends over time and not just single reported figures.
It would help if you also thought about the people who run the business. What are they like? Investors need to make sure they are on the same wavelength as the company team. Communication is critical when it comes to making business decisions.
Okay, that is for traditional, experienced business folks who want to invest some of their money in startups. What about us, regular institutional investors? We want to diversify our portfolios with a few startups but don’t have $60-$100k to drop on a single startup you got pitched in a local Starbucks.
For us, we can thank crowdfunding platforms. Think Kickstarter but for whole businesses.
How to become an angel investor with little money?
In the past, angel investing was only an option for people with capital, connections in Silicon Valley, and maybe a Stanford MBA. Now, it is possible to become an angel investor with a more diverse pedigree, thanks to crowdfunding. These are a few of the most popular options:
- SeedInvest: SeedInvest is a company that is open to non-accredited investors, removing a common barrier. One of the significant benefits is that people can invest with as little as $1,000. Furthermore, SeedInvest has a vetted list of companies. Less than one percent of companies that apply for admission to the platform are accepted, so investors know they are getting a curated list of companies that should have bright futures.
- Start Engine: Start Engine was founded in 2011. To date, the company has raised more than $350 million. Minimum capital requirements are pretty low. The downside is that the company is still relatively new.
- AngelList: The minimum investment is $50,000, so it is still relatively large. There are funds to choose from in various categories. Each fund has a different set of characteristics, so it is possible for angel investors to pick the sector they know best and get a small piece of each of these companies.
These are just a few of the many available platforms for those looking to become an angel investor. When trying to choose a platform, investors need to think about the types of companies that are on the platform, the minimum amount of money required to invest in a company, and any commission the platform may take. In addition, new platforms are launching all the time, so there are lots of options out there.
Think that angel investing might not be your thing? If you are looking for more traditional investment options, look no further than our investment guide.