If you have not been successful in your efforts to secure funding for your latest business venture, an angel investor might be your answer. An angel investor specializes in offering financial backing for the small-business owner and entrepreneur within your startup stage and beyond. As the funds they bring to the table may make all the difference in whether your concept ever gets off the ground, there are a few trade-offs you must be alert to.
Pro: An Angel Investor is willing to take a Risk
Being eligible for a small-business loan typically entails hopping through a few hoops — challenges you might not be faced with while dealing with the angel investor. This is because these, "angels," are often established entrepreneurs themselves, who comprehend the level of involved risk and are at ease with taking it on. Even if the bank agrees to offering you the funds, they might restrict the quantity you’re able to borrow to curb the possibility for their loss. On the other hand, angel investors usually do not balk at making a bigger investment if they believe in the organization’s potential. An angel investor can usually, "smell," a good idea and a good deal.
Con: An Angel Investor Might Set the Bar Higher
The disadvantage of the angel investor’s higher tolerance for risk is that also they usually have higher expectations. They are in business to earn money, and as there is a significant quantity of funds on the line, they are going to want to witness a payoff, just like anyone else is. It isn’t unusual for an angel investor to expect a rate of return that equals 10 times their original investment inside the first 5 – 7 years. When you are being held to this type of standard, the pressure to generate may be intense. If you are considering angel investors, you must determine whether the startup is within a position to expand at the rate the investor expects.
Pro: Money is not a Loan
As you take out your small business loan, your bank will expect you to repay it, irrespective of whether the venture actually succeeds. An angel investor operates inside a different framework. They’ll offer you the capital needed to get the ball rolling, and in exchange, they receive an ownership stake in your company. If the startup takes off, you’ll both reap the financial rewards. If your company falls flat, on the other hand, an angel investor won’t expect you to pay back the offered funds.
Con: There will be Strings Attached
Though you aren’t officially obligated to pay back your investor the capital they offer, there is a catch. As you hand equity over in your business as a portion of the deal, you essentially are giving away a portion of your future net earnings. The percentage of ownership the angel investor requests usually depends on how much they are investing. If you expect the startup to be extremely successful, it might add up to lots of money you will not have the ability to lay claim to. As you have an offer on the table, carefully assess the terms to ensure the quantity of ownership the investor is asking for does not eat into your own capability of realizing a profit.
Pro: Odds of Success Rise
Angel investors typically bring years of expertise to the table of a start up and they already understand the ropes it’ll take to bring success to your starting a business. Scientists from the Harvard Business School discovered that ventures backed by angel investors are more likely to remain in business longer, have substantial growth, and witness a greater rate of return. If you are seeking guidance and advice in addition to funding, angel investors offer a plethora of precious knowledge.
Con: You Aren’t in Full Control
An angel investor won’t shell out the big bucks without taking an interest in how the funds are used. If you are expecting them to take a hands-off approach, you might be in for a rude awakening. It is more likely that the angel is going to want to take an active part in making decisions which affect your organization’s outcome. Even if they give you control, you will still be accountable for explaining the reasons behind some of your decisions. Prior to starting to look for your angel investor, you must ensure that you are at ease with permitting somebody who isn’t intimately familiar with you or your business to play a role in how it is run.
FAQs
Disadvantages of angel investors
Many business owners give away between 10% and 50% of their startups in exchange for funding. Pressure: Angel investors may expect a substantial return on their investment, which can create additional pressure for you and any employees.
What is the potential downside of obtaining funding through angel investors? ›
Disadvantages of angel investors
Many business owners give away between 10% and 50% of their startups in exchange for funding. Pressure: Angel investors may expect a substantial return on their investment, which can create additional pressure for you and any employees.
Why are angel investors good for startups? ›
An angel investor provides initial seed money for startup businesses, usually in exchange for ownership equity in the company. The angel investor may be involved in a series of projects on a purely professional basis or may be found among an entrepreneur's family and friends.
What are two benefits of using angel investors to help start a business? ›
Advantages of business angel financing
- BAs are free to make investment decisions quickly.
- no need for collateral ie personal assets.
- access to your investor's sector knowledge and contacts.
- better discipline due to outside scrutiny.
- access to BA mentoring or management skills.
- no repayments or interest.
Angel investors look for start-ups that offer a strong potential for growth and will produce high returns on investment (ROI). The precise ROI rate is subject to the individual angel investor and the nature of the business deal, but usually, angel investors expect to see a 30-40% ROI over a three to ten-year period.
What are the most common problems with angel investors financing? ›
Loss of control and ownership: the most obvious disadvantage of raising financing through angel investment, is the loss of ownership and control of the company as founders may find themselves giving away between 10% and 50% of the shares in their company.
How much percentage do angel investors take? ›
One big disadvantage is that angel investors typically want 10% to 50% of your company in exchange for funding. That means business owners could lose control of their business if the angel investors determine they're keeping the company from succeeding.
Do you have to pay back angel investors? ›
If your startup fails, angel investors won't expect you to repay the funds they gave you. On the other hand, you'll still have to pay back the loans you took out, which can be a major financial burden.
Why is angel investing risky? ›
Early stage investing is an inherently risky way to invest. The list of high level risks is long and includes financing risk, technical risk, and market risk. As angel investors, you need to be aware of the key risks you are taking with your investment.
How do angel investors get their money back? ›
Angels get their payback through an exit that lets them liquidate their stake and potentially make a profit that's based on the percentage of the business they own. Generally, investors will pre-plan the details of the exit when negotiating the term sheet before they invest in the startup.
Loss of control
The primary disadvantage of the business angel funding model is that business owners commonly give away between 10% and 50% of their business start-up in exchange for capital. After investing their money in a business start-up, most business angels take a proactive approach to running the business.
What is the success rate of angel investing? ›
How profitable has angel investing been in the period leading up to 2020? The data scientists at AngelList analyzed 10,665 investor portfolios. The analysis showed that the realized and unrealized IRR for all the investments is 15%. The 2007 study above only examined realized IRR.
How much do angel investors expect in return? ›
However, successful investments in early-stage companies can provide substantial returns. On average, angel investors and venture capitalists aim for ROI in the range of 20% to 30% or higher. But remember, these figures can vary greatly depending on the specific investment, industry, and market conditions.
How much do you pay an angel investor? ›
For example, a company that's valued at $1 million might sell 20% of its equity, worth $200,000, to an angel investor or an angel group. Generally, angel investors are interested in high-growth, high-potential startups that can earn them several times their original investment.
Is Shark Tank angel investor? ›
An angel investor is an individual who invests in startups usually in exchange for an agreed-upon percentage of ownership in the company. So, while by definition these Shark Tank hosts are, in fact, angel investors, they look and act differently than the angel investors who invest beyond the tank.
Why are angel investors a better option for startup ventures than venture capitalists? ›
VCs often have extensive industry experience and can provide valuable advice and resources to help businesses scale faster, while angel investors may offer more hands-on mentorship and guidance. VCs typically require larger equity stakes than angels do in exchange for their investment.
What are the risks of angel investors? ›
Early stage investing is an inherently risky way to invest. The list of high level risks is long and includes financing risk, technical risk, and market risk. As angel investors, you need to be aware of the key risks you are taking with your investment.
What are the disadvantages of receiving investment funding? ›
Disadvantages of investment funds
Investing, wherever and whatever your profile, involves market risk. This risk is the possibility that the value of the asset may fall. For example, if you invest in a stock, that stock may lose value.
Which of the following is a drawback of utilizing angel investors as a funding source? ›
One drawback of utilizing angel investors as a funding source is the potential loss of collateral. Angel investors may require collateral as security, which could be a risk for the entrepreneur. Additionally, another drawback is being forced out of your own company.
What is a possible downside of obtaining investment from venture capitalists? ›
Depending on the size of the VC firm's stake in your company, which could be more than 50%, you could lose management control. Essentially, you could be giving up ownership of your own business.
