Angel
investors are high-net-worth individuals who invest in startups in exchange for
a share of the company. Angel investors, in contrast to venture capital firms,
use their personal wealth to finance their ventures. Angel investors, in
contrast to venture capitalists, may be willing to put up with a startup for a
longer period of time and invest a smaller total sum. A public offering or an
acquisition are two common ways for investors to cash out of a company.
Various
sectors can find funding from angel investors. As reported by the University of
New Hampshire's Center for Venture Research, the year 2020 marked the return to
the seed and startup phase of business for angel-funded companies after an
absence of several years. 1 A total of $25.3 billion was invested that year, up
6% from the following year.
Sources of Funding
Contrary to
venture capitalists, who manage funds made up of contributions from many
different investors, angel investors typically invest their own money.
Even though angel investors typically stand in for individuals, the actual source of the capital may be a corporation, a trust, an investment fund, or any number of other legal structures.
The Pros and Cons of Angel Investors
Pros
Since you
are trading equity for cash from an angel investor, your company is under no
obligation to pay back the investment. Generally speaking, angel investors
don't get involved with startups. These businesses have shown early signs of
profitability, but they need funding to complete product development or expand
operations. Angel investors often provide valuable guidance and assistance in
the form of mentoring and hands-on management because their own money is on the
line.
Cons
The fact
that angel investors typically demand 10–50% ownership in return for funding is
a significant drawback. Consequently, if angel investors decide that the
business owners are a hindrance to the company's success, the owners may be
forced to give up control of the company. If you give away too much equity to
an investor in exchange for funding, the angel investor could end up with more
of a stake in the company than you do if things go south.
Investment Profile
If a startup
receives funding from angel investors but ultimately fails, the investors will
lose everything. To this end, professional angel investors hunt for deals with
a clear exit strategy, such as potential sales or IPOs (IPOs).
Angel
investors can expect an internal rate of return of around 22% from a successful
investment portfolio.
Cheaper
sources of financing, such as banks, are typically not available to
entrepreneurs with early-stage businesses, even though this may look good to
investors and seem too expensive. For this reason, angel investments are
ideally suited to start-up business owners who are still having trouble making
ends meet.
Over the
past few decades, thanks to the allure of potential profits, angel investing
has expanded to become a major source of capital for many early-stage
businesses. The result has been increased innovation, which has boosted the
economy.
What Percentage Do Angel Investors Want?
An angel
investor's expectations for a company's return on investment rise in proportion
to the amount of money they've committed to the venture (ROI). Angel investors
and each investment opportunity have different expectations for return. As a
general rule, angel investors look for a 30% return on their investment. 3
Angel
investors will likely be looking for a return on their investment. That's when
they cash out some of their company stock to recoup their initial investment
and any profits they've made.
Remember
that the return on investment (ROI) demanded by venture capitalists will be
higher than that of other investors. Businesses like these that donate more
money naturally aim for a higher profit margin.
Who Can Be an Angel Investor?
A majority of angel investors are "accredited investors," but this is not required. The Securities and Exchange Commission (SEC) defines a "accredited investor" as one with a net worth of $1M in assets or more (excluding personal residences), or having earned $200k in income for the previous two years, or having a combined income of $300k for married couples.
However, one
need not be an accredited investor to be an angel investor.
To put it simply, these people can and want to invest in new businesses. This is good news for cash-starved startups, who prefer angel investors to other, less desirable sources of funding.