Introduction to angel investment
Angel investing is equity finance. An angel investor is a high net worth individual who makes use of their personal disposable finance and makes their own decision about making the investment.
The investor would normally take shares (an equity stake) in your business in return for providing equity finance (funds). In so doing, they normally seek to not only provide your business with money to grow, but also bring their experience and knowledge to help your company achieve success.
They can invest alone, or as part of a syndicate (a group of angels). Every angel investor has a different appetite for investment, and usually invests between £10,000 – £500,000. Deals of up to £2m are becoming more common, due to syndication.
Angel investors seek to have a return on their investment over a period of 3-8 years. They therefore look to see if your business can fulfill certain criteria from the outset.
The angel investment market
Angel investing is the most significant source of investment in startup and early-stage businesses seeking equity to grow their business. Whilst the market is relatively difficult to calculate since many business angels are investing privately, an estimated £1.5bn per annum is invested by angels annually in the UK. This is more than 3x the amount of venture capital (VC) invested in early-stage businesses annually. Whilst it is also estimated that there about 18,000 angel investors around the country, there is a need for more individuals to become business angels to provide finance for these growth-potential entrepreneurs.
Is angel investing regulated?
There is a regulatory framework for angel investing that both protects the angel and the entrepreneurs: before a company passes their business plan on to a potential angel investor, they should ensure that the investors have self-certified as either a High Net Worth or Sophisticated Investor, as defined by the FCA under the Financial Services and Markets Act 2000 (FSMA).
How does angel investing differ from VC investing?
Angel investment differs from venture capital finance which invests in businesses through managed funds, raised with private or public money. The venture capitalist manager invests the money on behalf of the fund which has to be profitable and make a return for the fund’s investors. Due to high costs of administration and the need to be very selective to ensure a return on the fund, VC funds are more risk averse and thus make fewer small investments in start and seed stage. So business angels are becoming more and more significant in funding new ventures by supplying smaller amounts of capital to companies that cannot be economically funded by the established venture capital market.
Unlike investing in a managed fund, business angels make their own decisions about investments they make and generally engage directly in meeting the entrepreneurs, often seeing them pitch their business. Angels also engage directly in the due diligence and investment process, and are signatories on the legal investment documentation. This can be done either on their own or with a syndicate. Angel investors then follow their deal either actively taking a role on the board or actively supporting the business, or may act passively as part of a group with a lead angel taking this role on their behalf.
Business angels differ from venture capital firms not only in the size of their investment, but also in their approach. Angel investing is often called “patient capital” since angels are less concerned with rapid return and exit and are prepared to support the business through its path to growth and exit over a longer timescale.
How much do angels invest in a business?
In general, individual business angels will invest anywhere between £10,000 and £500,000 in a single venture, depending on the business and the growth needs. However, this varies according to the disposable wealth of the individual and the opportunity identified. Angels typically invest as part of a syndicate, pooling their experience and time to add more value and bring more capital to their investment. This means that larger amounts of finance above £1.5m can be raised by investors when they pool their resources.
How much equity do you typically need to offer in return for funding?
Angels cannot take more than 30% equity in your business under the EIS/ SEIS scheme, but crucially, you need to be incentivised to grow and scale up your business. Most angels understand and respect that. They also appreciate that you will also need to have equity left for future funding rounds – it is not uncommon for there to be 2-3 angel rounds prior to the business taking on larger, institutional money.
At what stage should my business be to secure investment?
- Pre-revenue, pre-profit and profit-generating businesses are all possible candidates for angel investment.
- For pre-revenue businesses you need a proven concept – attracted customer interest, or proven the product ‘works’ and be able to demonstrate your businesses.
- Taken steps to show you have a built a defensible position for the company for example by the use of copyright or having protected your brand. If you have a patentable idea you may want to raise angel investment to formally fulfill your patent application.
- Understandably, companies already generating revenue or better still, a profit, are sometimes more likely to secure angel investment as angels can see a higher likelihood of return.
- Pre-revenue businesses can often be very high risk ventures and businesses in this position will need to show ‘proof of concept’ or have a protected idea such as relevant intellectual property. Businesses in the medtech, cleanTech and other science-based industries are more likely to be pre-revenue when seeking angel investment.
- ‘Idea-stage’ businesses are typically not angel deals. ‘Family, friends and fools’ are often the investors for this business stage!
- If you are at the idea stage, you should consider accelerators. You may need to turn to your family and friends, possibly even grants at this stage.
What do angels look for in a business?
The Management Team
The people involved in a business have been shown to be the most significant aspect for angel investors when deciding to make an investment. Namely, their experience, skills, drive, and how they come across. They will then of course look carefully at the business itself and the core aspects of the business plan.
Whereas not all businesses can satisfy each of these considerations, being able to ‘tick the box’ for 5 or more (from the below) can be a good place to start:
- Solving a problem – does the product, technology or service address a real challenge in the market or society – what is the pain you are solving?
- Disruptive – is it likely to be disruptive and make a real impact in the marketplace or establish a new niche?
- Protected – does the product or technology have identifiable intellectual property? This may be patentable or may be in the form of copyright or branding or other intangibles – and can you confirm ownership?
- Competitive – do you have a defensible market position? What other businesses are in competition with this project? How does it compare and what is the unique selling point or advantage – or does have first mover advantage?
- Revenue – how does your business make money? Are there clear identifiable revenue streams? Are there likely to be good gross/net margins?
- Scalability – do you have a scaleable business model? Are you able to achieve explosive growth?
- Proven model – what kind of validation have you had in the market place? Are you already selling or has this been tested out with potential customers? Can you show results of market testing/surveys?
- Market – what is the market size? Can you achieve a realistic potential market share?
- Tax relief opportunity – is the deal EIS/SEIS-eligible and do you have advanced clearance (see below)?
- Exit – do you have a desire and strategy for exit?
- And finally, are you prepared to give up shares in return for investment and to have an investor on your board?