Angel investors, also known as seed investors or angel funders, are private investors that often have been entrepreneurs themselves. These investors have a high net worth that they personally invest in early stage companies.
What are angel investors?
An angel investor is a professional private investor. Usually an angel investor has a high net worth, for example because they had their own business. This type of investor uses their own money to invest in early stage businesses, like startups for instance. An angel investment fills the gap between family and friends at the very start of a business venture, and venture capitalists, who usually come in when companies are operating in full force.
Angel investors become a co-owner of the companies they are funding.
Because young businesses need a lot of capital and do not make a profit for a while, they often need to find angel investors for faster growth. Angels usually buy shares instead of investing in a regular business loan. Through buying shares, they become a co-owner of the companies. Unlike a business loan, there is no payback of debt. Instead, the returns are based on future company results.
The importance of investments for startups
Professional angel investors are important for startups to take their first steps. Around 90 percent of early-stage investments in Europe come from angel investing. There are more than 300 thousand active European angel investors and the number keeps growing.
Angel investors can help entrepreneurs raise extra funds.
Aside from much needed seed capital for startups, an angel investment helps early stage businesses raise extra funds. This is because buying shares does not create debt for the business in question. Instead, the investment becomes part of their own equity. As their equity increases, the investment can function as collateral for a loan at the bank. And so, funding a startup can be a way to raise more capital to fuel growth.
What a seed investor does
Angel investors are important for startups, but early stage funding is high risk. Therefore, first time investors will usually not choose this type of investment. An angel investor is usually a more experienced investor with a lot of spare funds.
Angel investors are also more personally involved in their investments. They may choose to invest in a business in their own industry while also offering their own knowledge and connections. By doing this, they help the startup to be more successful. And because they are experienced in the field, their investments are usually better informed.
Investments of an angel investor are usually better informed.
Seed investors typically invest up to 50 thousand euros at a time. According to the European Commission, the median angel investment is around 30 thousand euros. Since business angels usually join forces with fellow investors, together they can raise a higher amount.
How to become an angel investor
Starting with angel investing used to be a lot more difficult, since business angels had their own contracts and paperwork. Nowadays it is much easier to start thanks to countless online platforms. You can join online angel networks or start early stage investing via equity crowdfunding websites. On these platforms you can start investing with smaller amounts and easily choose and manage your investments.
Through equity crowdfunding, or private equity, people buy shares in a business. This usually means there are a lot of smaller co-owners instead of a handful of big investors. Equity crowdfunding is also less expensive than buying shares on the stock market.
Nowadays it’s easier to start investing thanks to countless online platforms.
Additionally, you can join online angel investor networks. It can be useful to join a group of angel investors because you can share due diligence and have a steady influx of businesses. And just like with equity crowdfunding, individually you can invest a smaller amount but join together to raise enough seed capital. Lastly, a fellow business angel may have a certain expertise or connections that may come in handy.
Managing the risks
Funding startups is risky, since there is no way of knowing if a company will survive, let alone be a success. It can be hard to value your investment because the startup has no track record or built up equity yet. It is possible that you will lose your investment, because the majority of startups do not survive. If the startup does succeed, however, the returns can be very high.
There is a possibility your share decreases in value.
Aside from the high risk of startup investing, there is a possibility your share decreases in value. With equity crowdfunding or business angel networks, a business can have many small co-owners. And if the startup needs growth capital later down the line, there can be even more shareholders. The upside of this is that the business does not rely on a few huge investors. But this also means that your share can be diluted.
There are some things you can do to manage these risks. First of all, make sure to spread your angel investments across several different projects. Furthermore, you can choose to invest in startups with a convertible loan instead of immediately buying shares. This type of loan has no payout at first and can be turned into shares once a company shows results. If companies fail, you will still get payback and interest from the loan.
Getting returns will take a while
If the startup you invest in grows and becomes successful, the worth of your share will increase. Business angels may receive dividends, but with startups this will not happen for at least a couple of years. And even then it is not a guarantee. Instead, the main source of profit is capital gains from increased shares. And so, you can sell your share at a much higher price than when you first bought it. Most startups fail, but if you bet on the right horse, your returns can be over a thousand percent.
Funding new companies is a long term investment.
In addition to being high risk but high reward, the investment process of angel funding is a long one. After all, it will take time before the value of your share increases. This will take at least three to five years or more. Keep in mind that you have to hold the shares during this time before you can sell them. You have to wait until the startup is sold or goes public on the stock exchange. Alternatively, you can sell the shares on some equity crowdfunding platforms.