Angel investment can be a useful and indispensable financing option during the very early stages of starting up your company. But be aware: not all angel investors are the same. The range of quality among angel investors is massive—and can have a big impact your company.
Lighter Capital is often the first source of institutional financing after angel investments and bootstrapping and we have worked with many entrepreneurs who didn’t get what they bargained for from their angel investors.
It can be hard to turn down capital, particularly when you worked so hard to get an offer. But it pays to do your research and know the kind of investment partner you want to take on for the long haul.
Don't shake hands or sign on the dotted line unless your angel investor exhibits these 5 qualities.
1. Proven, relevant experience
Your angel investors should have a proven record of investing in successful start-ups. This shows that they have the necessary experience to guide your company through the rocky start-up phase. Ideally, your angel investors should also have deep knowledge of your industry. Angels whose success (in business and/or in investing) comes solely from other industries may have strong opinions on how to grow your company that aren’t applicable in your field.
2. Rational decision-making
Angel investors are risk takers. They wouldn’t be willing to invest in your fledgling company otherwise. There's a big difference between gambling and making calculated risks, though. Look for investors that base their decisions on rational criteria, not emotions. Investors that are overconfident, follow the crowd, or are unwilling to learn from mistakes are more likely to steer your company in the wrong direction.
3. They've got nothing to lose
Seasoned angel investors understand that many of the companies they invest in are going to fail. If these were low-risk investments, they wouldn’t pay such high returns when they succeed. However, some angels feel they can’t afford to lose the money they put into a company.
Nervous investors often steer entrepreneurs towards rash business decisions that result in a quick return on investment for them, without much care for the long-term growth of your company, leaving you to suffer the consequences.
You want an angel who accepts the risks—and benefits—of investing in an unproven startup, and who is willing to stay invested for the long-term.
4. They have deep enough pockets
Being comfortable with the risks of investing in your company is necessary, but that's not enough. The best angels also have enough money to invest in concert with a few other angel investors to support your company’s capital needs, and ideally your next round of financing.
While many small investors can add up to a substantial infusion of capital, having too many investors can be distracting and can make further rounds of financing more complicated. A small number of high-quality angel investors, all with strong experience and mutual trust is ideal. These groups intelligently work together and any one of them can “run point” on a deal.
5. Their expectations are realistic
Be sure that angel investors have realistic expectations about a timeline for growing your company and reaching your stated goals. Although accredited investors need to have at least $1 million in investable assets (or be very high wage-earners), not all of them want—or can afford—to have their money tied up for many years in a startup. But that’s what you may need to take your company to the top.
While many successful startups make handsome profits for angel investors, overinflated expectations can put pressure on you to take risks or make short-term decisions that get you off track and further away from building long-term value in your company.
Angel investors tend to have a much lower tolerance for missing commitments than venture investors. They will worry more quickly, after all it’s their personal money you are using. They typically have less experience in early investments, and so they may not understand the variables in the process.
When you are vetting an angel, ask the following questions to ensure you're aligned on commitments and to alleviate contentious investor pressure down the road:
How many deals they have done in the past? More experience equals greater understanding of the startup variables.
Have they ever done a second round? Great way to see how deep their pockets are as well as their maturity as an investor.
What is their comfort zone regarding subsequent rounds? You may find angels that simply don’t do second rounds. This is good to know up front.
Who would be on the board? Fewer is better, and make sure you get along with whomever it is. You do not want 12 people on your board.
Make sure you get recommendations for an angel’s current or previous portfolio companies as well as others in your local start-up community. Whatever you can discover about the way they build and manage relationships with entrepreneurs will help you decide whether they are a good fit for your company. Angel investors can be truly fantastic partners and mentors for young companies – just make sure the one you pick is right for you.
Lastly, be prepared for the diligence process, this is their chance to really explore you and your idea before they write a check. It may get personal, again this is their money. Be aware, many angel investors have a hard time saying no and may instead just continue to ask questions and kick the tires in what may seem like an endless loop. Set a clear closing date and if necessary, get to “no” as quickly as you can so you aren’t wasting time.