Most people have heard of angel investing – financially backing very early in a company’s life and becoming an owner in the business going forward – but not many people do it.
To be an angel investor in a Reg A or D equity-based fundraising round, one must be an accredited investor to reduce the SEC paperwork and reduce the liabilities while exchanging capital for corporate ownership. As of 2020, there were approximately 13.6 million accredited investors in the United States, or 10.6% of U.S. households. Yet only about 300,000 people made angel investments that same year.
Angel investments are risky and it can mean a five to ten year lock-up of funds. It’s usually a small percentage of an investment portfolio.
So why do it?
“That’s a great question,” said BoomStartup Managing Director Tara Spalding. “It takes a special person to be an angel. Yet the people I know and work with who do it, love it and are glad they got involved.”
Spalding says investors get involved for a handful of reasons.
As mentioned above, returns can take some time to materialize. However, for those who have the patience, angel investments can be lucrative. A study done in 2007 by the Kansas City-based Ewing Marion Kauffman Foundation examining angel returns found the average was 2.6 times the investment in 3.5 years, yielding a remarkable internal rate of return (IRR) of 27%. Another study done by Right Side Capital Management found IRRs ranging from 18% to 37%.
Overall, returns are generally superior to public market investments.
CONTROL AND PARTICIPATION
The number of investors in an early, up-and-coming startup tends to be fairly small – definitely not the hundreds and thousands of investors or investment groups who are betting on large public companies. Therefore, Angel Investors can wield palpable influence upon the company’s growth. In fact, both the company and the investor are usually better off when the investors are hands on.
An investor who can share their expertise in the form of strategic business advice, mentorship, coaching and helping to generate customers and alliances has been proven to get a higher return.
SATISFACTION FROM SHARING THEIR EXPERIENCES
While angels are certainly interested in the financial reward, they often cite enjoyment and a sense of contribution as one of the psychological rewards to making these investments. They believe in the founder’s vision, what the company is creating, etc. and they know how to avoid mistakes.
Spalding points out that while angel investing isn’t for everyone, it’s something any accredited investor should at least consider. It’s a great way for people who were successful in a field or industry to contribute their knowledge to the future of that industry or initiative or innovation.
“Even if you were not a founder of a company, your career experience taught you lessons that can’t be learned in a book. By taking your knowledge, practices, connections, and lessons learned and sharing it with your investments, you can ensure their growth actually becomes a favorable financial return from your investment,” explains Spalding.
CREATING A LEGACY
As with most stories, as one chapter ends, so begins a new one. Angel Investors often have the opportunity to be more precise on where their time and investments are applied, leaving a legacy fingerprint that influences the future opportunities for the near and long term. Frankly, who and what is backed does make a difference to write a different future. Remember, angel investments’ duration is on average a decade.
“Angel investing is a unique opportunity to make money while helping deserving people get ahead who are driving the future of the effort or industry that you have benefitted from. Ultimately, you’re helping to strengthen one of the greatest assets the American economy has, which is the early-stage business,” Spalding explains. “Also, if you have any interest in seeing women and minorities reach their successes, this is where your resources can pay an incredible social dividend. It’s making the changes where institutional capital resources have a more difficult time impacting results.”
Angel Investor Considerations
The best Angel Investors have taken a lot of time to identify their own reasons why they are angel investors, and commit to their approach. These are the top 10 Angel Investor considerations driving investment participation, outside of the information gathered during diligence processes: