Angel investing can offer a huge “payday” for those who find and screen promising startups – and know how to make the right kind of deals. But how do you get started as a first-time angel investor?
How to Become an Angel Investor
Once you learn how angel investing works, you can decide if it’s the right opportunity for you.
1. Decide If Angel Investing Is Right For You
Angels invest at the early stages of a startup – providing the first “outside” capital to the company. Prior to the angel funding phase, initial or “inside” capital is typically from the founder(s) and/or raised from “friends and family”. Startups in this early “pre-seed” or “seed” stage have the biggest upside and highest risk.
Angel investing for those without a relationship with the founder is regulated by the SEC and individual states – and must come from individual accredited investors – or funds that comply with state and federal regulations.
2. Legal Rules, Regulations & Stuff…
Angel investing is regulated by federal and state agencies to protect the unsophisticated. To invest in companies where you have no personal relationship with the founder(s), the investor must meet the “accredited investor” standard:
- Have a net worth of $1 million or more – outside of their primary residence
- Have an income of $200,000+ (or $300,000+ as a couple) for the last two consecutive years
- Are a general partner, director or executive for the issuer of the securities funding the startup
- There is no board or agency that certifies this standard. Investors and those raising capital are responsible to maintain the standards themselves.
There are Security Exchange Commission (SEC) programs that permit non-accredited investors to buy stock in private start-up companies. It’s called “equity crowdfunding” and was part of the 2012 “Jobs Act”. This program was put in place to broaden the opportunity to invest — and to allow startups to solicit investments from a larger population.
However, the SEC regulations for crowdfunding are cumbersome and compliance is expensive for startups, though some web offerings (like wefunder and startengine) have simplified it in recent years. Proceed with caution in equity crowdfunding opportunities in angel investing and note the differences between buying a product through crowdfunding versus buying equity (stock or a percentage ownership) through crowdfunding.
3. Understand How Angel Investing Works
How does angel investing work? Here are the basics:
Angel investors choose startups to fund.
Angel investors typically come into the funding picture after the founder and their family and friends and acquaintances. Angel investors find “investable” startups through networking, angel groups, and other local or virtual methods. Once an angel finds an intriguing opportunity, they perform due diligence to determine a value for the company. The angel then comes to terms with the founders, documents them with preferred stock or a convertible note, then makes an investment.
Angel investors provide support and mentoring.
As the startup is building their product, their market, hiring key staff members, raising additional capital, and becoming a high-growth company, an angel investor will help the founder(s) with connections in their network, in making sound business decisions, and in avoiding the pitfalls of startup companies.
Angel investors cash in.
As the startup grows, it can become a candidate for acquisition or an initial public stock offering (IPO). This juncture, called a liquidity event, is where angel investors reap the rewards of their investment.
Angel investing has attracted many new participants in recent years. Investors are attracted to the potential of big payouts, mentoring opportunities, and the deep connection to the local community it offers.
More so than other forms of investing, angel investing can be challenging to learn. StartUpNV runs a low cost, low risk, highly interactive and inclusive annual angel investor boot camp and conference called AngelNV. AngelNV teaches all of the important angel investing skills along with the language of angel investing… and helps participants make their first angel investment as a group. Check out AngelNV.com for the next boot camp opportunity — you can join at the beginning or part way through.
4. Learn How to Find and Evaluate a Pipeline of Potential Investments
Because angel investments are a high risk class, investors expect high returns – well above the typical public stock market returns of 5-10%. Angel investors look for startups that have a realistic potential return 10-50 times their investment in 7 years or less…. with the occasional out-sized return of 100, 500 or even 1000 times their investment.
The industry the startup plans to enter can provide a further sign about its chances of a good return. According to the “Halo Report”, the following industries attract the most angel investors: internet, healthcare, mobile and telecom, energy and utilities, electronics, and consumer products and services.
There are many startups asking for investment and it can be overwhelming deciding which ones are a good fit – and which have the best chance of success. Fortunately, there are angel investing groups and funds that vet startups and provide a safer, diversified way (as a group) for individuals to invest lower amounts in more companies.
StartUpNV provides one such fund, FundNV, where incubator and accelerator companies are vetted in a months’ long process — and only the very best are considered for investment. For more information check out FundNV.com — or register your interest and speak to someone about the specifics. FundNV’s minimum investment of $10k is among the lowest in the nation and a good place to learn the craft.
5. Learn How to Conduct Due Diligence
Before investing in any startup, thorough due diligence is advised.
Due diligence involves the investigation and evaluation of the startup and its founders before funding. It looks at the market size, use of funds, technology, intellectual property, founder experience and character, the risks involved in investing in a particular startup, plus much more. Angel investing groups conduct due diligence before they make any funding decisions. This work is typically done by a subset of the angel group.
To help you in your due diligence in deciding to fund an early-stage startup, download StartUpNV’s How to Invest in a Startup Guide.
6. Decide what Angel Investing Method works for you
There are different types of angel investors. Below are summaries of the common types of angel investors:
Value-Oriented Investors – These investors bring extensive business experience to new startups.
Partner Investors – These types of investors invest in one startup at a time and seek to become heavily involved in its operations.
Barter Investors – These investors offer goods and services instead of finances.
Socially Responsible Investors – These angel investors look to support startups that address their social needs.
Regardless of what type of angel investor you consider yourself, there are two main investing methods they use.
The Benchmark Method
The Benchmark Method or Scorecard Method assesses the pre-revenue value of a startup based on the outcomes of similar businesses in the same industry or location. A benchmark is made based on the average value of similar companies and includes:
- How strong the executive team is
- The size of the business opportunity
- The startup’s main product or technology
- How competitive the business environment is
- The amount and urgency of the need for capital
Each benchmark is then measured on a 0-100 scale.
The Berkus Method
With the Berkus Method, the value of a startup is assessed by certain value drivers. These drivers include:
- The soundness of the startup’s business idea
- The quality of the company’s prototype
- The strength of the management team
- The quality of the startup’s strategic market relationships
- The profitability of existing product sales
Angel investing is a great investment strategy for investors who don’t mind high risks in exchange for a high payout potential. Because of the high level of risk and uncertainty, angel investing isn’t for everyone.
If you’re ready to take the next step and become an angel investor, let StartUpNV help. We’ve helped angel investors make investments in successful startups and can introduce you to others. We also have a variety of resources, like AngelNV and FundNV to help make you a successful angel investor.
We’re dedicated to serving as an incubator and accelerator for the Nevada angel investing community and can help you successfully navigate it to find the opportunity of a lifetime.