Raising Capital—An Overview of Your Alternatives
The following is just a partial list of the financing sources available:
Angel financing.
Asset-based lending.
Bootstrapping.
Customer financing.
Factoring.
Franchising.
Friends and family.
Initial public offering (IPO).
Leasing.
Personal savings.
Public debt issue.
Research and development (R&D) limited partnerships.
Secondary rights offerings.
Unsecured bank lending.
Vendor financing.
Venture capital.
WHAT MOTIVATES THE ANGEL INVESTOR?
Experience has shown that angels are driven by any one or more of these motives, although a seeker of angel finance would be well served to assume that the first of these motives is the most important:
Financial reward. Angels invest with the prospect of a high financial reward. A good rule of thumb is that angels hope to quintuple their money in five years, although only a few actually do so. While financial criteria are rarely stated explicitly, they may be implicit in the investor's decision to commit to market niches with great growth potential. In general, angels place less weight than VCs and other professional investors on the financial projections presented by the entrepreneur. Instead, they rely on gut feeling that a particular entrepreneur is worth investing in. Still, there are angels, a minority to be sure but a sizable one, who take a more professional approach, and they will often have explicit annual return goals in mind. Typically, these return objectives range between 25 and 50 percent.
Playing a role in the entrepreneurial process. Angels enjoy their involvement in an entrepreneurial process. Given that most such investors are in their forties or fifties, and have already achieved success in their careers or with their own businesses, they like to use the time and money available to them to once again experience the thrill and challenge of nurturing a new business.
Altruism. Although the term angels might give the impression that altruism is a motive, it is rarely the primary one. In some cases, however, investors are keen to pass on their skills to the next generation of entrepreneurs. Their hope is to encourage a spirit of entrepreneurship that can create jobs and promote economic prosperity. This motive tends to be more common among angels living in rural areas or in small towns.
TYPES OF ANGEL INVESTORS
The background, interests, and industry specializations of angel investors vary widely, but most fall into one of the following categories (although it should be noted that some investors exhibit characteristics of two or more angel types, and that the nature of a particular angel's participation can vary from one investment to the next).
Entrepreneurial angels. These investors are sometimes prepared to invest larger sums and take bigger risks than the average angel. Most own and operate a successful business, or have done so. Their investments can run as high as $500,000, but are often far less. Such angels diversify to avoid being overly dependent on any one investment. Most entrepreneurial angels insist on board representation, but normally do not interfere with the day-to-day management of the business.
Lifestyle angels. Investors of this type consider investment mainly as a hobby. Generally they are not involved in managing the business or advising the entrepreneur, and thus take a passive role. Their investments can be as low as $10,000, but may run into the low six figures.
Profession-based angels. These angels are linked to a profession such as medicine, law, or accounting, and prefer to invest in companies suited to their expertise and experience. Although they will not be too actively involved in the entrepreneurial process, they will share their capabilities and knowledge. Their investments usually range from around $25,000 to the low six figures.
Altruistic angels. These investors are motivated both by financial profit and by the desire to do good. The Community Development Venture Capital Alliance, a non-profit organization based in New York, is devoted to bringing together such investors with capital-seeking entrepreneurs.[5]
Alliance angels. These angels invest in groups. Many such investors lack the necessary background to coach entrepreneurs, and thus tend to be passive, although an important subset does have relevant professional experience and thus tends to take on more active roles in the businesses they finance. One element that these angels have in common is that they seek to share risk with others or to participate in deals that would otherwise be too big for one investor. They sometimes operate through informal networks known as "angel alliances." These alliances usually hold meetings on a routine basis and, if interested in a particular proposal, will decide quickly whether to invest. One of the better-known examples is the Band of Angels, based in Silicon Valley. Because it pools capital from lots of angels (more than 100 at last count), its average investment is over $500,000. This level of investment is similar to the smaller deals done by venture capitalists.
WHAT ANGELS ARE LOOKING FOR
Entrepreneurs need to understand which aspects of their proposed business will carry the most weight in the decision of angels to invest. Here are the major questions that angels ask.
Does the entrepreneur inspire confidence? Angels place considerable weight on the quality of the entrepreneur.[6] A business is run by people and if the people are wrong, the business will fail. Entrepreneurs must convince angels that they have both an entrepreneurial capability and a team with sound management skills. These entrepreneurs must also have a good educational background and a track record of performance in the business line of their choice. They must have great enthusiasm or passion for the business they are starting. The entrepreneur must put together a solid management team to give confidence that the various business activities can be run well.
What is the funding to be used for? Given that angels tend to fund early-stage ventures, they strongly prefer that their investment goes directly into the company being capitalized. Although there are exceptions to this rule, investors normally exit after the angel stage of finance.
Does the venture fit with the angel's own investment profile? This is why it is so important for capital-seeking entrepreneurs to target their pitches. There is little point in going after angels who don't invest in the venture's industry or whose risk profiles don't match the business. Prior to approaching angel investors, entrepreneurs should first understand their particular characteristics. What factors motivate the angels to invest, and what industrial sectors are attractive to them? They must be able to show how their business opportunity matches the angels' goals.
Does the business have genuine growth potential? Entrepreneurs need to show that the business can take off. The business must have some unique characteristics that are likely to win customers against competition in the chosen market niche.[7] Is the venture doing something unique, and if so, is that something not easy for potential competitors to copy? Is the market big enough to make growth and cash flow projections possible?
Also, most angels are wary of single-product businesses. They like focus, but can the business develop multiple income flows? This is not to say that single-product companies are unworthy of investment, but when revenue streams are dependent on one product, potential investors get nervous.
Is there a credible business plan? Most angels want to see a business plan before investing.[8] A good plan will discuss the vision and mission of the company, and will also show financial projections, a marketing plan, a sales plan, and an outline of major operating controls.[9] At this stage, the plan should be short, concise, and to the point. It should summarize the products to be sold, the credentials of the management team, the financing sought and the reasons for seeking capital, any achievements of the venture to date, expected milestones, and exit strategies.
In making their lending decisions, bankers often rely on checklists. One popular example is known as the 4 Cs:
Character of the borrower (reputation and honesty).
Capacity to repay (based on know-how and experience).
Conditions (such as industry economics, products, technologies, etc.).
Collateral (access to assets that can be sold off in the event of a default).
The following is just a partial list of the financing sources available:
Angel financing.
Asset-based lending.
Bootstrapping.
Customer financing.
Factoring.
Franchising.
Friends and family.
Initial public offering (IPO).
Leasing.
Personal savings.
Public debt issue.
Research and development (R&D) limited partnerships.
Secondary rights offerings.
Unsecured bank lending.
Vendor financing.
Venture capital.
WHAT MOTIVATES THE ANGEL INVESTOR?
Experience has shown that angels are driven by any one or more of these motives, although a seeker of angel finance would be well served to assume that the first of these motives is the most important:
Financial reward. Angels invest with the prospect of a high financial reward. A good rule of thumb is that angels hope to quintuple their money in five years, although only a few actually do so. While financial criteria are rarely stated explicitly, they may be implicit in the investor's decision to commit to market niches with great growth potential. In general, angels place less weight than VCs and other professional investors on the financial projections presented by the entrepreneur. Instead, they rely on gut feeling that a particular entrepreneur is worth investing in. Still, there are angels, a minority to be sure but a sizable one, who take a more professional approach, and they will often have explicit annual return goals in mind. Typically, these return objectives range between 25 and 50 percent.
Playing a role in the entrepreneurial process. Angels enjoy their involvement in an entrepreneurial process. Given that most such investors are in their forties or fifties, and have already achieved success in their careers or with their own businesses, they like to use the time and money available to them to once again experience the thrill and challenge of nurturing a new business.
Altruism. Although the term angels might give the impression that altruism is a motive, it is rarely the primary one. In some cases, however, investors are keen to pass on their skills to the next generation of entrepreneurs. Their hope is to encourage a spirit of entrepreneurship that can create jobs and promote economic prosperity. This motive tends to be more common among angels living in rural areas or in small towns.
TYPES OF ANGEL INVESTORS
The background, interests, and industry specializations of angel investors vary widely, but most fall into one of the following categories (although it should be noted that some investors exhibit characteristics of two or more angel types, and that the nature of a particular angel's participation can vary from one investment to the next).
Entrepreneurial angels. These investors are sometimes prepared to invest larger sums and take bigger risks than the average angel. Most own and operate a successful business, or have done so. Their investments can run as high as $500,000, but are often far less. Such angels diversify to avoid being overly dependent on any one investment. Most entrepreneurial angels insist on board representation, but normally do not interfere with the day-to-day management of the business.
Lifestyle angels. Investors of this type consider investment mainly as a hobby. Generally they are not involved in managing the business or advising the entrepreneur, and thus take a passive role. Their investments can be as low as $10,000, but may run into the low six figures.
Profession-based angels. These angels are linked to a profession such as medicine, law, or accounting, and prefer to invest in companies suited to their expertise and experience. Although they will not be too actively involved in the entrepreneurial process, they will share their capabilities and knowledge. Their investments usually range from around $25,000 to the low six figures.
Altruistic angels. These investors are motivated both by financial profit and by the desire to do good. The Community Development Venture Capital Alliance, a non-profit organization based in New York, is devoted to bringing together such investors with capital-seeking entrepreneurs.[5]
Alliance angels. These angels invest in groups. Many such investors lack the necessary background to coach entrepreneurs, and thus tend to be passive, although an important subset does have relevant professional experience and thus tends to take on more active roles in the businesses they finance. One element that these angels have in common is that they seek to share risk with others or to participate in deals that would otherwise be too big for one investor. They sometimes operate through informal networks known as "angel alliances." These alliances usually hold meetings on a routine basis and, if interested in a particular proposal, will decide quickly whether to invest. One of the better-known examples is the Band of Angels, based in Silicon Valley. Because it pools capital from lots of angels (more than 100 at last count), its average investment is over $500,000. This level of investment is similar to the smaller deals done by venture capitalists.
WHAT ANGELS ARE LOOKING FOR
Entrepreneurs need to understand which aspects of their proposed business will carry the most weight in the decision of angels to invest. Here are the major questions that angels ask.
Does the entrepreneur inspire confidence? Angels place considerable weight on the quality of the entrepreneur.[6] A business is run by people and if the people are wrong, the business will fail. Entrepreneurs must convince angels that they have both an entrepreneurial capability and a team with sound management skills. These entrepreneurs must also have a good educational background and a track record of performance in the business line of their choice. They must have great enthusiasm or passion for the business they are starting. The entrepreneur must put together a solid management team to give confidence that the various business activities can be run well.
What is the funding to be used for? Given that angels tend to fund early-stage ventures, they strongly prefer that their investment goes directly into the company being capitalized. Although there are exceptions to this rule, investors normally exit after the angel stage of finance.
Does the venture fit with the angel's own investment profile? This is why it is so important for capital-seeking entrepreneurs to target their pitches. There is little point in going after angels who don't invest in the venture's industry or whose risk profiles don't match the business. Prior to approaching angel investors, entrepreneurs should first understand their particular characteristics. What factors motivate the angels to invest, and what industrial sectors are attractive to them? They must be able to show how their business opportunity matches the angels' goals.
Does the business have genuine growth potential? Entrepreneurs need to show that the business can take off. The business must have some unique characteristics that are likely to win customers against competition in the chosen market niche.[7] Is the venture doing something unique, and if so, is that something not easy for potential competitors to copy? Is the market big enough to make growth and cash flow projections possible?
Also, most angels are wary of single-product businesses. They like focus, but can the business develop multiple income flows? This is not to say that single-product companies are unworthy of investment, but when revenue streams are dependent on one product, potential investors get nervous.
Is there a credible business plan? Most angels want to see a business plan before investing.[8] A good plan will discuss the vision and mission of the company, and will also show financial projections, a marketing plan, a sales plan, and an outline of major operating controls.[9] At this stage, the plan should be short, concise, and to the point. It should summarize the products to be sold, the credentials of the management team, the financing sought and the reasons for seeking capital, any achievements of the venture to date, expected milestones, and exit strategies.
In making their lending decisions, bankers often rely on checklists. One popular example is known as the 4 Cs:
Character of the borrower (reputation and honesty).
Capacity to repay (based on know-how and experience).
Conditions (such as industry economics, products, technologies, etc.).
Collateral (access to assets that can be sold off in the event of a default).
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