With the growing amount of early-stage companies in the United Kingdom, the demand for Angel Investment is expected to increase significantly. However, with 90% of startups doomed to fail in their early stages, Angels will have to balance the potential return on their investment with the risk that is being considered. While established companies are able to demonstrate their ability to generate positive returns, early-stage companies are unable to illustrate whether their trade will result in significant profits. Therefore, investors perceive early-stage companies as risky and consequently expect greater returns.
Angel investors have to consider traits, other than trading history when implementing their due diligence. The aspects believed to play a significant role in investment decision making are the following:
The most important attribute of an investible company is its people. Angels tend to invest in entrepreneurs who demonstrate infectious enthusiasm. Entrepreneurs that are mostly backed are those who show confidence in whatever they are doing. As management is responsible for executing the business plan, angels tend to rely on the track record of those individuals. Businesses that are looking to raise funds should, therefore, focus on retaining those key people within their business. A team consisting of motivated people that believe in the company and its culture is the most important trait when being considered by angel investors.
Unsurprisingly, angels will consider the market size of the business. It is not only a question of whether the target market is large enough to generate significant returns, but it is also important to consider how the business is going to penetrate its target market and establish itself as a market leader. Angel investors tend to question which barriers to entry the business will set to avoid the easy entrance of other businesses. Not taking into consideration such barriers will lead to difficulties when scaling and increasing sales. Capturing a large market will also lead to increased chances of a trade sale to a competitor. This will make the business more attractive to investors, as it appetizes their investment opportunities.
As suggested in the previous part, the exit strategy is an important aspect of the due diligence of an angel investor. Therefore, businesses should include a plan on how they will generate positive returns for their investors. This could be done through the following strategies:
- Sell to a competitor
- Sell to Private Equity
- Initial Public Offering (IPO) on a quoted exchange
Entrepreneurs often overlook the importance of including the timeframe and historical exit strategies of similar companies.
Valuation and cost of investment
Ultimately, the decision for an angel to invest is heavily influenced by the valuation set by the business. Investors tend to focus on the pre-money valuation of the business, which is the valuation before the equity investment has been made. The pre-money valuation is crucial, as it determines the share of equity that the investor will receive in return for the money invested. Equity share also influences the returns that the investor receives when the business exits. Hence, early-stage companies should not neglect the importance of the rationale behind their pre-money valuation.
As early-stage companies add significant value to the economy, the government has established initiatives to incentivise investment in such companies. Such benefits include the Seed Enterprise Investment Scheme (SEIS) and Enterprise Investment Scheme (EIS).
With SEIS, investors are able to receive initial tax relief of up to 50% on investments up to £100,000. In addition, any profit is free from Capital Gains Tax if investors decide to sell their company shares after 3 years. Under EIS, investors can receive up to 30% tax relief.
Angel investors are of significant importance to early-stage companies seeking to raise investments. It is, therefore, no surprise that such investors are referred to as Angels. However, angels can offer more than ‘just’ money. Often, angel investors can provide advice on how to further scale the company. Thus, it is not just about finding the money, it is about finding the RIGHT money to unlock the full growth potential of early-stage companies.