As an entrepreneur, you are inherently a risk-taker. Starting and running a business is not for those who only play it safe. But like almost everything in life, risk is on a continuum. There is lots of distance between carefully weighed risk and recklessness. “Carefully weighed” risks are optimal.
Many small business owners consider taking on funding as a necessary risk to grow at their desired rate, since they need more cash than they can invest personally. Before enough revenue starts rolling in to cover costs and produce a healthy margin, businesses need to invest in expenses like research and development, materials, staff, marketing, or operations – and most likely, a combination of those factors.
Traditional options for funding are commercial (bank) loans and government-backed loans, such as Small Business Administration (SBA) loans. Another option is to come to an agreement with one or more angel investors. These are private, high net worth individuals who are willing to take risks on businesses they believe will succeed. Make no mistake though: Angel investors are in it to earn money at a higher rate than traditional investments, and they typically require equity ownership in the company and expect returns via company profits of 25% or more (such as what you see on the aptly-named TV show, Shark Tank).
Here are a few pros and cons of acquiring capital through angel investment:
Pros:
- Debt financing has to be paid back (with interest), but if the business fails, angel investments typically do not have to be repaid.
- Angel investors are willing to take risks on companies in which they see potential.
- Most angel investors are experienced and successful business owners who offer their expertise in addition to funds, as well as other bonuses like investor networks and supplier and distributor contacts.
Cons:
- Because angel investors typically require equity ownership, they can expect to play more of an active role in the business.
- As part owners, angel investors are entitled to a share of profits. Handing over equity in a company is basically handing over part of your future net earnings.
- Relationships with angel investors are typically more personal than with venture capitalists. Business challenges can have a negative impact on those relationships.
- It can be difficult to find angel investors. They can be friends or family, but many are found by word of mouth and through business associations or networking, such as the local chamber of commerce.
- Angel investors are usually looking for a higher rate of return than traditional debt financing from a bank, although not as high as venture capitalists.
Many angel investors and business owners develop mutually satisfying, long-term relationships. Success depends on detailed business planning, extensive upfront communication and documentation, formalized legal agreements, and then ongoing communication and relationship management. With solid planning and communication, using angel investment to fund your business can be an effective risk that accelerates your business growth.
Contact us if you would like us to help you determine if angel investment is right for your business.