If your startup desperately needs an investor, you may not care if the investor is a so-called “angel” investor, or a venture capitalist (VC). The money is the same color in either case. But I have found that making the right choice at the right time can have a major impact on your long-term valuation, and the decision process is complex.
The basics are simple. Angels are typically high net-worth individuals, investing their own money, interested more in early or “seed” financing of amounts starting as low as $25K. Venture capitalists are professionals, investing other people’s money from a fund, interested mostly in later rounds, in chunks of money from $2M up. Between these extremes is a large overlap.
But beyond the numbers, there are many factual and subjective issues that you should be aware of before you step into the game. These include the following:
Investment control. Angels typically have simpler term sheets, don’t squeeze so hard on valuations, and are more realistic on time-frames. VCs tend to exert more control over the team and assert financial control over the company, its strategy and exit plans. Ultimately a larger VC investment can also narrow exit options.
Type of startup. Venture capitalists seek to fund businesses with the potential to be enormous. In addition, most venture capitalists want startups that have clearly defined economies of scale (such as software companies) vs. ones that scale linearly with some factor (such as service companies). Angels are less type-focused.
Expected return rate. Most venture capitalists tell you that they look for 30% annual return, or 10 times initial investment in 3-5 years. Another rule of thumb is a target of 50% IRR (a discounted cashflow calculation). Angels will look at lesser opportunities, but both recognize that many ventures fail, meaning the targets are high to improve the average.
Total money needed. I already mentioned that if you are looking for a specific raise of less than $2M, you are in angel territory. But it goes further than that. If the total money you're looking to raise over the life of your company to be cash-flow positive is greater than $3M, or you will likely need money to scale, you need to work the VC territory.
Team experience. Successful serial entrepreneurs usually find it easier to raise money from venture capitalists. If you're a first-time entrepreneur, that doesn't mean you can't raise VC money, but you're going to find it more difficult getting VC traction.
Founder network. If you've never met a venture capitalist before and none of your colleagues have built companies with VC funds, you probably won’t get VC traction either. In contrast, if your best friend's father is the CEO of a Fortune 1000 company, you might readily find a valuable set of angels.
Value-add. This is the most debated, but most important item. The value-add of both angels and VCs is totally dependent on the individuals involved, but on average VCs are likely to add more value than angels. They focus on specific business areas, have multiple deals running concurrently, understand deal flow, and usually have more current insights, connections, and resources.
Personally, I think it all comes down to the investor fit and the stage of the start-up game you are in. It’s definitely better to have people who have built businesses on your side. If you plan to exit in the near future, it’s important to have investors who have backed high-growth businesses.
For all cases, relationship is the key ingredient to a successful deal. It is very important to be able to communicate with your investors openly and honestly. If they respect and trust you as a person and you respect and trust them, it will be much easier to weather the inevitable storms. It’s easy to take any money that’s green, but in the end it can be more costly than it’s worth.