Consistent with many aspects of running a business, there is a life cycle to raising finance. And although there are no hard and fast rules, or even a one size fits all approach, there is a funding path that can be adopted to suit different needs as your business grows.
Most great business ideas start by being self-funded, closely followed by a round of finance raised through family and friends. But this generally isn’t a bottomless pit of money and once your business gains momentum and starts to grow, something more formal is often more appropriate.
But the lack of business stability and limited trading history is always going to be a sticking point at this stage. Banks will generally not entertain lending to you – your risk profile is still too high and the chance of you defaulting is seemingly too great.
At the other end of the financing life cycle, you’re potentially too young, and early in the game, for institutional finance like venture capital – even though you have the potential for future growth.
Somewhere in the middle with the smaller, private investors is where you’ll probably stand the best chance of successfully securing finance. This generally refers to crowdfunding, peer-to-peer finance or angel investment. This is not to say that these options are any easier to navigate and win, but they are more accepting of businesses with little more than a sound and validated proposition in place.
Business angels, in particular, are about more than just backing an idea. They generally bridge the gap between the business being a mere concept to it becoming an actual sustainable entity. Angel finance helps you to prove that your market opportunity is real.
So, who are angel investors?
They tend to be high net worth individuals looking to invest their own wealth in exchange for a healthy return in the future. And with a focus on supporting early-stage businesses on a journey of rapid growth, they develop a vested interest in the success of the business and take an active role in its day-to-day running.
The risk they take, and the opportunities they provide, are in return for equity shares.
How do you obtain the finance?
Angel finance is generally a less formal way of raising funding, although you will still need to prove that you have a sound proposition in place. This includes, as a minimum, a robust business plan and a set of financial statements to validate the future sustainability of your business.
And as angel investors are in complete control of the businesses they invest in, their choices are often determined by industry experience, business knowledge or personal interest. You need to match yourself with them, before pitching your idea, in the hope that they will share your vision and want to be a part of its success. Business angels tend to work on the basis of a short series of meetings, a simple presentation deck and a set of terms outlining how you will work together, their equity share and proposed long-term return.
What is the cost?
As a form of equity finance, money from business angels doesn’t come with a repayment plan and lots of interest, instead you are sacrificing a share in your business.
Angel investors effectively gain part-ownership in your company, meaning that it is more than a simple exchange of cash. The return is calculated over the longer term and is ultimately driven by the success of your business over a number of years. The evident risk for business angels sets the expectation that a substantial payback will be achieved.
And as more than a provider of a simple cash loan, business angels may request to be involved in the day-to-day running of your business, offering their expert advice and knowledge to support successful growth. In fact, their vested interest is to ensure that they not only get paid back but receive a healthy return on their investment too.
You will need to share your plans for the business with them and involve them in any future decision-making that is key to the business’ direction; you effectively gain a new business partner and they are likely to be hands-on.
How do I make the return?
Once angel investment is secured, you will need to follow and deliver a steep growth curve to ensure your business is reaching the required levels of trading to satisfy investor requirements. Most business angels work on the basis of at least 2.6 times their investment over a 3-4-year period, resulting in a stressful but exciting time for a small entrepreneur.
Your strategy should be either that your business grows sufficiently to generate enough cash to pay back the investment or that your company becomes valuable enough to attract equity investment from another company or professional investor. Either way, consistent and sustainable growth is key.
So, for angel finance to be right for you, you need to be confident in your business’ ability to follow such an ambitious trajectory over just a few years.
Advantages
Business angels don’t require security against their loan and so your personal assets are generally protected.
And with the business experience they carry, angel investors come with more than just the cash. The objective is that they help your business to grow at a faster rate, in some cases offering skills and expertise as well as valuable business contacts.
They also offer a pretty flexible approach to finance. Whilst their long-term goal is a healthy return, they don’t often stipulate, and work to, a need to exit the business within a rigid timeframe; the benefit of them being actively involved is that they can see progress as it happens.
Disadvantages
The main thing that business owners notice when engaging with an angel investor is the loss of complete control over your business. Angels will inevitably have a say in how your business is run moving forward, before also taking a percentage of the sale value should you sell it.
For this reason alone, finding the right angel investor for your business is paramount and this can take some time. Business angels are rarely under pressure to invest and so the pressure is on you to seek them out, and your business may not have the time to wait if your need for funding is urgent.
Angel investment is a great source of finance for so many growing businesses seeking the stepping stone to ambitious growth, but as with any funding, you need to make sure it’s the right option for you. You may be unable to commit to the structure of debt finance at this stage but committing to giving away shares in your business is no small decision either; make sure you give them away wisely and with a robust plan in place.
If you’re looking to grow your business through equity investment, speak to one of our advisers for some expert guidance on how angel finance could work for you and your specific business requirements.