Should your client become an angel investor?

  • Describe some of the challenges of angel investing
  • Identify ways of managing the risks with investing
  • Explain how to value a potential investment
Should your client become an angel investor?
Photo by Maria Orlova from Pexels

Angel investors are people who invest their own money into unlisted companies in exchange for equity shares.

Think Dragon’s Den, but without all the drama. Real-world angels typically invest upwards of £5,000 into a single business and build a portfolio of investments.

What is so appealing about angel investing (besides the potential returns) is the opportunity to provide more than financial resources to early-stage companies. Angels play a vital role in helping a business to develop by sharing their expertise, advice and contacts. 

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However, getting started as an angel can feel overwhelming. It is a rewarding experience, but as it is high risk many would-be investors never work up the courage to make their first investment.

To help new investors get started with confidence we have compiled the top eight tips from experienced angels.

1. Ensure the business owns all the intellectual property 

Sometimes founders, let’s assume naively, put IP in the name of a director and not that of the business. For investors this is bad news. It does not need to be a deal breaker when it is a silly mistake, but if a founder is not willing to make the business the owner of all the IP, it probably should be. The risk here, as one angel warned, is that if the business folds, the founder can walk away with the IP and set up an identical business in which you have no shares.

Another detail to explore is ownership structures where you are dealing with group companies. What looks like a solid opportunity quickly unravels when you learn that the company offering you equity for your hard-earned cash does not own the IP. Sometimes it is a Topco (which you are not investing into); sometimes it is another company all together.

2. Expanding too rapidly can be disastrous

Growth is what you want as an investor, but it must be tempered. Entrepreneurs, full of passion, sometimes push too hard on the gas pedal too quickly and when this happens the results can be disastrous.

There are several potential pitfalls when it comes to expansion. The first is cash flow. Expansion always costs money, but it is difficult to forecast how much revenue to realistically expect (and entrepreneurs are famously optimistic). On top of that, things almost always take longer and cost more than planned. 

Carefully review the balance sheet to ensure there will be enough cash to keep going, both before the investment comes in and afterwards. Otherwise, you will find the entrepreneur coming back to you in short order with their hand out. 

The second pitfall is a decline or change in quality of service/experience. Many businesses – whether it is an artisan coffee shop or a software product – win custom because of the people and the experience they deliver. When a company expands too quickly, scale stampedes the culture that made the business successful in the first point and the customers go elsewhere.