Unlike institutional lenders and venture capitalists, angel investors have diverse backgrounds and perspectives. In fact, their beliefs of a company’s business practices and how a startup should be managed and operated may differ significantly to what entrepreneurs may have in mind. Therefore, some angel investors can be viewed as either beneficial or detrimental to a new company’s success.
Since angel investors tend to invest a large amount of personal capital in a small number of companies, their perspectives on startups can also be dramatically different than investors who have experience in tens and hundreds of enterprises. While it may be advantageous for a new entrepreneur to raise capital from an angel investor, the business owner should fully understand their term sheet and the ramifications associated with obtaining startup capital from an angel investor. Entrepreneurs can develop a better understanding of the agreement from an attorney in their industry and are encouraged to look at angel investors from the following six perspectives before signing the term sheet.
1. An angel investor’s value to the startup
Most angel investors take an active role in their invested company; therefore, entrepreneurs should expect to enthusiastically engage with them on a regular basis. An experienced angel investor will regularly mentor and consult new entrepreneurs on how to move the company forward and will often request a board seat to make sure their invested company is on the right track to success.
On the other hand, there are angel investors who do not have industry experience and/or may only be concerned with the return on investment. These types of angel investors often choose not to play an active role in running the company, which can be harmful since the new entrepreneur may require guidance during his/her company’s early stages.
2. Background and perspectives
Since every angel investor’s business perspective is highly influenced according to his/her personal experiences, they may perceive things differently from other angel investors. In addition, they may have more knowledge than others depending on their industry of expertise. Regardless of the situation, it is important for entrepreneurs to fully understand their angel investor’s background, industry experience, personality, and ROI before signing the term sheet. At times, angel investors can either make or break a company.
3. Differences in expectations
Entrepreneurs have certain expectations on how their startups should be managed and operated. However, many angel investors may view an entrepreneur’s standards as “naive” and disagree with how the new business owner should take the company forward. These differences of expectations between both parties will often lead to poor communication, avoidance, and resentment. Both the angel investor and entrepreneur must understand the expectations of one another in order to amicably run the new company.
4. Risk of investment and patience
Most angel investors will choose to invest in only a few startups. Given this situation, each investment they are involved in is considered “high risk” since they do not have many investments that can protect them if one of their startups fails.
Angel investors can also react differently under pressure, which can be very influential in a company’s success. For example, if an angel investor fails in one investment, they may accept their failure and move on. Others may lose their patience, react illogically, and may choose to meticulously micromanage the affairs of the failed startup. As a result of the latter situation, the entrepreneurs may be advised to make the wrong strategic moves. Due to the fact that every angel investor’s personality and reaction is different, entrepreneurs should therefore understand how risk averse the angel investors are before obtaining startup capital from them.
5. Professional management of the company
Unlike the conservative method of investing that banks and venture capitalists have, angel investors tend to communicate with entrepreneurs on a more informal and personal level. At times, this relaxed approach can lead to miscommunication and misunderstandings between the angel investor and entrepreneur. Some angel investors may have the tendency to micromanage their invested company’s affairs and undermine the entrepreneur’s efforts in operating the company, which can be very damaging in the long run. To avoid such differences in opinions and possible falling out, it is important that the entrepreneurs understand the managerial background of their angel investors from their previous investments before signing the term sheet.
Ethics are very important in any business endeavor. The angel investor should have ethical behavior in all of their business pursuits since the process of raising capital is similar to having a business partner. Entrepreneurs should scrutinize the angel investor thoroughly, especially when it comes to the ethics of how they conduct business practices before any investment agreement is made.
In the end, entrepreneurs and their angel investors should be compatible with each other.