When Your Business Needs Money: Angel Investors vs Venture Capitalists

The myth is that venture capitalists invest in good people and good ideas. The reality is that they invest in good industries. Harvard Business Review

There are various options of funding available for those who wish to start their new businesses. If your business needs capital, but your personal resources are tapped out, don't despair - you can put your faith in angel investors or venture capitalists.

Part A. Angel investors

Angel investors (or business angels) are most often individuals (friends, relatives or entrepreneurs) who want to help other entrepreneurs get their businesses off the ground - and earn a high return on their investment. They provide a one-time injection of seed money or ongoing support (between $150,000 to $1.5 million) to the person, using their own personal funds for the investment rather than the viability of the business to carry small startup companies.

An angel investor’s capital in a new business is considered to be a high-risk investment since the new company has not yet established a solid track record of success. Since they often provide the initial funding for a new company, it can be quite difficult to determine if their invested enterprise will be successful in the long run.

There are some distinct advantages of business angels.

- Business angles are characterized by flexible business agreements. Because they are investing their own money, their business deals can often be negotiable. Because of this flexibility, they are more likely to be excellent sources of capital for early-stage businesses.

- Angels can bring forth vast knowledge and experience to a new company. Many angel investors can offer desired support, expertise, and contacts in making a business grow.

- Angels do not require high monthly fees.

- Business angels are characterized by their community involvement. Many angel investors choose to invest locally, which creates employment opportunities and helps stimulate economic growth by encouraging consumers to purchase their products. Many angel investors take pride in using their expertise in giving back to their community.

- Angels are located everywhere, practically all industries. They invest in nearly all markets worldwide. Angel investor is attracted by the potential for a company’s profitability and growth.

Part B. Venture capitalists

Venture capitalist is an investor who either provides capital to startup ventures or supports small companies that wish to expand but do not have access to public funding. They typically pool money from different sources, generally invest in later-stage companies that have already established stability and success. Venture capitalists are willing to invest in such companies because they can earn a massive return on their investments if these companies are a success. They look for a strong management team, a large potential market and a unique product or service with a strong competitive advantage.

Venture capitalists can provide the basic capital for a new business in return for:

1. Capital in exchange for equity shares. Typically, the venture capitalist takes no more than 15-30 percent equity in their invested company.

2. Stock options. Common stocks represent a unit of ownership in which the holder has voting rights in company decisions, while preferred stockholders do not carry corporate voting privileges. With stock options, the investor would hold a seat on the board and have the power to postpone the dividend payments he would receive from his stock.

3. Assistance of associates. Venture capitalist may need to have one or two of his associates help out with regular company operations. He will make sure his invested company is performing at its optimal state.

Part C. Drawbacks of investors

However, both business angels and venture capitalists cannot be considered an ideal means of funding. They also have drawbacks for the entrepreneur.

1. Can actually be deceptive. While the majority of angel investors truly look beyond the promise of monetary return, there are a few angel investors who are greedy and motivated by money rather than in promoting the good of the firm. They are less patient with new entrepreneurs and do not provide any mentoring or guidance during a company’s early stage of development.

2. Can be costly. In exchange for providing the needed startup capital for a new company, many venture capitalists often require a certain percentage of stake in a company, starting at 10-15% or more, and expect a large ROI for their exit. From their perspective, this is a reasonable exchange since they are investing in very young and risky businesses.

3. Active company involvement can lead to problems. It is not uncommon for an angel investor to have a certain amount of control in running a company. The entrepreneur may unwillingly be forced to give up some degree of control in order to meet their angel investor’s requirements, which can often lead to resentment on the part of the entrepreneur.

4. Lack of industry experience. This limited knowledge adds very little value to a company’s success. That is why entrepreneurs should only seek angel investors with proven experience in their industry.

4. Rarely make follow-on investments. Angel investors are less likely to make follow-on investments because of the risk associated with losing money when reinvesting in an unsuccessful company. On the other hand, venture capitalists have a different approach to follow-on investing. They tend to spend approximately 2/3 of their funds on follow-on investments, taking the opportunity to allow companies to expand while diversifying their current portfolio firms.

5. Do not have national recognition. While there are well-documented directories of venture capital firms available, there is no national register for angel investors. Due to these differences, angel investors do not have the national recognition as their VC counterparts. They remain hidden and mysterious but choose to do so in order to have a degree of separation from entrepreneurs, who may pester them with their business plans and telephone calls.

Ex. 1. Match the Russian word combinations with their English equivalents.

1. venture capitalist a. денежное обязательство

2. start-up financing b. Начальные инвестиции

3. monetary commitment c. уравновешивать, служить противовесом

4. business angel d. объединять финансы в общий фонд

5. seed money e. "бизнес-ангел", деловой "ангел"

6. tax return f. Возврат/ выплата налогов

7. to pool money g. жизнеспособность

8. to counterbalance h. начальное финансирование

9. viability i. венчурный капиталист

10. stock option j. фондовый опцион

11. voting right k. порождать, производить

12. to bring forth l. избирательное право

13. ROI (Return on m. прибыль на инвестированный капитал

Investment)

Ex.2. Choose the correct option:

1. Which statement is true?

a.. Angel investors provide capital for established companies.

b. Angel investors provide capital for companies that have succeeded and need to grow their market share.

c. Angel investors provide capital for companies that are in their early stages of development.

2. What is a typical investment for an Angel?

a. $25,000 b. $2 million c. $100

3. What will Angel investors sometimes do?

a. Invest in companies that haven't been founded. b. Invest in companies that are going out of business. c. Invest in companies that have established a large market share.

4. Do angels expect all their investments to succeed?

a. Yes b. No c. Doesn't say

5. Why are angel investors willing to take such high risk?

a. If a start-up succeeds it can deliver up to twice the investment amount.

b. If a start-up succeeds it can deliver up to twenty times the investment amount.

c. If a start-up succeeds it can return the initial investment amount.

6. 'Seeding a company' means:

a. to provide initial investment b. to provide late stage investment

c. to save a company from going bankrupt

7. In a best case scenario, how much might an angel make on a successful start-up investment of $50,000.

a. $80,000 b. $2 Milllion c. $150,000

8. Which example is given of a 'garage' start-up?

a. Google b. Microsoft c. Apple

9. Venture capitalists are:

a. the same as angel investors. b. different types of investors than angel investors. c. people who create start-ups.

10. Venture capitalists help a company to:

a. capture market share. b. begin a company. c. go into bankruptcy.

Ex. 3. Speak on the following issues:

1. advantages of venture capital by applying to a business angel;:

2. disadvantages of obtaining venture capital by applying to a business angel.

Ex. 4 If you are to start up a new business how VC firms and Angel Investors will score your idea in each of the following critical areas:

• market attractiveness - proof of concept - financial returns

• competitive advantage - plan readiness - funding sources

Text 3

Read the text and be ready to speak about the stages of venture capital investing using the words underlined in the text. Introduce the material by means of a mind map.