Deciding who to approach in the fundraising process — angel investors versus venture capitalists — is quite simple when you know the differences between the two.
First-time founders, and first-time fundraisers more specifically, often struggle with the differences between angel investors and venture capitalists. If this is you, don’t fret because we go into great detail about this very important fundraising decision. First, let’s define each type of investor.
What is an Angel Investor?
An angel investor is a wealthy, accredited individual investor in early-stage companies. They have a personal interest and conviction in the business’s success.
What is a Venture Capitalist?
A venture capitalist, or VC, is essentially a fund manager investing money for and/or alongside a group of limited partners (LPs) structured as a venture firm. Venture capital firms typically have a more process-driven approach and can be composed of non-accredited associates and employees.
Angel Investor Versus Venture Capitalist
The main difference between angel investors and venture capitalists is that angels typically invest their own capital during early stages of the company’s formation and growth. VCs are typically structured as partnerships with the manager serving as a general partner and the limited partners as the capital providers.
Limited partners in a venture capital fund can be high net worth individuals, university endowments, sovereign wealth funds, and more, which is why VCs typically deploy three times as much capital as angel investors.
Since angel investors are investing their own capital into companies, they must be accredited investors, earn more than $200,000 annually ($300,000 combined with a spouse), or have a net worth greater than $1 million in excess of their primary residence.
Managing partners usually are accredited investors or meet the requirements, though VCs often employ associates, analysts, and other employees who do not meet accredited investor requirements.
Since angel investors are risking their own capital, they are more likely to be emotionally invested in the company and take a more active advisory role. VCs are more likely to take a rigid, disciplined approach when investing, which leaves little room for emotion, and puts more aggressive pressure on the business to grow at all costs.
Stage of Funding for Angels vs. VCs
Depending on what stage your business is in (i.e., idea, pre-revenue, hypergrowth, etc.) the fundraising process will differ in many ways.
Convincing an established venture capitalist to place a big bet on a mere idea is unlikely unless the founding team has had previous experience or successful exits. More likely, companies in the early idea stage must find an angel investor who believes strongly in the idea and/or team because angels are more likely to focus on investing in early-stage startups.
VCs (and some more established angels, angel groups, or angel syndicates — more on those later) are likely to require the company to have existing revenue and growth to support projections before investing. For this reason, VC firms will typically have a preference on which funding round they participate in.
While it’s not impossible for a VC to invest in a series seed, or an angel investor to participate in a series B and beyond, it’s not the norm. Angel investors most commonly invest in pre-seed or seed rounds and VCs invest in Series A, B, C, D, and beyond.
Angel vs. Venture Capital Size of Investment
It’s not only the funding rounds that differentiate angel investors from venture capitalists — the check sizes also fall into very different ranges.
Even though angel investors are wealthy, there are a number of factors that can limit the size of investment from an angel investor. Even if the angel investor’s net worth is quite large, prudent investors understand risk and diversification, especially in startups. This prudence would limit the size of any single investment’s exposure to the entire portfolio.
Limited partners in a venture capital firm are all wealthy individuals and accredited investors, which is why the portfolio and therefore the average check size is much larger than the average angel investors.
But again, it’s not an impossibility to have a venture capitalist write a check under $100,000 or an angel investor to write a check well above $100,000.
There are also angel groups and angel syndicates that work together to combine their resources to write bigger checks and participate in later funding rounds. Syndicates typically take the form of a lead angel investor who sources the deal flow and allows other angel investors to participate in the investment round.
In 2018, 67% of deals were syndicated between angel groups and/or VCs. The average check size of a venture capital firm, on the other hand, is $7 million.
Equity, Expectations, and Exits
Most often, whether you take investment from a venture capitalist or angel investor, what they receive in return is the same: equity. But the amount of equity and subsequent percentage of the entire company can differ substantially.
Angel investors have been known to receive significant amounts of equity to compensate for their early-stage risk. It’s not unheard of for an angel investor to receive 20%, 30%, or even more in exchange for their investment.
This might seem like a lot, and it is, but angels understand that many startups fail and the successful ones typically go on to raise more rounds of financing, which will dilute their ownership stake in the company.
Venture capitalists don’t leave any equity on the table either, typically negotiating for between 25–55% equity in the company. This dilutes the founder’s and angel investor’s equity significantly, and each and every follow-up round of funding will do the same.
It’s likely that equity will not be the only concession you, the founder, will make when fundraising. Angel investors may take a board seat and an advisory role, to help nurture their investment, but VCs will almost certainly demand some control over strategic operations.
It’s important you understand the terms of the deal, how dilution works, and how various exit strategies will result for you and your team.
While both expect many multiples on their investment, they understand most businesses will fail and a minority of their portfolio companies will provide returns to make up for the losing majority.
Exit strategies for startup companies (and their investors) usually take one of two forms: acquisitions and IPOs. When a startup is acquired by another company, it typically comes in the form of cash or publicly traded and liquid shares of stock in the purchasers company.
Initial public offerings, or IPOs, are when the company itself decides to offer shares to the general public, therefore offering private shareholders their desired liquidity event.
Do You Want Angel Investors or Venture Capitalists?
While the final decision will be in your hands whether or not to take the money, you must first convince an investor that your business and team are a fit for their investment thesis.
If your team has no experience, no product, and no revenue, then receiving a term sheet from a venture capitalist is unlikely. If this stage best describes your company, angel investors are far more likely to invest than a VC would.
If your team has a wealth of industry knowledge, a minimum viable product, and hundreds of thousands in monthly recurring revenue, venture capitalists will be more likely to take a closer look at your business and possibly invest.
If you are a first-time fundraiser, networking your way to warm introductions (a requirement of many investors) will be slow, difficult, and likely sparse. Modernize your fundraising process by using EquityNet to directly connect with the more than 25,000 investors (angels and VCs) seeking investments. In 2020, the average company that successfully raised capital through EquityNet raised $2.4 million at a pre-money valuation of more than $6 million.