How To Negotiate With An Angel Investor
Startups frequently meet with angel investors to secure funding. As an entrepreneur, you must make the most of these meetings when you have them. The general wisdom tends to be that angel investors are generally busy people who receive countless idea pitches. Therefore, it can be tempting to think that any offer they put out is a take it or leave it scenario. After all, that same angel investor could just as easily pass on your business and elect to fund one of the dozens of others they’ve encountered. However, this perception isn’t entirely accurate. You can (and should) negotiate with an angel investor.
To explore this topic thoroughly, let’s do a quick recap of what angel investors are, what benefits they provide, and then we can take a look at six aspects to negotiate with an angel investor.
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Angel investors are people who provide capital in the early phases of a startup. Typically, aspiring entrepreneurs will invest some of their own money (called seed capital) into the business. This amount of money will be enough to assemble a team, incorporate the company, and get some of the paperwork out of the way. Usually, that money will also be enough to get a prototype of the startup’s product developed.
Most angel investors are accredited investors, meaning that the SEC has permitted them to take part in investments that would otherwise be unavailable to the general public. To get this, they need to demonstrate a certain level of wealth and expertise. In summary, angel investors know what they are doing and are looking for investments with fantastic ROIs.
Once the business begins to gain traction, it quickly needs more money to scale. When this happens, entrepreneurs turn to angel investors to provide two primary benefits for a company. The first benefit is that they will inject cash. Usually, the sums of money are in the $50,000-$100,000 range, but sometimes people will invest a half a million. There’s no limit to how much an angel can spend. Secondly, angel investors also provide a startup with experience and connections. Many angel investors have numerous business accomplishments and have significant relationships. The right angel investor can provide substantial guidance and help entrepreneurs avoid common pitfalls.
Suppose you get a meeting with an angel investor. You pitch that person your idea. They go back, do some extra due diligence, and your staff talks with their staff to work out the details. Eventually, after some period of working together, the investor will, hopefully, want to commit to funding your business as long as the terms are mutually agreeable. At this point, it’s up to come up with mutual terms for their funding. You must negotiate with an angel investor.
First, above all, please always remember to trust your instincts. The early stages of a company are not the time or place to make a bad deal. As an egregious example, suppose you wanted to give 25% of the business in exchange for $50,000, and an investor countered with 99% of your company for $1. You know that’s a bad deal, so do not take it. You’re also very far off, and that unreasonable of a request gives you an insight into how that investor will think, which is not going to be helpful for your business.
Value an angel investor’s future contributions as well as their current ones. At the time of investment, an angel investor provides money. However, they can also offer significant expertise, knowledge, and connections, often outweighing the value of the initial investment itself. Can you imagine how much far someone like Bill Gates or Mark Zuckerberg could take your company if they were to invest in it? That type of exposure would be worth far more than the initial monetary investment itself.
Also, before you seek angel investors, please think about realistic, ideal terms of what you would want from an investor. Know your company’s valuation. Picture the perfect investor that you wish to onboard and the terms of that deal as what experience they will provide. Having an agreement between you and your partners on this mental image will help you form a baseline for your negotiations. It’s often remarkably tricky to negotiate when you, yourself, don’t even know what you want!
With that in mind, here are six negotiation points of which you should be mindful:
How much ownership an angel investor receives is typically at the center of a deal. Usually, angels will take between 20% and 50% of the company for their investment. However, the precise amount they receive is negotiable. If you feel that an angel is asking for too high a percentage, this is your time to negotiate. Clearly state the terms that you would be willing to accept and let them know.
Use the realistic amount that you’d be willing to give as your baseline. You will likely want to reject angels that want too much above that realistic amount. However, you should also think twice about investors who have come significantly below it. If you thought you’d give 30% away for $50,000 and they’re offering $50,000 for 10%, then one of you must be valuing your company incorrectly. You’re going to want to understand that much better before accepting the investment!
Also, consider the future value of the angel investor as well. Maybe you thought that you would only give up 20% of your business, but since you now have someone with a stellar background interested in your company, it’s worth giving up the full 30%.
- Seat On The Board
Whether or not the person receives a place on your board of directors is also another aspect of the deal that you can negotiate with an angel investor. While having someone else on the board may mean a loss of control, it tends to be a good sign from an investor if they want it. Asking for a seat means that they are genuinely passionate about your company and will likely do everything to make it succeed. It is a negotiation point you should keep in mind.
- Exit Strategy
Every angel investor will want some form of an exit strategy. Some want to be able to cash in their investments in a couple of years and make a profit. Others will stick with your business for the long-haul because they’re interest is taking you to IPO, or they are more interested in the long-term value of your company.
Knowing your angel’s exit strategy and negotiating around that can help you decide on the equity structures that you provide and also how much assistance you want from them. Giving an investor that will help the company for a year or two, a significant amount of equity may not make sense. However, if they are planning on being with your company and helping grow it to IPO, then you might be more inclined to provide them more favorable terms.
- Will They Lead Other Funding Rounds?
When you negotiate with an angel investor, one aspect you should consider is whether or not they will be the ones that will lead or champion additional funding for your company? Is their involvement solely limited to writing you a check and taking a seat on the board? Or, will they help you secure new rounds of funding and maybe introduce you to some people who can help make VC funding happen?
Having an angel investor who is willing to help you raise more capital tends to be very beneficial. As such, it’s something you may want to negotiate as part of the investment.
- What Changes Will They Want To See?
When an angel investor comes on board, some will have changes that they will advocate for in your company. Maybe they’ll want to see you do things differently, or they’ll have suggestions on the broad direction of your organization.
It’s best if you get along well with your angel investor. Ensuring alignment with common goals and visions goes a long way to making that happen. Therefore, you should “negotiate” any changes that they will want to make to your business upfront. If they are going to be advocating for you to change some aspect of the business, you’ll want to know that before closing the deal. Make sure you align with your visions with the company.
- What Contacts Can They Give You?
When discussing a potential deal, you’re going to want to know what future value an angel investor has in addition to his or her financial contribution. One of the best ways that angel investors can add value is through contacts. Often, angel investors know potential clients, vendors, suppliers, and people who handle professional services. All of these contacts could be valuable for your business.
Before signing on the dotted line, you should inquire as to what contacts they can introduce you to and how those contacts could help. If they have any previous entrepreneurial investments that they can disclose, be sure to get that too and follow up. As you think about the amount of equity to give away and money to receive, knowing this information can help you decide what’s a fair investment.
Communication Now, Saves Headaches Later
One common misconception about negotiating is that you need to negotiate to get the most out of the deal as possible for your business. While your negotiations should be in good faith for the benefit of your startup, the reality is that most negotiations are to ensure a fair deal of which both parties approve. Negotiating with an angel investor is bringing a genuine partner on board. They shouldn’t be looking to do anything that will harm their investment, and you shouldn’t be looking to harm them.
Since many of the benefits of angel investors are not monetary (guidance, experience, connections), you must align before the investment to avoid complications later on that can derail your company. If you feel disheartened that you gave away too much of your company or the investor feels like they didn’t receive enough, then it might result in a sour working relationship that can have negative implications.
So when looking at how to negotiate with an angel investor, you should be honest, frank, and determined to make a fair and equitable deal for both sides. Investing is very flexible, and everything is always open to negotiation. You can walk away if you feel the terms are unacceptable for your startup.
By actively negotiating, you can ensure that both parties remain happy with the deal and focus solely on the success of your business!
There’s no secret science to negotiating with an investor, but you should do some due diligence to make sure that what they are bringing to the table is worth the stake in your company you’re providing. Look at their future value as well as their current value. What will they bring to your company five years from now? What can they bring to your organization right now? Use that to brainstorm some terms of a potential deal that you and your partners would feel are fair. From there, you can use that as a baseline for your negotiations.
State clearly what you want. Most experienced angels are going to be reasonably quick to make decisions, and you should not feel afraid to ask for what you want and think is fair.
When meeting an angel investor, also recognize that you are bringing someone on board with whom you will have to work for the foreseeable future. That, of course, presumes that their exit strategy is to hang around and not get out after a year. These negotiations provide you a glimpse into their working style and how they will be if you accept their investment. Consider this factor as well during the negotiation process as it may make you more or less amicable to partnering for the venture altogether.
Bringing an angel investor on board is a process. If you negotiate with an angel investor properly, it can be one of the best decisions you’ll ever make for your business!