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Great question! Generally I would say the answer to this question for early stage companies (meaning Series A and earlier) is absolutely yes! The lines between VCs and Angels have blurred, especially over the last half-decade with the emergence of seed funds and super angel funds or networks. I think it is an important refresher to ground ourselves in some basics to fully understand how to appropriately and efficiently capitalize your company.
First off, we should discuss the pros and cons of angel investors. There is a lot of info available on this topic online, but in my experience, the main benefits are that angels are typically entrepreneurs themselves who are often very well connected. For these reasons, they can be an incredibly important source of mentorship for your founding team, and they can make some valuable intros to potential customers, employees or partners. Importantly, because they are often successful entrepreneurs themselves, their tolerance for risk is usually higher than that of your typical VC. This means that they are usually more willing to invest at the earliest stages of a business or concept and will typically do so with much less due diligence than required by your friendly local VC.
Just like VCs, not all angels are created equal. Ideally, you want to involve angels who understand the tech sector and the risks (and rewards).
On the downside, angels will typically only write one cheque into a single financing round for your company (unlike VCs who typically invest in multiple funding rounds over time). Generally, you shouldn’t expect that your angel investors will be able to bridge your company in times of difficulty, or even follow-on with another cheque in your Series A round. This means you need to plan for expanding your sources of capital outside of your angel group to fund your business over time.
This also leaves your angels at the mercy of the terms proposed by your next round investors. Because they usually don’t protect their positions with another cheque, angels can find that their ownership stake and associated rights may be diluted (or even disappear!) come your next round, particularly in situations where you need bridge financing or have no choice but to accept the dreaded “downround” valuation funding round for your company. Recognize that this can naturally cause some stress to your angels.
Just like VCs, not all angels are created equal. Ideally, you want to involve angels who understand the tech sector and the risks (and rewards) associated with it. In addition, they should have made multiple prior angel investments in companies that were at the stage you are at now. Be sure to do your diligence on your angels in a similar fashion to how you would do diligence for a potential VC. Angels are defined by the fact that they are writing cheques with their own personal money (not from a pooled capital of money from numerous institutional investors like a VC) and this fact can drive all sorts of whacky behaviour if you are not careful and understand exactly what you are taking on (particularly at times when you may need it the least, such as when your business isn’t scaling the way you thought it would).
Because they are entrepreneurs themselves, angels may feel the need to be more hands-on with the decision-making of your business than you are comfortable with, particularly in times of difficulty in your business. Angels who are new to investing in technology companies or startups in general may also grow impatient with the illiquidity of their shares and the length of time needed to build up and exit a tech enterprise. Again, this can cause undue stress for you and your founding team.
In terms of how much of your round should come from angels versus a seed fund versus a VC, in my opinion, it depends highly on the stage of your company. If you are at the idea concept stage or pre product-market fit stage, you should target angels and/or seed funds (which, for the purposes of this post, are basically organized angel networks in their mechanics, except that they can sometimes write more than one cheque over time) as the primary participants in your funding round. This means that you should actively look for a lead angel investor to commit to your funding round and work on then filling out (known as “syndicating”) your round, in conjunction with your lead, with other angels you are both connected to.
Generally, targeting VCs at the idea or pre product-market fit stage is a waste of your valuable time, particularly in today’s financing environment since VCs are going even later stage and being more picky than the last few years. You should still approach a handful of VCs who you think can give you valuable feedback on your idea, and expose them to your story early to build a longer-term relationship, but, for now, I would avoid targeting this group as your lead investor. The one exception to this is entrepreneurs who have a very strong established track record and/or a past working relationship with a given VC. In this case, your track record and relationship should allow you to be attractive to a larger VC-led round much earlier than usual.
If you are post product-market fit and have traction, I think the ideal syndicate includes both a VC and a group of angels and/or seed fund in your financing round. The more traction you have, the more your round will be attractive to an institutional VC, and, theoretically, the more dollars you will generally have available to you from that VC. You should leverage this dynamic into securing the VC as your lead investor and getting them engaged in being a hands-on partner with you in building your business. Once you move post-product-market fit, you need bigger dollars to scale and fully commercialize your vision. VCs can write larger cheques and, again, invest over multiple rounds in times of both good and bad on your journey. When you have your lead VC signed up, you can work with them on bringing in some angels into your round. In a VC-led round, angels can still be incredibly valuable to your company (for the reasons mentioned earlier in this post). Ideally, your lead VC partner understands this fact and will actively work with you to carve out a portion of your financing to include value-add Angels that you (and they) know well and want to bring in.
When deciding on the makeup of any round of financing, it’s important to manage the risk of negative signalling in future rounds. Any investors you take on early in your company’s life cycle will generally reserve pro rata rights to participate in future rounds. Some early investors will exercise these rights, others will not.
A benefit of taking angel money early on is that if an angel chooses not to exercise their pro rata rights — meaning they choose not to reinvest in your later round to maintain their ownership share — it is generally not seen by other investors as a strong negative signal. Angels aren’t expected to have large cash reserves for follow-on funding. Micro VCs that have a clear policy against follow-on funding, would similarly not provide negative signalling by not following on.
The same cannot be said when a VC (one that does typically reserve cash for follow-on) decides not to participate in your next round of funding. New investors will assume this investor has insider information about your company, and the fact that they aren’t willing to invest will be a very strong negative signal to the market.
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