• Crucial ‘need-to-knows’ when considering your first funding round from angel investors

Crucial ‘need-to-knows’ when considering your first funding round from angel investors

27 May 2022

Angel groups

There are numerous ways to access angel capital. One of the most popular and a vital link between investors and companies seeking capital is angel groups. Typically, angel groups will include a group of high net worth individuals with capital to deploy and happy to invest together. Businesses then approach ‘the group’ with their proposition. As an example, if you ask for funding of £250k could, you might get 25 investors each investing £10k or five investors investing £50k.

Pitch events and other opportunities

Another approach is to attend events that are relevant to the angels. For example, pitch events, talks given by credible angel investors or seminars on accelerating your business growth. All of these are good opportunities to network and establish with potential investors. Roderick at UKBAA explains that “it is crucial to build warm connections with potential investors. Many opportunities will be passed their way and in order to be noticed and remembered, establishing these warm connections will enhance your chances of successfully securing funding.”

There are a number of essential components you need to prepare before reaching out to potential investors. At an absolute minimum these include: a compelling investor deck, a realistic financial model, a well-structured business plan and a management presentation.

Investor deck

The investor deck will need to explain the ‘equity story’; why your business is a great opportunity for investors. The deck should cover themes such as the market opportunity, your product/service offering, the management team, progress and traction to date, high level financial projections, the investment ask and how it will be used to drive growth and progress.

Financial model

A realistic financial model should show to investors that the financial projections have been forecasted sensibly, balancing realism with ambition. Costs and revenues will be driven by assumptions provided by management, and these assumptions should have a strong commercial rationale to show the investor that the plan is achievable.

Business plan

A well-structured business plan will echo the themes of the investor deck in more detail. It should articulate clearly the goals for the business and the plans to achieve them. The plan will be essential especially if your business is early stage with a lack of track record. Your business plan will help convince potential investors that your business is a plausible and attractive opportunity.

Formal presentation

You will often be required to make a formal presentation when pitching to angel groups or other investors. Your formal presentation should bring the topics of the investor deck to life, engage listeners and leave them wanting to explore the opportunity further.

Venture capital scheme

Other preparations to consider will be receiving advanced assurance from HMRC on a venture capital scheme. Most angel investors will look to take advantage of the various tax benefits available to them by investing in companies that qualify under these schemes. This can be a timely exercise, so commencing this process as soon as possible will be beneficial. A more comprehensive summary of the EIS scheme can be found here.

Business metrics

Understanding and having visibility of your key metrics will be essential. As to which metrics these will be will be dependent on your sector, business model and how long you have been operating.

Some examples include customer churn rate, cost of customer acquisition, working capital cycle, customer lifetime value, cash runway, average monthly cash burn, gross margins and repeatable revenue. Having these metrics and the rationale behind them to hand will stand you in good stead, as they will be scrutinised by potential investors.

Valuing early-stage businesses is not an exact science. The truth is that the bigger your business becomes, the easier it is to value because benchmarking against comparable companies becomes easier as more data becomes available.

Angel investors will not welcome steep valuations and being unrealistic will risk souring your potential deal. Don’t enter negotiations on valuation believing that you will achieve the so-called ‘unicorn level’ valuations. You may achieve this coveted status eventually but given its very unlikely you have the evidence to back that kind valuation.

Roderick has said ‘to expect to part with 15-20% of the total equity in your business during an angel funding round. You must also be prepared to potentially engage with multiple funding rounds before going to market before your first institutional fundraise.’.

So, if you were aiming to raise £200k of angel investment, angels would be valuing your company in the region of £800k pre-money. You could expect then your post money valuation to be in the region of £1m resulting in approximately 20% dilution for existing shareholders.

It is useful to research the valuations applied to recent deals that have occurred in your sector. However, remember that the valuations will likely be affected by the company size, traction, pipeline, quality of earnings, geographical presence and other qualities typically associated with more mature businesses. You should bear in mind that while you might be operating within a similar sector and by a similar model to another business, comparisons might not apply given the infancy of your own business.

How long does the angel investor process take?

Gayle at Wealth Club breaks down the process into the key milestones; ‘Looking at each stage in turn; preparing and critiquing your business plan, presentation, investor deck and financial model could take a good six to eight weeks. Once you have researched and shortlisted the most suitable potential funders, the pitching process and subsequent due diligence could take another couple of months. Following this, finalising the legals could take an additional four weeks to complete before the transfer of capital.’

There are, of course, instances when dealing with individual angels directly where this process could be completed within a number of weeks. Always allow yourself a buffer and assume that the process could take three to six months.

What are the common pitfalls of angel investment?

Gayle explains that the “most common issues that businesses face derive from failing to prepare. We often see businesses that have failed to prepare the essentials such as the investor deck, business plan, financial model or management presentation.

“We also find that there is a lack of understanding from management teams of normal market terms and conditions, due diligence requirements, and the common terms that investors will ask for. There is a steep learning curve and management teams need to be prepared for this by not only investing the time to understand and appreciate these key points, but also to remain adaptable and coachable in the eyes of investors and instil good financial controls and corporate governance from the get-go.”

Another common pitfall is poor cash management. Your existing cash runway should not end at the time you expect to close the funding round. You must keep a cash buffer to allow for delays and avoid the risk of running out of cash which would put you in a poor negotiating position with investors. This will also have a detrimental impact on dilution for existing shareholders. 

You may have an expectation for a ‘minimum cheque size’ from angel investors. Roderick has advised “do not set the minimum cheque threshold too high as this can narrow the cohort of investors you will appeal to. Often, smaller investors will communicate with their own network which can often lead to additional investments from new investors that you may not have otherwise been connected to.”

As we explored above, businesses raising angel finance seldom achieve unicorn level valuations. You must have realistic expectations when considering your valuation and be mindful of the valuation angel investors might expect. Unrealistic valuation expectations can make deals impossible.