"It isn't easy being an angel.
Angel investing -- taking an equity stake in a startup company -- is coming back after a pandemic-induced slowdown last year. But there is a lot you should consider before joining the crowd.
For the chance at a big reward, you have to accept a lot of risk up front, and the chances of a payout are slim. Also, even if an investment does pay off, it will likely be years down the road.
On top of all that, it can be tricky to figure out how much to invest in the first place and, of course, which companies to bet on.
With low interest rates pushing investors to riskier plays, they poured $2.7 billion into angel commitments this year through September, according to data company PitchBook. This pace would produce a 2021 total of $3.6 billion, up from $2.5 billion last year and $2.7 billion in the pre-pandemic year of 2019.
While an overwhelming majority of startup companies fail, a return on a successful one can be huge -- say, 10 times the initial investment. "It's like buying a lottery ticket," says Robert Siegel, a venture-capital investor who teaches at Stanford University's Graduate School of Business.
To become an angel, you must be an accredited investor. That requires earned income over $200,000 ($300,000 for couples) for each of the past two years, or net worth over $1 million, excluding a primary residence. Whoever receives investors' money, whether it's an angel-investing fund or the company itself, is responsible for making sure investors meet the requirements. The recipients may face regulatory fines if they let a nonaccredited investor through.
You also have to consider how angel investing might play out. If you make 10 investments and get lucky, five may fail, two may return even money, and two may return two to three times your initial investment, says David S. Rose, an entrepreneur and investor. "That puts you back where you started," he says. "All your profit will come from the last one -- hopefully it's 30 times."
Waiting for investments to play out takes patience. It generally takes seven to 12 years for a startup to sell itself or go public, which is how investors usually get a payout, if one is coming. Until then, your investment is generally locked up.
"I act to myself like the money I have invested is worth zero," says veteran angel investor Ellen Levy, a former LinkedIn executive. "The mind-set of saying it could go to zero helps."
So, how exactly should you make such a risky bet?
Start by thoroughly researching companies in which you might invest, and their founders.
There are three main areas you want to judge, says Avy Stein, an angel investor and co-chairman of wealth-management firm Cresset Capital. That includes the dynamics of the company's industry, the company's competitive position in the industry and the strength of the company's management team.
"It's more about the founder than the idea," Dr. Levy says. You should meet with the founders if possible.
When you're ready to start writing checks, remember not to commit too much. Dr. Levy says the most she could lose is 2% to 3% of her net worth, though thanks to the appreciation of some of her investments, they now make up 7% to 8% of her portfolio.
The size of individual investments in a company often ranges from $15,000 to $100,000, but sometimes you can get in through an investing group for as little as $1,000. But realize if you go small, your investment might be diluted to a small percentage of the company as others join the party." [1]
1. Investing in Funds & ETFs: A Monthly Analysis --- Alternative Investing: The Risks and Rewards Of Angel Investing --- The risk is straightforward: You very well could lose all your money. But you could possibly make a lot of money, and have fun while doing it.
Weil, Dan. Wall Street Journal, Eastern edition; New York, N.Y. [New York, N.Y]. 08 Nov 2021: R.8.
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