Angel Investor vs Venture Capitalist Funding: Which Is Best?

When considering raising funding from an angel investor compared to a venture capitalist, the deciding factor is your startup stage. Startups ready to scale are best served by venture capital, which can provide more funding for equity. However, startups in earlier stages may not need as much funding and are better served by angel investors.

Angel Investor vs Venture Capitalist Comparison

Angel investors and venture capitalists both invest in growing startups, hoping to receive a return on their investment as the startup grows and exits through an initial public offering (IPO) or an acquisition. Both will want equity for their investment; however, while a venture capitalist receives equity immediately, angel investors issue convertible debt first.

Although venture capital firms and angel investors both invest in startups, they target them at different stages. This is because of the difference in risk tolerance and investment amount. Approximately 90% of angel investor deals are less than $5 million, with the median investment amount of $500,000. However, they take on earlier stage companies that are typically riskier investments and larger funding rounds are typically syndicated deals with multiple angel investors involved.

Venture capital firms invest upward of $500,000, with 90% of deals exceeding this amount and most deals are for several million dollars. Venture capital is often raised following an angel investment when the startup has grown and is typically considered a lower risk. These startups have traction and a way to put this large amount of capital to use.

Another major difference between an angel investor and a venture capitalist is the process for getting the funding. An angel investor often decides on their own and funds you after a short due diligence process. A venture capital firm often needs buy-in from all the partners before conducting extensive due diligence and releases funds as the company hits certain milestones.

When to Raise Angel Investor Funding

The best time to raise funding from angel investors is early in the development of your startup when their investment and advice can make a big difference for your business. You will typically want to raise angel investment after you’ve raised money from friends and family but before raising venture capital.

The best times to raise angel investment for your startup are:

• Early in your startup’s development: Early in the development of your startup, your valuation will be lower, making it a little easier to attract angel investment. You will stand to benefit much more from the networks and advice that an angel investor can offer your company.
• After you have raised friends and family funding: Typically, if you are starting a company for the first time, you shouldn’t need too much funding. This is when you raise friends and family but, as you develop, those funds will run out, often before you generate revenue. This is the best time to raise angel investment to keep going.
• Once you have a minimum viable product: If a picture is worth 1,000 words, then a product is worth 1,000 pitches. When you can offer your angel investors something they can hold, click, or otherwise experience you don’t have to waste your breath explaining what the product will be. This makes it much easier to raise funding.
• When you are ready to deploy your product to a larger audience: Many entrepreneurs that bootstrap through the product development and initial customers find that to expand beyond their reach and satisfy demand they need additional funding and guidance from angel investors.
• When you need $5 million or less: Startups should seek angel investment up to $5 million. Larger investments are rare, with 90% of deals under this amount, even when several angel investors are taking part in a round of funding. This funding is best for early-stage companies and is a step to later raising venture capital.

Judy Robinett, author of the international bestseller, “Crack the Funding Code,” shared the investment priorities of angel groups and venture capitalists.

“Angel groups often focus on preseed when the company is gaining market validation. Their main question is, ‘Will customers open their wallet for your product?’ They also focus on the seed stage when your company acquires customers and has a proven sales model. With venture capitalists, some focus on the seed stage and will invest between $1 million and $20 million, which is called Series A funding.”

By establishing that you have a customer base and a product that is usable and working, you will have no trouble convincing angel investors that their money and advice will grow your company. However, if you are well past that stage or you need more than $5 million in funding, then raising venture capital is a better option.

When to Raise Venture Capitalist Funding

The best time to raise venture capital funding is when your startup is ready to scale. Typically, this is after you’ve raised money from angel investors, and when you can show customer traction. About 90% of startups raise at least $500,000 from venture capitalists, with an average funding amount of $5.5 million.

The best times to raise venture capital for your startup are:

• When your startup is ready to scale: Taking on venture capital is typically done when a startup is ready to scale its operations. This is because, not only does the venture capital firm offer a large cash injection, they also have partners that have scaled startups and can offer guidance on the process.
• After you have raised angel investment: Most startups that raise venture capital have already raised angel investment. When your startup needs a large cash injection because although growth is good, there may still not be sufficient revenue, venture capital is a great follow-up funding source to angel investment.
• Once you have good customer traction: You won’t be tinkering as much with your product at this stage and will have customers that use your product or service frequently and love the experience. This is something a venture capital firm looks for, and it validates that your business works.
• When the funding can significantly increase valuation: A venture capital firm will look to invest in companies whose valuations will keep rising. This is because they want to avoid significant dilution when you raise additional capital and because it’s how they can show progress to their investors.
• When you need more than $500,000 in funding: Although it’s possible to raise less than $500,000 in venture capital, this is typically rare. On average startups raise around $5.5 million in venture capital, and that number has only been growing. This is because the amount of funding angel investors can provide has also increased.

When a venture capital firm evaluates your company for investment, they will try to understand if what you offer can be scaled and if doing so will increase the valuation of your company. Venture capital is typically reserved for a small percentage of the fastest growing startups available in a year. However, there are alternative sources of funding to angel investment and venture capital for startups.

How Raising Angel Investor Funding Works

Once introduced to an angel investor, you will present your company, request an investment, and negotiate terms. The angel investor then conducts some due diligence, and you receive the funds in one lump sum for convertible debt. For the next one to three years, angel investors act as advisors, receiving repayment in the form of equity or payment when your company raises additional funding.

The best way to pitch an angel investor is through a warm introduction because angel investors prefer deals from within their networks. During your pitch, you will present your business and your ask, or the amount of money you need from the angel investor. After discussing terms, which will vary based on the angel investor you work with and your business, the angel investor will want to complete a short due diligence process.

Assuming everything looks all right during the due diligence process, you will typically receive the money in the form of convertible debt. This debt is repaid at a premium or converted into equity at the next round of funding, at the angel investors discretion. However, you won’t be making any regular payments on the debt, instead of over the next one to three years, the angel investor will wait for your business to grow, while providing guidance and advice.

As your business grows, you will head toward an exit strategy. These exit strategies include an acquisition, a merger, additional investment, an IPO, and sometimes liquidation. Regardless of how you exit, this is the point when the angel investor is repaid, most commonly if your business is growing and can be scaled, you will raise additional funding from a venture capitalist.

How Raising Venture Capitalist Funding Works

Raising venture capital usually begins with a warm introduction made to a partner of the firm. After being invited to pitch your company, funding follows a lengthy due diligence process. The partners will have board seats, own equity in your company, and exit in three to five years when your company IPOs or is acquired.

Many angel investors will introduce you to a venture capital firm. However, if your startup is growing quickly, a venture capitalist will often approach you for a funding opportunity. Unlike an angel investor, typically the partners need to be in agreement about the investment, so you will need to present to them as a group when seeking funds.

The due diligence process is also more formal for venture capital investment vs angel investment. It will often include background checks, credit reports, and technology assessments. If everything goes well, you will be presented with a term sheet, describing the size of the investment the amount of equity you give up, and any conditions needing to be met.

It’s common for venture capital firms to have one or more partners on your board of directors, to oversee major decisions at the company. Besides guiding your startup to success, they are also there to ensure that their investment is spent in a way that produces growth. Finally, when your startup IPOs or is acquired, venture capital firms receive their earnings through the equity it owns.

Angel Investor vs Venture Capitalist: Return Expectations

Angel investors and venture capitalists have different return expectations because of how much they invest and how many deals they do. Angel investors typically make smaller deals and therefore need startups to grow less (10x) in the process for an average desired portfolio return of 9%. Venture capitalists have fewer investments, but they are much larger, so the 10% to 20% of companies that succeed grow their valuation by 100 times or more.

Return Angel Investors Expect to Earn

Angel investors typically issue convertible debt for this investment which gives them the option of being repaid their capital with a premium or converting it into equity in the company. Typically, the premium is 20% to 30%, and they are repaid at the next valuation of your company, which is usually a venture capital investment, acquisition, or initial public offering.

Although angel investors are taking a larger risk, they look for less overall growth (10x) than venture capital firms (100x). This may be counterintuitive as it happens because angel investors typically receive equity at the next valuation, for the value of their initial investment. This means that as your company grows, they receive a smaller ownership percentage of the company. The opposite is true for venture capital firms, which get their equity upfront.

Here’s how it works: assuming an angel investor provides $50,000 with a 20% premium when the company is worth $250,000. At the next stage of funding, a venture capital firm invests $500,000 for 20% of the equity, giving the company a valuation of $2.5 million. Now, the angel investor can convert the $50,000 plus $10,000 (the 20% premium) into equity. This leaves the angel investor with about 2.4% ($60,000/$2.5 million = 0.24) ownership in the company.

Returns Venture Capitalists Expect to Earn

Venture capitalists exchange their investments for equity, which is usually at least 20%. There is no premium. However, the amount of equity you surrender depends on two factors: the valuation of your company and the amount of money you get. By negotiating a higher valuation, you are giving up less equity. The same is true if you take on less money.

Venture capital firms typically seek to maximize their overall returns like any other vehicle that invests money on behalf of outside investors. Therefore, they look for startups that can command 100x the valuation they currently have. Although this doesn’t indicate that they won’t invest in smaller growth projects, they do often want to stay involved and invest more money as the company grows and needs additional funds.

Angel Investor vs Venture Capitalist: Funding Amount

The largest deciding factor you should consider when raising angel investor versus venture capitalist funding is the investment amount. Even with several angel investors or an angel group, it’s difficult to raise over $5 million, however, with venture capital, you’ll receive over $500,000, with smaller deals referred back to angel investors.

Angel Investor Investment Amount

Angel investors make smaller investment amounts, earlier in a startup’s development. Average individual angel investments are around $40,000, with 90% of funding rounds under $5 million. They invest the money in one lump sum, with a premium of debt or equity received at the next funding round. The time to get funded will usually be less than three months, but it can take some time to find the right angel investor for your company.

Venture Capitalist Investment Amount

A venture capital firm will invest $500,000 million or more, with average investments exceeding $5 million. It can take over three months to get funded, depending on the due diligence process, and even longer until you find a venture capital firm willing to hear your pitch. Rather than receiving all the funds up front, you will typically need to achieve certain growth milestones to unlock additional investments, which are outlined in your terms.

Angel Investor vs Venture Capitalist: Funding & Repayment Terms

When considering angel investors vs venture capitalists as a source of funding, it’s important to understand the terms each one will require. Angel investors typically provide funding with convertible debt, which can be repaid with cash or equity in the company. Venture capitalists will take a direct equity stake in the company and have higher requirements for the release of funds based on company performance.

Angel Investor Funding & Repayment Terms

Angel investors have few terms attached to their investment. Investment takes the form of convertible debt on which you’ll encounter the premium on their investment, the amount invested. You can discuss their planned level of involvement in the business and any other terms specific to the investor. Aside from that, there aren’t any general requirements, and they will vary from one angel investor to another.

For repayment, the contract will usually have a trigger for when the debt matures. Unlike most convertible debt, this is rarely a specific date. Rather, it’s often defined as a funding event. This funding event will usually be another round of funding, acquisition, or initial public offering. In some cases, it will also include provisions for repayment in the event of bankruptcy for how investors will be repaid. The more investors are involved, the more formal the contract usually is.

Venture Capitalist Funding & Repayment Terms

A venture capital firm is investing the capital of other people and, therefore, typically requires you to agree to extensive terms before you can receive funding. These terms include restrictive covenants, like not being able to sell the company with board approval, and a requirement to have a board that will oversee the CEO.

More recently, it’s common for venture capitalists to require companies they invest in to also provide a pool for employee stock options, which can dilute founders further. Often, it’s important to have an advisor that can help you navigate these terms to understand how these requirements better, which are sometimes more than 30 pages long, will affect your company.

This is much more restrictive and structured than most angel investor deals, typically because the relationship lasts much longer because you are taking on partners into the company. Most of the contract is there to protect you and the venture capital firm and set up boundaries and goals. With angel investors, most of this is done on a handshake, which is simpler for smaller investment amounts.

Angel Investor vs Venture Capitalists: Factors They Consider Before Investing

Qualifying for angel investment vs venture capital requires you to have a growing business and a well-rounded team. However, there is much more leeway offered by angel investors than venture capitalists. Angel investors have a shorter due diligence process and typically decide on their own, whereas venture capital firms will evaluate the company in greater depth and typically vote as a group when providing funding.

Factors Angel Investors Consider Before Investing

To qualify for angel investment, you will typically need to be in the industry they have experience investing and sometimes located in their local area. You should have a firm understanding of the risks and priorities of your company and a plan for growth. You also must show a track record for execution, which often requires that you have a strong founding team with well-rounded expertise in the area where your company is focused.

Venture Capitalist Funding Qualifications

Qualifying for venture capital investment is more difficult. You will need a well-rounded team and a business that has traction with customers and the ability to scale quickly. You will need to gain approval from all the partners of the venture capital firm and pass a lengthy due diligence process. Finally, funds won’t be released immediately. Instead, you must hit certain targets to qualify for additional funding.

As part of the presentation to a venture capitalist, you will need to provide financial projections, Ben Ames, director of growth at Corl, shares some advice:

“Financial projections require a great understanding and should be detailed. You need to be able to express your expertise in the industry and how you’re going to achieve the projections you outline. It’s easy to leverage big market caps; investors see that all the time. Investors want to hear who your target demographics are and how you’re going to get them involved in your business.”

Every industry and venture capital firm will have different overall qualification requirements. So, what qualifies in the software industry will be different if your startup is focused on a product for the oil and gas industry. It’s typically best to evaluate recent investments made by the venture capital firm and gauge how your business compares to those companies.

However, almost every venture capital firm won’t release funds right away to the company. Instead, you will negotiate a schedule for funding, that’s typically based around hitting certain milestones for your business like customer acquisition, user growth, or another metric that’s important to the success of your business.

Difference Between Angel Investor and Venture Capitalist: Pitching & Application Process

The formality of the application process is the biggest difference between angel investor and venture capitalist funding. The process with angel investors is quicker, lasting up to three months and less formal. Typically, a short pitch and some discussions about plans for the company is what you can expect with an angel investor.

However, venture capital firms will often take over three months and have a more formal presentation with extensive projections and a due diligence process that involves credit and background checks on founders. This is because of the complexity of the deal and a large amount of capital that is often involved.

Angel Investor Pitching & Application Process for Funding

Angel investors typically rely on introductions from within their networks when accepting applicants for funding. The process is informal, typically over coffee or lunch, and should include an elevator pitch about your company. At a more formal meeting, you can present a pitch deck and provide some supporting financial documents that include projections. However, by then, most angel investors have already decided.

The pitch deck is less formal than the one required for a venture capital investment and typically provides the angel investor with information about the current standings of the company. This includes your runway, which is the number of days your company can operate with no cash injection. The most important thing you must include in your plan is how the money will be invested in the company, and the results you expect these investments will produce.

Venture Capitalist Pitching & Application Process for Funding

You can sometimes apply to a venture capital firm online. However, most of their deals are sourced by partners at startup events, in university research centers, and through introductions. You must present your company to the team. Once there is an agreement, a lengthy due diligence process will start.

There is nothing specific that’s required in a pitch. However, your investors will want to see you understand the industry and your company’s role in that business. They’ll also want to see how you plan on growing the company and what results you expect to achieve if you receive the funding. Typically, this takes the form of financial projections, but expect to be well versed in your assumptions as investors see these often.

The due diligence process typically includes background checks, credit checks, a review of your company financials and legal documents as well as extensive research on your technology and its viability. Once this process is completed, you will be offered formal terms to review, and once you’ve satisfied all the terms, you will receive funding.

“Getting funding for your startup comes with many challenges. You now have investors who have equity in the company and, therefore, power in influencing key decisions and directions for the company.”

―Allyson Kapin, founder, Women Who Tech

The process doesn’t end after funding, as Allyson Kapin notes, you must work closely with your investors on setting goals and planning the strategic direction of the company. These investors now have an interest in the company and, therefore, will influence the way the company develops. Maintaining a dialogue is important to ensure that goals are met, and interests are aligned as your business grows.

Angel Investor vs Venture Capitalist Funding Frequently Asked Questions (FAQs)

Do venture capitalists use their own money?

Sometimes, venture capitalists invest their own money into startups. This usually happens because the venture capitalist is invested in the larger pool of money organized by the venture capital firm. However, sometimes, a venture capitalist may believe in a company and make an angel investment before the company is ready for venture capital.

Are angel investors venture capitalists?

Angel investors can also be venture capitalists and vice versa. Some angel investors are partners at venture capital firms, and venture capital partners will sometimes make angel investments into companies that are too small for venture capital. However, the two are distinguished by the amount that they invest and the form of their investment.

What is the difference between private equity and venture capital?

Private equity firms seek to own 100% of the equity in a company as opposed to venture capital firms, which usually only take 20% to 30% equity. Additionally, private equity will usually install its own management team and impose a strategic direction on the company, whereas venture capital works closely with founders and the existing team.

Where do venture capitalists get their money?

Although venture capitalists sometimes have their own money invested in the fund, most of the money usually comes from outside investors. This is important to consider before raising venture capital because although they have an incentive to see your company succeed, their ultimate role is to provide a return to the investors in their fund.

How do you attract angel investors?

The best way to attract angel investors is by having a business that is showing early signs of success, has a good team, and traction with customers. If you are having trouble meeting an angel investor, you can typically find them at conferences, through other startups, and online through platforms like AngelList and Gust.

Bottom Line

Early stage startups often need funding to fuel development and growth. For startups that have a product and are bringing on their first customers, there are angel investors. Angel investors typically offer up to $5 million in convertible debt as funding. If your startup is ready to scale or needs a larger investment, then venture capital is the best option.