Risks of Angel Investors
An angel investor is an individual who provides funding to startup businesses in exchange for an ownership stake in the new enterprise, which isn't run by a family or friend. They are typically looking for a higher investment return than they could get from safer, more established firms. For startups, it is an alternative to banks, which may be less likely to finance new endeavors seen as risky. By one estimate, the U.S. has at least 140,000 active angels who invest about $20 billion a year. For angel investors, the rewards can be high, but so can the risks. Here are some of the risks that angel investors face.
Other People Are Reading
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Many Businesses Fail
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All angel investors are searching for the next Google, a company that will make them fabulously wealthy. But in reality many new businesses, perhaps as many as half, fail within their first five years. The percentage is particularly high for certain types of businesses, including restaurants. That failure rate is the reason that banks reject many of the companies' financing bids in the first place.
Tough to Sell
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People who buy stock in publicly traded companies can typically sell their investments at will, whenever they want. This makes stocks a fairly liquid investment. But angel investments are highly illiquid because there is no public market on which the stake can be sold. Therefore angel investors need to have patience, and they need to be putting up money they absolutely won't need for living expenses for several years.
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It's Expensive
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Being an angel investor isn't cheap, which is why it mostly attracts people with high net worths. Most angel investors join local accredited networks, and these groups usually charge thousands of dollars a year in fees. They also usually charge annual management fees of 1 percent or 2 percent. Of course angel investors could strike out on their own, but that means hiring lawyers and accountants, which also isn't a cheap proposition.
Takes Time
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All investments take some time, such as reading annual reports and news about the company. But most investments come with full-time professional managers, thus the investor really doesn't have to do all that much. Not so with angel investors. Often the angel finds him or herself in an advisory role to the person leading the new enterprise. Thus being an angel investor takes a good chunk of time.
Easy to Get Sucked In
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Many angel investors get starry-eyed by the potential of the new firm. Often the entrepreneur is a charismatic figure who talks of his or her new company as a can't-miss opportunity. Many angel investors don't take the time to carefully analyze this person's business plan and aptitude for management, which often ends up costing them both time and money.
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- Photo Credit Image by Flickr.com, courtesy of Paul Sapiano
