Navigating the labyrinth of angel investing can be daunting, particularly when confronted with the various financial instruments used. Unlike traditional investment avenues, where the jargon is relatively stable and well-understood, angel investing comes with its own lexicon.
In this post, I aim to break down some of these terms and help high-net-worth individuals better grasp their investment toolkit. It should also prompt founders to realise that straight equity deals are not the only way to raise money.
Equity Investments
Equity investments are the most straightforward. Here, you purchase shares or a percentage of ownership in the startup. The upside is that you stand to gain considerably if the company succeeds. The downside? You share in the losses as well.
Convertible Notes
Convertible notes are short-term debts that normally pay you interest that convert into equity at a later date, usually following a future funding round. This option allows you to lend money to the startup with the promise that the debt will eventually convert into equity or the capital will be repaid to you, assuming the startup has not gone bust. It’s useful when the company’s valuation is unclear, allowing valuation to be deferred to a future date when more information is available.
SAFE (Simple Agreement for Future Equity)
SAFEs are simpler alternatives to convertible notes. They offer the right to future shares in a startup but lack elements like interest rates and maturity dates, which are common in convertible notes. SAFE agreements are quicker to execute and often incur lower legal fees.
Warrants
A warrant gives you the right to purchase shares at a predetermined price within a set timeframe. Warrants are often attached to other forms of investment as a sweetener, giving you the option, but not the obligation, to buy more shares later.
Crowdfunding
Equity crowdfunding platforms are becoming increasingly popular, enabling investors to buy a small equity stake through an online platform. While this is an easy entry point, it comes with its own set of risks and often lower levels of due diligence. It is great for people who want to invest small amounts of money in exchange for shares. Often the crowdfunding platform itself acts as a proxy holding the title to the shares.
Syndicates and Angel Groups
Investing alongside a group of other angel investors can mitigate risks and allow you to benefit from collective expertise. This often occurs through formal syndicates or more informal angel groups.
Choosing the right financial instrument is crucial in determining your success as an angel investor. As always, consult with financial advisors and legal professionals to ensure you’re making informed decisions. But even then, these are high-risk investments, and you will likely lose all the money you invest.
