Multiple factors contribute to any business startup’s proper setup and smooth operation. Entrepreneurs must consider many aspects to triumph over existing businesses and competitors.
An important aspect of any business is to come up with a unique idea that can impact the industry right away, attract consumers quickly, and contribute to society in a positive way. Then comes business models, legal details, teams, etc.
However, you won’t be able to materialize all your business ideas and plans without proper funding. Every startup requires adequate financing from the get-go.
Unfortunately, raising funds [capital] is challenging for any startup, and here is why. You should be able to convince the investors to put their money on the line with no return guarantee since businesses have chances of failure.
You could fund your startup by yourself and loans from financial establishments. But you have to bear a huge risk which is not a wise thing, and a smart business person wouldn’t do that either.
In case of unfortunate events, you may go bankrupt since you are obliged to pay back the borrowed principal amount with interest. We suggest you adapt to other ways of funding your startup.
Don’t worry; we will help you pick the best way to raise money for a startup. Angel Investment Vs Venture Capital Vs Crowdfunding: everything you need to know. We will help you pick the best option for your business startup.
Funding your startup with an angel investor or venture capital can help you reduce losses and share risks with a better chance of success. However, crowdfunding has been gaining popularity in recent years since it has helped many entrepreneurs get off the ground.
In the next section, we shall discuss these three ways of funding a startup and their pros and cons, which will help you pick the suitable investment model that you see fit for your business startup.
Let us dive into the funding options without further ado.
What is Angel investment?
Angel investment is made by affluent [rich] individuals [such as millionaires or billionaires; accredited investors], who invest their [personal] money into startups or small businesses in exchange for a certain amount of equity in that company. Equity for investment is the fundamental principle of angel investment.
Angel investors are generally accredited investors, meaning the individual has an estimated worth of at least a million dollars [$1M]. Or, the person investing should have a proven yearly income of two hundred thousand dollars [$200,000] for the past two years and the same estimation of the current year.
A group of angel investors can be accredited if they have a combined income of at least three hundred thousand dollars [$300,000].
*Note: not all angel investors are accredited investors; it depends from place to place, varying from one platform to another.
Angel investors support startups during the initial stages regardless of the high risks posed by the unproven business models, unguaranteed sales, revenues, and inexperience of the business contributors.
As mentioned earlier, angel investors can be individuals or groups of investors. Usually, they tend to invest from $25,000 to $100,000 in startups and small businesses. Some cases show angel investments worth more than the mentioned amount.
The good thing about angel investment is angel investors do not focus on the metrics, unlike venture capitalists. Hence, an effective and efficient fundraising option to raise capital for your startup.
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Now, let us discuss some noteworthy pros and cons of angel investments.
Pros:
- Angel investment is not a loan
- Angel investors bring more than monetary value
- Angel investment is a shared risk
Angel investment is not a loan
Entrepreneurs can fund their startups and realize their ideas come to life with loans from banks and other financial establishments. These loans come with obligations of payback in a certain time interval. Since there is no guarantee of your instant business success, it may burden you with more paybacks and financial concerns.
Angel investment comes to the rescue, as you do not have an obligation to pay back. And the good part is angel investors also do not expect a hard-cash repay. They are backing the company’s value growth over time, which they can leverage to sell their equity for a greater value to earn profits.
Angel investors bring more than monetary value
Angel funding doesn’t only mean monetary assistance to your startup; it holds a greater value. Angel investors have usually experienced business individuals who can contribute to your company’s growth by a considerable amount.
Since they also own your company to a certain extent, they will make an effort to grow the business. Their experience and connections will aid the growth of the business.
Angel investment is a shared risk
The unfortunate truth of business startups is that not all make it through the hard times to success. There are many hindrances and barriers on their way, which makes it challenging for entrepreneurs to obtain loans from financial establishments or get funded by venture capitalists.
On the other hand, angel investors are well aware of the risks and possibilities of failure, and they understand the implied threats and are still willing to invest in your startup by putting their capital on the line.
You will have willing partners to rise and fall together, which shares the risks of losing a larger amount in case of failure.
Cons:
- Pressure to succeed
- Angel investor’s roles
Pressure to succeed
Despite the financial support and business advice, angel investors demand success. You have to bear the responsibility to make it in the business world to keep your angel investors satisfied.
Investors want their investments to pay off substantially, piling up the pressure on startups to churn out a stable rate of return.
Angel investor’s roles
Remember the basic principle of angel investment? Equity for investment. You give away a certain amount of company equity to the angel investor, meaning future profits will be divided among you all, and so will be the control regarding the decision-making in the company.
It will be a serious concern if altercations arise around the roles of angel investors in establishment operations.
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What is venture capital?
Venture capital is the format of private equity and a class of financing that investors provide to entrepreneurs for startups and small to medium-sized businesses with potential for higher returns. It is one of the best funding options to raise money for startups.
Venture capitalists expect a certain percentage of ownership of your company to play an active role in business operations. They usually study to depths before investing and only invest in the ideas and establishments that possess the ability of long-term growth potential.
Venture capital funds are specialized funds that manage investors’ money and invest in small and midsize businesses and even startups through private equity.
VC funding is a form of equity financing that raises funds for entrepreneurs before commencing business operations. It doesn’t necessarily require revenue generation to acquire VC funding; if you have a great business model to support your futuristic business visions.
Venture capital funds focus on precise early-stage investments, differentiating them from mutual funds and hedge funds. But, all pooled funds have similarities in working principles as they all gather capital from external sources before making their investments.
Now, let us discuss some significant pros and cons of [VC] venture capital funds.
Pros:
- Venture capital is an enormous pool of capital
- Venture capital doesn’t have a repay obligations
- VC offers better connection and reachability
Venture capital is an enormous pool of capital
As discussed earlier, venture capital pool funds can gather a large sum of money before investment. Entrepreneurs will get a sufficient amount of money as an initial investment and can access capital when needed, which helps their startups get going in no time.
Venture capital doesn’t have a repay obligations
Venture capitals are similar to angel investors since they gamble on the success of the establishments and put their money on the line. VC funds have fewer chances of loss due to extensive research and study before investment.
Still, if the business fails, the VC funds will be in the dust, and the venture capitalist will have the same portion of the blame in case of failure. The good part is entrepreneurs do not have an obligation to pay back the initial investments.
VC offers better connection and reachability
Venture capitalists are no ordinary people; they are successful entrepreneurs or established business owners who bring a lot to the table. They have many connections and wide reachability, helping the upcoming business bloom faster and establish itself as a strong competitor.
It is their business too, which compels them to work actively for the betterment and success of the company.
Cons:
- Difficulty in attracting investors
- Investor roles in the company
Difficulty in attracting investors
Venture capitalists do not easily invest in ordinary business ideas and startups, and they have experience and can see the future of business better than other people do. In addition to that, they conduct deep research on the niches and only invest if they see a high potential in the business.
Investor roles in the company
VC funds don’t come easy, even if you have a fantastic business strategy and effective models. Venture capitalists demand a large portion of your company equity, letting you lose complete control over your own company.
They want themselves seated on the company’s board, which affects the operation and decision-making in the company. You might not have the upper hand, and times will come when conflicts arise in the company where you will have to suffer.
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What is crowdfunding?
Crowdfunding is a process of raising money or capital from public; individuals interested in contributing to the cause with expectations of potential profit or rewards. It is booming at the present as an effective funding options to raise money for business startups.
For example, a gaming company builds a game with crowdfunding and gifts them with copies of the game to play.
Equity crowdfunding has grown significantly over the years and evolved with a few changes like allowing the investors to earn equity in the business [venture]. It has helped many entrepreneurs to live their ideas and dreams and offer societies great innovations and services.
It is important to know that jurisdiction and rules specify who can fund the startups and how much the spending limit is. This process promotes equality and allows wealthy and non-wealthy investors to invest in the cause equally.
It protects investors from losing all their money at a shot since not all businesses triumph as planned. It works for the betterment of non-wealthy contributors. You don’t want your well-wishers to lose their life savings if things do not work out as planned.
Now, let us discuss some substantial pros and cons of crowdfunding.
Pros:
- Equity-based crowdfunding is not mandatory
- Crowdfunding makes it easy to attract investors
- Crowdfunding offers increased visibility and reachability
Equity-based crowdfunding is not mandatory
As discussed in the section above, crowdfunding doesn’t have to be equity-based fundraising. Although, modern-day crowdfunding is usually equity-based.
It can raise funds from the general public without giving up any company ownership. Some platforms allow you to advertise your ideas and raise funds for the cause on a reward basis.
The platforms may charge you a certain amount of money for advertising. People will contribute to your startup if you have a compelling idea and an excellent business model to support it. You can repay them [investors] with the products and services before rolling them out to the general public in the market.
Crowdfunding makes it easy to attract investors
Crowdfunding platforms help you post your ideas and strategies for your startup, which can reach a massive number of contributors globally. You do not have to pitch your business ideas manually and expect funding, which is tedious.
People who feel and connect with your ideas will help you raise funding without working hard.
Crowdfunding offers increased visibility and reachability
Since you are using crowdfunding platforms to raise your funds, it creates automated marketing for your upcoming product or service. The contributors will keep in touch with your company to monitor the progress, which unintentionally involves others around him to promote your business.
You do not have to spend an extra sum on marketing that aids the startup process. It keeps your investors updated with the progress and simultaneously reaches more possible investors, increasing visibility and reachability.
Cons:
- Not always effective and efficient
- Expensive platforms
Not always effective and efficient
It is not guaranteed that your fundraising campaign will work out fine to support your startup. Since people want something back in return, they aren’t sure if you can deliver. Since the modern way of crowdfunding allows investors to gain company equity, your free donations may not attract investors.
People may not be generous to contribute to your mission/project without earning something from it. Equity-based crowdfunding works better than others, but you lose some company equity.
Expensive platforms
If your fundraising campaign drastically fails, you will have to fund the promotions from your pocket. Crowdfunding platforms have to run their businesses and earn money, so they do not let you run campaigns for free.
If you are unfortunate, you will suffer since you have to pay around 5% to 10% of the amount to raise the money you require for your startup.
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Angel Investment Vs Venture Capital Vs Crowdfunding: Main differences.
There are three major components to look at to figure out the major difference, and they are as follows:
- Investment amount
- Sector of investment
- Investor roles
1. Investment amount
To help the startups, angel investors spend their [personal] money ranging from $15,000 to $70,000. If angel investors form a syndicate to invest, they can raise more than 2 million dollars.
On the other hand, venture capitalists use pooled funds to invest big. The sum [capital] varies from $2,500,000 to $70,000,000.
Crowdfunding varies from one region to another. There are many cases of successful crowdfunding and also cases of insufficient fundraising.
*Note: The amounts mentioned above aren’t applicable globally; it varies from place to place.
2. Sector of investment
Angel investors generally invest in seed businesses and startups, while venture capitalists invest in startups with proven business models and SMMs with long-term success potential.
Angel investors are ready to take a bigger risk than venture capitalists, and are less demanding in business operation roles.
On the other hand, crowdfunding or equity crowdfunding supports all stages of business startups.
3. Investor roles
Some angel investors are passive, while others involve themselves actively in business operations. Many angel investors offer advisory roles in your business, and some demand a position on the board, which has its perks and disadvantages [explained in sections above].
Venture capitalists almost always demand significant roles and positions on the board. They want to be actively involved in the business operations and decision-making processes, and it helps your company grow faster and generate returns accordingly. There are downsides to it too.
Finally, there are different situations in crowdfunding, one being non-equity based, where investors [donors] do not expect company equity and any position in the company.
The equity-based crowdfunding [which is booming at present] creates a massive shareholder base leading to a heavy managerial limitation. It all depends upon the type of crowdfunding platform.
Angel Investment vs Venture Capital vs Crowdfunding: Which is the best place to invest in 2022
Angel investment is a good funding option for a business startup that helps you raise capital [large sums of money] without an obligation to pay it back. The important thing is you must convince the angel investors to believe in your ideas and plans. You might have to give away some portion of the company equity, but it is worth it.
Venture capital could be another option, but it is harder to convince venture capitalists than angel investors. They tend to invest in unique ideas and SMBs and even startups only if they see long-term success. It also involves the dilution of equity, plus they want a place on the board to control the business operations.
Although crowdfunding has gained popularity, it involves initial investments in advertising platforms, which do not guarantee fundraising success. It cuts off your total fund by 5%-10%, and the rest amount might not be enough to lift off your startup. You have to lean towards venture capitalists or angel investors in this case.
FAQ:
Do you have to pay back an angel investor?
No, you do not have to pay back an angel investor because you have diluted your company’s equity to provide their share in exchange for money.
How is an angel investor different from venture capitalists?
An angel investor is an accredited investor who spends their [own] money on startups or seed businesses. In contrast, venture capitalists are actually the employees of risk capital companies responsible for investing other people’s money.
What are the examples of venture capitalists?
Most venture capitalists are large and well-established organizations like financial firms, pension funds, university endowments, and insurance companies.
Where do venture capitalists invest?
Venture capitalists generally target SMBs with great potential and high-risk that incorporate proven business models.
What is the difference between crowdfunding and equity crowdfunding?
Equity crowdfunding provides public investors with a small portion of company shares in exchange for the investment. In contrast, crowdfunding doesn’t do that; instead allows the investors to enjoy the products and services for free before publicizing them.
