In 2012 David Cameron, the prime minister, issued a call to arms to the UK's business angels - "Your country needs you, really needs you." With an estimated £850m already invested annually in small business in the UK by angels, it's clear many are answering the call, and it is hoped that the tax breaks now available under the Seed Enterprise Investment Scheme (SEIS) will continue to encourage yet more. But how can small businesses determine if angel investment is the best option for them, and how can they make the most of the opportunity?
Assessing the need
Before you approach a business angel, you need to know what your goal is. This is the time for a frank assessment of your business plan and a realistic projection of your funding requirements.
According to Jenny Tooth, CEO of UK Business Angels Association (UKBAA), "angels will usually invest anywhere between £5,000 and £150,000 in a single venture." However, the growing trend towards syndication, driven in no small part by schemes such as the £50m Co-Investment Fund, means that significantly higher sums of investment are being offered by groups of angel investors today.
"One of the main reasons that an entrepreneur might seek angel investment, whether from an individual or a syndicate, is that pre-revenue businesses often aren't eligible for bank debt – because they simply won't be able to pay back loans at that stage," Jenny explains. "If they've got a scalable, high-growth model that is pre-revenue, then early equity can be a good solution."
Once the business has started to grow, "bank finance can complement angel investment – both are allies," adds Jenny. Lloyds TSB works closely with the UKBAA, supporting its efforts to help SMEs to secure equity from private investors. Lloyds TSB is the only bank represented on the board of the UKBAA and actively seeks to help their customers explore alternative forms of finance.
Businesses that fly
While angel investors have a broad range of backgrounds and interests, there are some core areas that angel investors favour. "The digital economy is still strong, especially social networking, and consumer-focused sharing sites," says Jenny. "Healthcare is also attractive, especially around diagnostics and therapeutics, where angels can see relatively short-term development and return on their investment. Clean technology is another area of interest for angel investors, with a number of projects coming out of the UK universities."
But just because your business does not fall into one of those categories, does not mean that angels will not be interested. In fact, geography also has a lot to do with angel appetite.
"London still remains very popular with angels, as do Cambridge and Oxford. There are also some interesting opportunities in the north-west, and the north-east has continued to be an extremely active area of angel investing – where there are a considerable number of strong syndicates. The East Midlands has also started to attract interest, in particular around new manufacturing and technologies," notes Jenny.
Accessing angels
Once you've decided that angel investment is right for you, the next step is to secure a pitch. Angels generally like to invest through meeting entrepreneurs at live pitching events, or showcasing events. Lloyds TSB hosts three angel pitching events a year at the bank's 33 Old Broad Street office, as part of a series held throughout the year by London Business Angels. At each event six companies have the opportunity to pitch to approximately 100 angels.
"However there are also a number of online platforms where investors sign up to find entrepreneurs looking for finance," says Jenny. "In fact, the UKBAA website has a directory facility whereby entrepreneurs can search an online database of UKBAA members."
Whether you are pitching live or communicating by email, it is important that you make a good impression. "Rather than using a lengthy (and sensitive) business plan as your pitch, pull together a PowerPoint deck of around 10-12 slides that explains your business, its management structure, the USPs and your growth aspirations," advises Jenny. "This will really help investors to understand what you are looking for and how they could potentially assist you to grow your business."
A match made in heaven
Not only is it important for the angel(s) to get to know you, it's imperative that entrepreneurs undertake due diligence on potential angels as well. "Such a relationship should not be entered into lightly and it's important that the two parties' expectations are aligned. It's essential to ask questions," says Jenny. Some of these questions may include:
• Does a single angel have the capacity to do follow-on funding? Or to mobilise other angels around them?
• If you are opting for a syndicate, is there a strong lead angel?
• What other investments have the angels made in your sector?
• If they are new to investing (under SEIS), has the angel attended training courses?
"You should also always ask to see an angel's certification of high net worth or sophistication," advises Jenny. "This should give you the peace of mind that you're dealing with someone who not only has the appropriate financial capacity, but also the relevant business understanding." More details of what this involves can be found on the UKBAA website.
Risk and reward
Once you have found a potential angel or syndicate of angels, the next step is working out a deal that suits both parties. Because of the potential risks involved with pre-revenue businesses, an angel might ask for up to one third of the equity of your business, as a first round of investment, and a typical stake ranges between 15% and 30%. Under SEIS, the stake must be less than 30%.
Estimating the market valuation of your business and how much the investor's capital adds to that is the most common way of assessing the size of their equity stake. While there is no exact science for determining the valuation of a startup, "be realistic," advises Jenny.
"It may be difficult to stomach, but giving away a bit of equity to get the necessary funding to take you through those early development phases (much more quickly than if you were trying to do it yourself) can be a real benefit. You also get additional experience and advice that you wouldn't typically be able to access – financial skills, market skills and strategic business skills that are really valuable for a small business."
There are a number of extremely successful companies that have benefitted from angel investment, such as LoveFilm and Moshi Monsters (LoveFilm co-founder William Reeve in fact went on to become an angel investor himself for a time). So it's important to keep an open mind when deciding how much equity to give up – it needs to be sufficient to incentivise the investor to really engage. But of course if a single investor is trying to take too significant a stake in your business, don't be afraid to walk away. Jenny says: "You can't afford to give up too much equity to one investor, because it's likely that there will be further rounds of funding required as the business grows."
Next steps
Once the equity percentage has been agreed, you will need to decide whether the angel receives common or preferred stock. Angels will normally only take ordinary shares since this is a core requirement for investors using the EIS and SEIS tax breaks, while venture capitalists normally push for preferred stock and more complex share arrangements.
For impartial information on structuring your deal, as well as additional downloadable tools, visit the UKBAA website.
Lloyds TSB offers a range of loans and finance solutions as well as guidance and support for small businesses looking to explore the available funding options. For more information, please visit www.lloydstsb.com/business or visit your local Lloyds TSB
branch.
This content has been provided by Lloyds TSB, part of the Lloyds Banking Group.
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