Angel money or venture capital (VC)? A frequent question many entrepreneurs face when navigating the financial needs of their startup. The reality is these two investor types think quite differently. Understanding their motivations is imperative if you are to make it through the fundraising minefield and bridge the fiscal valley of death.
To help you network and pitch more effectively, here’s six distinctions between these two characters to keep in mind.
1. VCs get paid regardless.
Angels invest their own money and time. VCs are professional investors who get paid regardless of what happens; they take a salary from a portion of their funds raised.
This means that the emotional quotient is typically much higher with angels. They’re more bought in to the entrepreneur, the vision and the team. VCs are running a business and have a fiduciary duty to their limited partners (LPs). Yes, VCs can earn a lot of money over time if they pick successfully, but this is just an incentive.
2. Angels have skin in the game.
It’s rare that a General Partner (GP) personally contributes more than five percent of the total assets in a given venture fund. It’s typically closer to one percent. Angels, in turn, invest 100 percent of their own money. As a result, they’re often more interested in your success and more willing to do some heavy lifting in times of need. The downside is, when things go poorly, they’re more likely to get emotional.
3. Angels invest their own money. VCs invest other people’s money.
For angels, a startup investment is a component of their overall investment portfolio. The portfolio can include stocks, bonds, real estate, commodities, art and anything else they think will drive returns or mitigate risk and volatility.
While some angels will put a high amount of their personal net worth into startups, the majority will only allocate a small percent of their wealth to startups - 10 percent or less. As an entrepreneur, you should understand that an angel’s investment in you is the riskiest investment in their portfolio.
4. VCs believe they can ‘pattern match.’
Many think they can look in a rear view mirror of historical IPOs and acquisitions in order to achieve future success. They believe they can leverage information asymmetry to pick winners. And in some cases, this may be true.
VCs build their fund by telling their LPs, ‘I see more investment opportunities than you, and I have the expertise to pick the best ones.’ Some call this perspective artisanal investing, as if startup investing were similar to producing a fine wine or cheese. The reality is that venture capital goes to less than one percent of startups and frequently underperforms the stock market.
5. Angels have a variety of motivations.
Yes, all angels want to make money. But there are quicker ways to get rich, so there is almost always another component that drives their activity as angel. As an entrepreneur, if you can pinpoint an angel’s motivations, you’ll be better positioned to successfully pitch them and assess whether you want them as an investor in your company. The most common motivations we see are the following.
- They want to pay it forward.
- They love their city and want to help spur its economic future through investments.
- They’re inspired by a particular cause or societal need.
- They want to stay involved with their industry.
- Their friends invest so they think it’s cool to be an angel.
- They’re bored, and they want a challenge.
For further insight into angel motivations, Josh Maher’s book Startup Wealth combines dozens of angel interviews on this subject.
6. VCs have a fiduciary duty to their LPs.
Venture funds are predicated on some form of investment thesis that they sold to their LPs when raising that fund.
Accordingly, they should stick pretty close to this thesis when choosing investments. Theses range widely. Some are built on a geographic focus. Others focus on a particular business model or industry, like SaaS, marketplaces, fintech or healthcare. Others are guided by looser tenets, such as market potential or quality of founding team.
While angels and VCs must often co-exist on a cap table with each other, many differ significantly in the way they think and choose their investments. In part two, I'll dive further into the motivations and mindsets of angels and VCs.