Is Angel or VC Financing Best for Your Company?

Entrepreneurs and directors frequently ask me whether angel or VC financing would be best for their company. Fortunately, the answer is usually easy to determine based on the characteristics of the company and its current shareholders.

The Corporate DNA of angel investors and venture capital investors is quite different. It's rare to find a situation where one choice is not clearly better.

The table below describes the tests to determine whether angels or VCs are a more desirable source of financing for your company:

Notes:

[1] This assumes it has already been determined that the company cannot be bootstrapped or financed entirely by friends and family financings. In situations where either of those options is possible, even with difficulty, they should be carefully considered before raising money from either angels or VCs.

[2] Often the amount of capital required is stated as the amount required to break even. I believe the more specific test is the amount required to prove the business model. Once the business model is fully proven it's usually possible to sell the company. If the business is cash flow positive, the board may decide to operate it longer to increase the exit value.

[3] In the past, the maximum amount that was usually available from angels was $1 to 2 million. This was limited by the number of angels who lived close enough to the company to invest. In the past few years, the Angel Capital Association and the Kauffman Foundation have been encouraging angel groups to syndicate. Angelsoft is another significant, new factor that is facilitating angel collaboration. Angels are starting to co-invest. Two companies I've invested in have raised over $5 million from angels. I know a few others in my area who have also raised over $5 million of angel investment.

According to PWC MoneyTree, in 2008, US VCs made $1.5 billion of seed investments in 440 companies. That is an average seed investment of $3.5 million per company. Very few VCs will make a seed investment unless they believe the company will need more money. Most companies will have more than one VC investor. So the practical minimum investment that companies can obtain from most VCs is usually well over $5 million.

[4] There are exceptions to every rule. These timeframes are statistical averages -- most likely outcomes. These posts have more on exit timelines with angels and venture capital investors:

1. Exits with Venture Capital
2. Exits with VCs and Angels
3. Venture Capital Exit Times

[5] Some small funds act more like angel investors than typical, large VC funds. These are sometimes called angel funds, or may also be referred to as seed stage venture capital funds. The venture capital fund that I managed, the BC Tech Fund, is a good example. That fund often co-invested with angel investors and was designed to encourage early exits.

Arguments That I Don't Buy

There are a lot of other arguments about the relative merits of VC vs angel investors:

• Some believe VCs or angels will add more non-monetary value.
• Others think either VCs or angels will be better directors.
• Another belief is that VCs have better connections to assist with IPO's or exits.
• Others have suggested that either VCs or angels add more overhead.

After being both a venture capitalist and an angel investor for quite awhile now, I believe the answer to all of these points is the same - it all depends on the individuals. I do not think either VCs or angels can be categorically defined as being more knowledgeable, more helpful, more work, better directors or higher value-add.

Other Excellent Articles

Several other bloggers have weighed in on this question recently. Brad Feld just published an excellent article in Entrepreneur Magazine: VC or Angel Money?

Anand Rajaraman posted a great article: Venture Capital, Angels or Bootstrapped on GigaOm.

Greg Linden wrote a very valuable post mortem on his company at Starting Findory: Funding.

There is another great article in the Puget Sound Business Journal: Venture capital versus angel funding? CleverSet's story.

Please Suggest Other Tests or References

Please add your thoughts on this important topic. I'd really appreciate your comments on additional considerations that should be added to the table above or to the list of other articles. Thanks.