A stony-faced bank manager wasn’t quite what Sally Chamley was expecting to find when she tried to obtain some expansion capital. Her online furniture retailer, Black Orchid Interiors, had enjoyed continuous growth over the past six years but it no longer ticked the right boxes for the bank, which ignored her burgeoning reputation in the national press and a cabal of rich clients in affluent West London and the home counties.
While she toyed with the idea of floating on PLUS Markets, going so far as to engage corporate adviser WH Ireland which assisted in drawing up a new business plan, Chamley was put off by what she saw as the lengthy flotation process. Instead, she spoke to the angel investor network Beer & Partners, finding eight high-net-worth individuals to back the business. They injected £300,000 into the company in return for a slug of equity.
‘It was a real eye-opener,’ she says. ‘I was used to dealing with bank managers who are only interested in your balance. But with angels you don’t only have access to the funds but also the expertise. They understand the risks you take as an entrepreneur that allow growth to happen. They’re looking for a good entrepreneur who can embrace those changes.’
Likewise, web-based business applications provider Workbooks – another early-stage company but with much bigger fundraising aspirations – also found angel investing to be pretty much its only option.
‘It’s tough getting venture capital money at the moment, but angels fill some of that gap,’ says co-founder and CEO John Cheney. ‘With banks not lending and VCs only investing in established companies, it’s almost impossible for smaller companies like us to raise money otherwise.’
Traditionally, angels have been associated with smaller, sub-£1 million sums, but the management team of Workbooks secured a hefty £4 million in two rounds of angel funding between 2008 and 2010.
Given that many venture capital firms have abandoned early-stage investment in the past few years, it seems that there is a growing number of private investors who are slowly filling the gap, attracted by lucrative tax breaks and better rates of return than can be obtained from standard saving schemes.
Jenny Tooth, business development director at industry body the UK Business Angels Association (UKBAA), says a poll of members indicates angels are increasingly coming up with the goods.
‘There has definitely been an increase in activity, plus we’re seeing more investors getting involved,’ says Tooth, who adds that the approach of angels is becoming more sophisticated as they increasingly invest in groups and syndicates. ‘It is something we encourage as it helps new investors learn as well as pooling angels’ money. The other key issue is that angel investment is starting to be made alongside VCs and VCTs and bank finance.’
According to Tooth, the amounts raised by companies vary quite widely between regional angel networks throughout the UK. ‘A minimum might be around £50,000, going up to £750,000 at the top through a syndicate of angel investors, with companies in the South East generally going for larger sums. You could raise a much bigger sum, up to £1.2 million or more, but you’d have to obtain venture capital money or link up with one or two other networks in order to do so.’
One network, Envestors, has helped more than 60 companies raise over £22 million of equity investment over the past three years. Bob Taylor, one of the founding partners, says that its network tends to see companies raising between £500,000 and £1 million, ‘but we also tend to do a lot with family investors now, who put in between £1 million and £3 million at a time.’
Going it alone
While such networks clearly have the attraction of gathering so many investors together in one place, Workbooks’ Cheney is one of a number of entrepreneurs who shrink from the fees involved when using business angel networks. Typically, an upfront fee of up to £1,000 is accompanied by a ‘success fee’ amounting to 5 per cent cut of the funds raised. Cheney says he and his partners had previously completed two trade sales, including the exit of their last business, BlackSpider Technologies, for a fivefold return. This gave them greater leverage when negotiating terms.
‘We did look at some of the angel networks,’ says Cheney. ‘If you have no other options then I’d say it probably makes sense. But we weren’t prepared to pay for introductions, and I am slightly nervous about paying an upfront fee for what they’re offering. We had a core of loyal investors after BlackSpider who were happy to spread the gospel. It was mainly word of mouth – angels talking to other angels. We went round meeting people and presenting our plans. We now have over 40 investors.’
Some entrepreneurs may be dissuaded from angel finance by the prospect of having too many interfering stakeholders. This can be particularly irksome if the sums involved aren’t meaningful enough to accelerate the growth of the company. That said, Harrison does not feel under pressure or harassed by her ten investors, claiming that she hasn’t been set a strict timeline for an exit. She feels she is being helped along rather than chivvied: ‘They are not totally hands-on, more supportive and very interested and committed to the business. We have already more than doubled in size.’
Workbooks provided two board seats as part of its funding rounds, but enjoys a similarly relaxed relationship with its backers, who are, says Cheney, ‘mostly pretty passive’.
The trick is to manage expectations from the beginning. Be clear about what you want to do with the business and how long it will take to execute. ‘You need to understand that it’s nothing like getting money from a bank; it’s almost like a marriage,’ says Black Orchid’s Chamley, whose investors’ representative attends a monthly board meeting and speaks to her once a week over the phone. ‘I’ve really found the experience to be worthwhile, but some people don’t embrace bringing external investors on board. People who don’t like working in teams won’t enjoy it.’
The Fundraising Climate
by Rose Lewis, partner at Pembridge Partners
It’s not getting any easier for companies to raise funding. Banks and VCs are still dragging their feet or investing in only the “safest” businesses. That means companies with a good track record and a proven, positive cash flow. Start-ups are sometimes too risky as they have a limited operating history and haven’t reached the point where they can secure a bank loan or complete a debt offering.
We recommend that entrepreneurs look at their personal networks for support. Successful fundraisers at the moment are the ones with big personal networks, not just friends and family, but high net worth individuals. This can be former bosses who have done well, old friends who have enjoyed professional success, potential suppliers and potential customers. Don’t depend on rich old aunts!
And remember to look at angel networks. Angel capital can fill the gap in start-up financing between friends and family and is a common source of second-round financing for start-ups. Angel investors may be interested in investing for reasons that go beyond financial return. They provide valuable management advice and can introduce you to influential contacts.
Finally, look into tax credits for your business and research and development (R&D) relief. This may reduce your company tax bill by more than your actual expenditure on allowable R&D costs. Credit cards can be another option for that very early market validation phase.
Business angels should steer clear of operations
Though business angels can help start-up companies on a strategic level, they are usually less effective when they get involved in operations. In fact, having an angel on your management team might even hold your company back, according to research from Newcastle Business School.
‘If the business angel has quite a lot of experience in the exact area of the business, and they become involved in operations, they can help,’ says Stephanie Macht, who surveyed 71 angels in the course of the research.
‘But if they are involved in manufacturing, for example, and the business they’re investing in is a technology business, the more involved they get, the more problems there can be.’
Almost three-quarters (72 per cent) of the business angels questioned in the study had founded and owned a small business before, lending weight to Macht’s view that angels are at their best when helping to formulate strategy. However, only 32 per cent of respondents stayed within industries in which they had prior work experience.
The research also shed light on business angels’ motivations for investing. Only two-thirds of respondents said that gaining return on investment was ‘very important’ to them. Other motivations include the enjoyment angels get out of the experience, with over half of respondents stating this was a factor.