Part 2 of a 3 Part Series

What exactly is an “angel investor”?

Entrepreneurs who launch smaller-scale enterprises know that commercial banks generally don't lend funds to ventures with little or no assets, customer base or sales track record. And venture capitalists typically work with business concepts that are already up and running with the potential for multimillion dollar revenues. Many of the owners of smaller firms have heard that “angel investors” can provide funding and even some much-needed expertise and referrals for these in-between business deals. So who are these people and what kinds of investment terms can owners expect?

Angel investors got their name 100 years ago in New York City when struggling playwrights - with limited financial means - had theatrical productions funded by a wealthy and visionary individual (usually at the very last minute). It was likened to an angel floating down from heaven with money so the show could go on. But these investors also had keen eyes for plays with great market potential for tremendous profitability. The bottom line is that these angels funded productions to get in on the ground floor of an extraordinary opportunity for financial gain. Plain and simple, they were in the deal to make money, and in today's business financing arena, that hasn't changed.

Many of the angel investors have made their relative fortunes in other businesses where they had an active role in managing and directing. They typically understand business risks, competition from others in the proposed venture's industry, and the kind of financial structure and performance results necessary to ensure operating success. They expect to see their stake significantly appreciate in value to the next stage when a bank, venture capital fund or acquiring company puts together a larger financial deal to support the continued growth of the firm.

Overall, the deal hinges on the quality of the relationship between the angel and the entrepreneur. But remember, angels want to make a huge profit on their funds given the high risk of an early-stage venture. They'll require strict budgets and sales goals. But for the entrepreneur willing to give up some equity and perhaps share some decision-making, angel terms can provide an excellent funding source for new venture development.

See my next blog for an explanation of a “hedge fund.”

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